Which Auto Stock Is the Cream of the Investment Crop?

Automobile recalls are tracking at a record-breaking pace, but with consumers still needing new cars, recent losses might create a good opportunity.

Jun 11, 2014 at 9:31AM

The recall volume from top automotive manufacturers so far in 2014 has been epic, in a deeply negative way, and has adversely affected sales growth for several of the industry's top companies. General Motors (NYSE:GM), Ford (NYSE:F), and Toyota (NYSE:TM) have all struggled thanks to their respective roles in the recall numbers. But, with pent-up demand for vehicles still present, are recall leaders now attractive, and if so, which is best?

The quintessential face of recall
General Motors has had enough controversy in 2014 to last a decade, with 2.6 million recalls for vehicles with defective ignition switches that have been connected to about 2,000 injuries and at least 13 deaths. The automaker's total recall count for the year is much larger, and many investors have feared long-term consumer backlash toward General Motors.

Investors have been largely correct in this worry, as the company's U.S. sales fell 2.3% in the first four months of 2014 versus a rise of 1.5% in the overall market. While General Motors may have the most recalls of 2014, but it's in no way alone. So far this year, more than 20 million vehicles in total have been recalled in the U.S., with hefty contributions from Ford and Toyota.

A surprising May to start the summer
With that said, despite the public relations nightmare, auto sales were projected to have a strong May and perhaps a solid summer season. Kelley Blue Book estimated a 6.7% rise in new vehicle sales to 1.54 million units, which would have given the industry its best May since 2007, catapulting the seasonally adjusted annual rate, or SAAR, to slightly more than 16 million units.

While these estimates appeared bullish, they were far off the actual numbers. Notably, new car sales rose to 1.6 million units in May, and the SAAR is now tracking well above 16 million. That 7%-plus rise in sales year over year is a reflection of both the first summer holiday weekend and pent-up demand from consumers.

Where's the sales strength and investment value?
General Motors, which had lagged all year, saw May sales rise 12.6% year over year, which nearly doubled analyst estimates. This growth was significantly better than Ford's 3%, but not nearly to the level of Toyota's 17% sales increase.

Still, with General Motors' stock lower by 14% this year and seeing a recovery of sorts, might it be time to buy the stock?

Clearly there are many concerns with General Motors, but given the complexity of the recalls and its public image, there's a good chance that the automaker learned from its mistake. Sales in May certainly indicated that consumers are starting to roll back into GM. Therefore, the question of investment becomes about valuation.

Company

General Motors

Ford

Toyota

Forward P/E Ratio

7.4

8.6

9.2

Price/Sales

0.35

0.44

0.72

2014 Expected Revenue Growth

2.6%

0.6%

(3.5%)

2015 Expected Revenue Growth

3.9%

6.2%

0.6%

All data derived from Yahoo! Finance.

As you can see in the table, General Motors is cheaper than Ford and Toyota in all categories. Not to mention, its revenue growth is expected to be more consistent going forward. In terms of revenue, there are a lot of factors at play for auto manufacturers, such as incentives and pricing, which is why units sold aren't always a reflection of revenue growth. Thankfully, incentives across the industry were less excessive in May, which further adds to the notion that demand has risen.

Final thoughts
In looking at General Motors from a valuation and operating perspective, it definitely appears to present a good investment opportunity, perhaps the best within the space. In the past, shares likely suffered from the government's large, post-bankruptcy stake in the company, along with its continuous selling of shares, not to mention GM's inability to pay a dividend. However, those days are long gone, and investors should start to expect a much more shareholder-friendly General Motors.

The recalls are no fun for both the company and the consumer, but in a macro sense, we have seen improved vehicle pricing and a boost in Europe's sales, rather than extravagant losses. Therefore, given recent stock declines, now might be the best time to initiate a long-term position in the auto space, and GM's valuation could make the automaker the cream of the crop.

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Brian Nichols owns shares of Ford. The Motley Fool recommends Ford and General Motors. The Motley Fool owns shares of Ford. 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.

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