The US government’s rescue package for General Motors Corp. (GM) comes with some ugly conditions attached for debtholders, union members and the company. Chief among these is a requirement that the car maker demonstrates a plan for achieving a positive net present value. Even with deep cost cuts, debt restructuring and union concessions, a back-of-the-envelope calculation suggests this is out of reach.
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Any calculation about GM’s worth must start with its debt-laden balance sheet. In return for handing over up to $13.4 billion (Rs65,124 crore) in emergency loans, the US Treasury is calling for GM to wipe out two-thirds of its unsecured debt by swapping it for equity. Assuming lenders agree—a big task in itself—that would leave GM with $12 billion of unsecured and $6 billion in secured debt. Include the government loans and the total jumps to $31.4 billion.
Add to that GM’s legacy obligations. First, health care costs. The Motown manufacturer has done a good job reducing these in the last couple of years. But it still has to pay $10 billion in cash into the independent fund for United Auto Workers (UAW) members’ benefits. And the net unfunded health care liabilities for non-UAW workers currently stands at $8 billion, though that’s expected to drop as a result of cutbacks announced last summer.
Then there are GM’s pension benefits. For simplicity’s sake, let’s just concentrate on the US plan. That was fully funded at the end of 2007, but it would be astounding if last year’s market turmoil in virtually every asset class did not send it into the red. University of Chicago professor Joshua Rauh estimates GM’s plan may now be underfunded by $23 billion.
That may be too pessimistic, but let’s assume the figure is around $10 billion. Because of some tax credits that the company has stored up for previous losses, GM doesn’t have to cover a shortfall imminently. But add it to the rest and the sum of GM’s liabilities hits almost $60 billion.
What does GM has as assets? It will have some $15 billion in cash following the government injection, though its history suggests it could burn through this in no time. Its stake in lender GMAC Llc. might be worth, at best, its book value of $5 billion. Stakes in Asian rivals look to be worth another $5 billion. So, GM’s car unit must be worth $35 billion to meet the government’s stipulation that it have a positive net present value.
Can it get there? Analysts estimate GM should have car sales of around $135 billion in 2009. While down from the $150 billion or so the company should have tallied last year, it may also be optimistic when the US economy is contracting and consumers are still heavily indebted.
Well-run car companies such as Renault SA tend to have low margins—indeed 3% is a decent showing in the business. It’s possible that GM could achieve something like this, but it won’t be easy given all the disruption that may result from concessions with workers, suppliers and dealers as it rushes to meet other requirements attached to the government’s loans.
Still, if one takes this relatively charitable view of GM’s sales and earnings power, it implies about $4 billion in operating earnings. Once taxed and put on a multiple of 10—which is basically an assumption that the income stream neither grows nor shrinks over the cycle—GM’s car business would be worth about $28 billion. That’s not quite enough to meet the requirement that GM achieves a positive net present value, despite hard concessions by all the stakeholders and a dollop of government largesse. Of course, there’s always the chance that pension and health care costs will be less onerous. Maybe its pension fund managers did do better than the market—and 90% of the investment management industry.