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BMW became one of the first auto manufacturers to note a tangible negative impact of the US-China trade war, and its reduced expectations have impacted investor confidence in the near-term profit levels of other automakers, including simulated newsletter portfolio idea General Motors.
By Kris Rosemann
Simulated newsletter portfolio idea General Motors (GM) continues to fight through near-term challenges, but we remain fans of its longer-term outlook thanks to its initiative to expand its North America EBIT-adjusted margin to 10% as well as the positioning of its GM Cruise division, which received a nice injection of capital earlier this year via a partnership with SoftBank’s (SFTBY) Vision Fund. The company’s shares are trading at a miniscule multiple of 2018 adjusted earnings guidance, and its ~4.5% yield is quite compelling.
GM’s shares faced selling pressure during the September 25 trading session after BMW (BMWYY) lowered its 2018 guidance due to multiple factors, including ongoing international trade conflicts, which are “feeding uncertainty,” have impacted demand more than anticipated, and are causing pricing pressure in multiple markets. BMW now expects its ‘Automotive’ segment 2018 revenue to be slightly lower than in 2017, compared to previous guidance for a slight increase, and the segment’s EBIT margin guidance has been lowered to at least 7% from previous guidance of 8%-10%.
In addition to the aforementioned trade-related uncertainties and other provisions within its ‘Automotive’ segment, BMW cited the implementation of the Worldwide Harmonized Light Vehicle Test Procedure (WLTP) regulations, which require all new cars registered in Europe, India, South Korea, and Japan to report official fuel economy and CO2 emissions according to new testing standards, as influencing its guidance for the year. The new testing standard has caused supply distortions in multiple European markets and heightened competition, which led BMW to reduce its volume expectations with a focus on earnings quality. While the long-term implications of the WLTP regulations remain uncertain, recorded CO2 levels will more than likely be higher under WLTP than in the past as it includes higher speed and more intense driving tests. GM offloaded its struggling European operations in 2017 as part of its strategy to focus on the higher margin North American market.
GM lowered its 2018 North America EBIT-adjusted margin, adjusted earnings per share, and automotive free cash flow guidance in its second quarter report due to higher input costs from aluminum and steel tariffs enacted by the Trump administration, “General Motors Cuts Guidance on Higher Input Costs.” That shares of the company would be sensitive to negative sentiment from a fellow automaker on the topic of US-China trade relations is not surprising as the company–it has two wholly owned foreign entities that operate within China–and its ten joint ventures sold more than four million vehicles in China for the first time in 2017. Though we have yet to hear from management on the topic, two consecutive months of falling automobile sales in China in July and August have helped build concerns over the impact of a trade war on consumers and the heightened anxiety such a situation brings to the nation’s economy.
Though GM continues to battle through near-term headwinds, we continue to like the longer-term picture for the company, thanks in large part to its GM Cruise division, which appears poised to take advantage of an electric vehicle market that is expected to grow to 17 million vehicles sold in 2022. According to Oppenheimer, electric vehicle sales accounted for just under 2.5% of all light vehicle sales in the US in the month of August, up from just over 1.1% a year earlier, and GM trailed only Tesla (TSLA) in terms of electric vehicle market share in the country.
We view shares of General Motors, which are currently changing hands at roughly 5.6 times management’s 2018 adjusted earnings guidance, as attractively priced based on our current fair value estimate of $56 per share, and we continue to like its dividend as its adjusted Dividend Cushion ratio, which is now less punitive on GM’s financial arm, sits at 3.1. Its unadjusted Dividend Cushion ratio is still quite reasonable at 1.15, and a dividend yield of ~4.5% is noteworthy. Trade policy uncertainty may very well continue to provide an overhang to shares in the near-term, but just as the market reacted in a tremendously positive way upon the SoftBank-GM Cruise partnership announcement, shares should benefit as the division scales and progresses towards commercialization. We plan to continue highlighting shares in the simulated newsletter portfolios for the time being.
Auto Manufacturers: F, GM, HMC, HOG, TM, TSLA
Auto Parts: ALSN, ALV, AXL, BWA, CVR, CTB, DAN, DLPH, GNTX, GT, JCI, LEA, LKQ, MGA, SUP, TEN, WAB
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Kris Rosemann does not own shares in any of the securities mentioned above. Some of the companies written about in this article may be included in Valuentum’s simulated newsletter portfolios. Contact Valuentum for more information about its editorial policies.