Small Moves Like These Could Eventually Convince Wall Street That Major Automakers Have Changed for the Better

By Daniel Miller Markets Fool.com


Image source: General Motors.

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Let's revisit the last handful of quarterly performances for Detroit's largest automaker, General Motors (NYSE: GM). In terms of consolidated EBIT-adjusted profits, GM generated a record fourth quarter in 2015, followed by a first-quarter record to kick off 2016, and then set an all-time quarterly record during the second quarter. In its most recent quarter GM announced that EBIT-adjusted profits checked in at $3.5 billion -- you guessed it: a third-quarter record.

Despite these recent impressive quarters, the market refuses to buy into major automakers, as sales appear to be plateauing, incentives are rising, and GM's inventories are ballooning. However, GM's and Ford Motor Company's (NYSE: F) recent moves to idle plants should help keep the automakers on track.

What's the plan?

GM will be shutting down production at its Lordstown, Ohio, and Bowling Green, Kentucky, factories for one week in January. GM's Lansing Grand River plant in Michigan will be down for two weeks, and the Detroit-Hamtramck, Michigan, and Fairfax, Kansas, plants will stop producing for three weeks.

This comes a month after the company announced the layoff of 2,000 workers as it suspended third shifts at two plants. GM has also announced plans to cut one of two production shifts at a car plant in Detroit, which will eliminate about 1,300 additional jobs in March. GM isn't alone, as crosstown rival Ford just announced it would idle its Kansas City Assembly Plant for the first week of 2017 to help reduce its 108 days' supply of Transits, up from 83 days' supply at this time last year.

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While nobody likes to talk about layoffs and closing plants, it's a necessary move as GM's 86 days' supply of new vehicles was higher than the 70 days' worth it had on Dec. 1, 2015, and well above the industry's preferred 60 days' supply. In fact, according toAutomotive News, GM's inventory increased 28% between Aug. 1and Dec. 1, to its highest level in almost nine years.

The ballooning inventory was arguably most glaring with GM's best-selling brand in the U.S., Chevrolet. More specifically, it was Chevrolet cars that accounted for a lot of excess supply, with the brand's passenger cars totaling 103 days' supply. The Camaro, Corvette, and Spark all had supply of at least 170 days.

Those elevated inventories haven't helped keep a lid on rising incentives. GM's incentive spending as a percentage of average transaction prices was 13.7% last month -- above the industry's average of 12.4% -- and forming an expanding gap between the full-year numbers that have GM's incentive only slightly above the industry's 11.4%, at 11.7%.

The grand scheme

In my opinion, investors owe GM and Ford the benefit of the doubt that their inventories will trend back toward 70 days' supply in the coming months and that management will continue to cut production when necessary to match supply and demand.

That's because these companies have consistently made better business decisions compared to a decade ago. GM's return on invested capital is soaring, and its North America EBIT-adjusted margin has moved from 7.8% in 2013 to 10.7% in the automaker's third quarter of 2016. During the same time frame, its average transaction prices increased roughly 13%, and its fleet sales -- which are less desirable than retail sales -- barely generate 19% of total sales, compared to more than 24% during 2013. Ford has roughly halved its pension obligation since 2012 and leaned out its operations in Europe to finally turn a profit.

Just about every statistical metric shows GM and Ford to be healthier, more efficient, and better-run companies than they've been in years, so don't let ballooning inventories concern you just yet. The moves to idle plants may seem like a nonfactor, but it's decisions like these that will eventually prove to Wall Street that Detroit automakers have come an astonishingly long way in the last decade.

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Daniel Miller owns shares of Ford and General Motors. The Motley Fool owns shares of and recommends Ford. The Motley Fool recommends General Motors. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.