In the last month or so, safety and reliability questions have quickly mushroomed into a huge image problem for top U.S. automaker General Motors (NYSE:GM).
Regulators, elected officials, and the general public are questioning why GM used ignition switches that engineers knew were faulty and why the affected vehicles were not recalled until now. Meanwhile, GM has made several public moves to show that it is focused on safety, including initiating several new recalls.
These safety and reliability concerns could not have come at a worse time for GM. The General is in the midst of a major product launch cycle. If auto buyers are spooked by GM's ongoing recalls, all of the company's investment in new products will not lead to the sales boost it desires.
Trying to make things right
New GM CEO Mary Barra has vowed to get to the bottom of GM's failure to recall millions of vehicles with potentially defective ignition switches. She has also promised to compensate victims and their families for injuries and deaths related to the faulty switches.
Meanwhile, as if to make up for lost time, GM has gone on a recall spree in recent weeks. The company has now recalled 6.3 million vehicles since late February to fix a variety of different issues. GM expects to take an earnings charge of up to $750 million for Q1 to cover the costs of these recalls.
But the problem for GM is not merely that it used faulty ignition switches years ago or that it will have to spend hundreds of millions of dollars to fix the problem. The decision to use faulty ignition switches could have easily been blamed on the "old GM" and its much-maligned corporate culture. The repair costs are also very manageable for GM, which earns billions of dollars each year.
Instead, the problem is that the new, post-bankruptcy GM -- which had supposedly cleaned up its act -- failed to do anything about the faulty switches for five years. The sudden raft of recalls for other unrelated issues also suggests that this was not a single isolated incident. Until just a few weeks ago, GM may have been dragging its feet on a variety of potential recall issues.
GM is at a turning point
It's definitely a good thing that General Motors is taking responsibility for its actions now. Nevertheless, customers could legitimately worry whether GM has finally cleaned up its act or if there will be more disturbing revelations in the coming months.
This is important because GM is in the midst of a major product-launch cycle, and plans to release 15 new or refreshed models in the U.S. this year. The new models target several high-profit market segments: heavy-duty trucks, full-size SUVs, and luxury cars.
GM needs these new models to succeed in order to raise its North American operating margin to 10%, which is one of the company's key mid-decade goals. Concerns about GM's safety and reliability procedures creates a risk that customers will lump GM's new models together with the "old GM" vehicles it is replacing. This would obviously weigh on demand.
Not much room for error
GM has already experienced choppy sales trends in the first quarter. Total vehicle deliveries were down 2.3% compared to Q1 2013, and GM ended the quarter with 815,492 vehicles in inventory, representing 83 days of supply. (Automakers generally try to keep around 60 days of supply in inventory.)
For comparison purposes, in 2013, GM ended March with 743,786 vehicles in inventory. That was despite carrying extra inventory of its 2013 pickups to compensate for plant closures needed to retool the pickup factories for the redesigned 2014 models.
So far, slowing demand growth and rising inventories have not had a noticeable impact on GM. In fact, the company just announced very strong growth in average transaction prices for March. But GM's high inventory is a significant risk that investors should recognize because it could compound the damage from any slowdown in demand.
Wait and see
All of these reliability concerns have contributed to a significant pullback in General Motors shares. This could represent a good buying opportunity if GM gets its house in order.
That said, I would be more inclined to wait for a few months to see if the ongoing spate of recalls has any impact on demand for GM vehicles. This could mean missing out on a rebound in GM stock. But that seems preferable to the risk of buying prematurely and then learning that demand for GM vehicles is drying up due to reliability concerns.