After posting the note on autonomous vehicles earlier this week, several interesting trains of thought left their stations during Office Hours.
Robert H., with a background in the auto industry, wants to take a look at General Motors. Robert R., who is a skillful REIT investor, is drawn to cell tower REITs like American Tower (AMT). Carey C., who among other things has a background in electronic equipment, thought that the leader in 5G wireless transmission, Ericsson, was a better play.
I had our data analysts pull numbers for GM first, and found something interesting and disturbing.
Each year, GM is buying receivables from GMAC (the financing arm). I believe this is simply the accounting treatment used by the company to show that it is loaning money to people to buy new cars. Each year, some money that was loaned out in prior years gets repaid, so that is an offsetting cash inflow.
Because the loan directly ties to revenues (the loans from GMAC result in the purchase of cars which boost the top line), I consider the net amount loaned as an investment. In a real sense, GM’s customers are joint venture partners of the company – the company loans its venture partners money so they can buy cars. As such, I’ve included the net cash flow from that loan activity in the Investments area of the model.
In addition, the company buys back GM lease cars after the lease terms expire. The company then turns around and sells the off-lease cars to other customers. Again, I treat the net amount of cash flow generated by this process as an investment – the company is buying used cars and reselling them, which sounds like an investment to me.
If we treat these items as investments, the company, in 2016, spent roughly $19 billion on investments on an OCP of around $6 billion. It looks like the difference of a whopping $13 billion (roughly 10% of revenues) is made up by borrowing money.
Robert H. is taking a look at the numbers and may be able to give the group an insider’s perspective to these transactions. I may be missing something, but to me, it looks like auto companies simply borrow money to stay in operation. There are some dynamics related to the economic cycle which overlays some complexity on this picture, but, on the whole, it looks to me like a capital structure shell game — borrow money to remain in operation and pay stockholders a dividend. As long as your operations generate enough cash to pay interest and the interest rate is low because it’s collateralized by inventory and equipment, things work out. Demand shocks and high interest rates, however, look very dangerous to a model like this.
More work is required to come up with a good valuation for GM. Won’t you put your two cents’ worth in too?!
