General Motors

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INTRODUCTION

General Motors, the world's largest automaker, has been a global sales leader for 75 years and currently employs 327,000 people while manufacturing autos and trucks in 33 countries.

Nevertheless, GM (as well as its American competitors Ford Motor and Daimler- Chrysler) are now under great stress and have suffered from high costs, tougher competition from foreign competitors and a decline in the popularity of their most profitable pick-up trucks and sport utility vehicles. GM faces continuing pressure to halt its steady slide in market share. Its cost structure, burdened by a strong union which over the years negotiated high wages, healthcare and pension benefits, has taken its toll on the company as foreign competitors have increased production at non-union factories in the U.S. and Canada (Carol Loomis, 2006).

In 2006, GM took steps to improve its financial position. It negotiated healthcare concessions from the United Auto Workers (UAW), convinced thirty-five thousand hourly workers to accept buyout offers and agreed to sell 51 percent of the company's financial arm (GMAC) to raise needed cash (Paul Ingrassian, 2006).

Nevertheless, GM is still under stress. It is burning cash, its core North American operation is not sufficiently profitable and several broad trends in the auto industry are working against its ability to recover market share (Rafferty and Stoll, 2007). Rising gasoline prices in the summer of 2007 are slowing the sales of trucks and sports utility vehicles that generate most of GM's profit. The consumer market appears to be shifting to the type of vehicles that Toyota and other Asian automakers are very competitive ― and where GM's profit margins are thin (Rafferty and Stoll, 2007). The possibility of a transformational deal with the UAW to reduce pension and health care costs, however, has made GM more attractive as a short term trading possibility in the summer of 2007. Because of the persistence of many of the problems described above, there is considerable uncertainty about GM's long-term competitive position.

GM is a firm that is clearly at the crossroads. Given the company's illustrative history as a global giant and its almost intractable problems, it provides an excellent example upon which to base a security analysis.

The purpose of this paper is to provide a teaching note as a framework of analysis for instructors to use in an investment class. First, the paper provides an abbreviated top down approach in which the auto industry is assessed in terms of its sensitivity to the economic business cycle. Secondly, a current overview of the auto industry along with an examination of its competitive structure is provided using Porter's five-forces analysis. All of these are critical components of a security analysis that are typically ignored in valuation projects designed for students.1 Third, a variation of the Discounted Dividend Model (DDM) is used to determine the intrinsic value of GMs stock. Finally, DDM is used to determine its value relative to other stocks in the auto industry. ]

INDUSTRY OVERVIEW

The rise of foreign competition and its impact on the American oligopoly of Ford, GM and Chrysler (the big three) has been the most significant historical change to have taken place in the auto industry. The import share of the American market increased to 21 percent over the period 1976 to 1983 (Adams and Brock, p. 101). Initially, foreign firms concentrated on the small car segment of the market. When the big three were able to enlist the government's help in establishing import restrictions on this segment of the market, the Japanese firms moved into the midsize segment of the market. Eventually, both Japanese and European producers moved into the higher priced luxury market. In order to circumvent government trade restrictions, foreign producers began building production...
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