Please ensure Javascript is enabled for purposes of website accessibility

Now There Are 5 Billion More Reasons to Own GM Stock

By Adam Levine-Weinberg – Mar 11, 2015 at 9:03AM

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More

General Motors will repurchase at least $5 billion in stock by the end of next year.

On Monday, top U.S. automaker General Motors (GM -3.52%) rolled out a major update to its capital allocation strategy.

The highlight of the announcement was that GM will immediately begin repurchasing $5 billion in stock, with the full buyback scheduled for completion by the end of next year. This is part of a broader goal of returning all free cash flow to shareholders going forward.

GM announced a $5 billion share repurchase plan on Monday.

To some extent, GM was forced into announcing the buyback by pressure from activist investors led by Harry Wilson, one of the masterminds of the 2008-2009 auto industry bailout. However, that doesn't mean it's a bad idea. The stock is extremely cheap -- it trades for a little more than eight times GM's projected 2015 earnings per share -- and the buyback will accelerate EPS growth.

Spoiling for a fight
Last month, Wilson announced that he planned to nominate himself for a board seat at GM, supported by a coalition of four hedge funds. The cornerstone of his "platform" was a call for GM to complete an $8 billion buyback by mid-2016. He also wanted improved transparency about the company's medium-term plans.

Wilson's proposed stock repurchase would have been dangerous for GM. The combination of a big, rapid buyback, a potentially massive fine related to GM's botched ignition-switch recall from last year, and increasing capital spending would have jeopardized the company's credit ratings. This, in turn, could have sabotaged its plans to grow the GM Financial auto financing business.

However, Wilson and his backers have called off their fight in light of GM's new capital allocation plan. While GM's buyback will be somewhat smaller and somewhat slower than they had sought, the activists were ultimately willing to compromise.

A reasonable deal
Some GM investors and analysts worry that even a $5 billion buyback is too much. They point to the company's bankruptcy and government bailout just a few years ago, arguing GM needs to maintain a massive cash hoard to protect against another crisis.

However, GM has concluded that a $20 billion cash target provides plenty of protection against unforeseen events, due to the company's efforts to reduce its breakeven point. Based on that cash balance target, GM expects to have at least $5 billion available for buybacks, factoring in planned capex, dividends, and other potential one-time costs.

In fact, GM's management indicated on a conference call Monday that additional cash could be available for share buybacks in 2015 and 2016 beyond the $5 billion committed so far. If GM's cash balance is tracking above $20 billion despite the buybacks, the company will presumably increase the stock repurchase authorization.

GM is seeing strong demand for some of its most profitable vehicles.

GM is performing well
Buying back shares is a good move for GM because the stock's low multiple does not reflect the strength of the business. Through the first two months of 2015, GM's U.S. deliveries rose 10% year over year, and the sales mix moved sharply toward more-profitable vehicles.

The company is on track for another strong year in China and is likely to reduce its losses in other international markets by more than $1 billion from 2014. The net result will be a big increase in companywide profitability this year.

This improving earnings trend will ensure GM generates enough free cash flow to support a $5 billion stock repurchase over the next two years. The buyback will help the automaker turn its net income growth into even faster earnings growth. That's a good outcome for both shareholders and other GM stakeholders.

Adam Levine-Weinberg owns shares of General Motors. 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.

Invest Smarter with The Motley Fool

Join Over 1 Million Premium Members Receiving…

  • New Stock Picks Each Month
  • Detailed Analysis of Companies
  • Model Portfolios
  • Live Streaming During Market Hours
  • And Much More
Get Started Now

Stocks Mentioned

General Motors Company Stock Quote
General Motors Company
GM
$32.09 (-3.52%) $-1.17

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

Related Articles

Motley Fool Returns

Motley Fool Stock Advisor

Market-beating stocks from our award-winning analyst team.

Stock Advisor Returns
326%
 
S&P 500 Returns
102%

Calculated by average return of all stock recommendations since inception of the Stock Advisor service in February of 2002. Returns as of 10/03/2022.

Discounted offers are only available to new members. Stock Advisor list price is $199 per year.

Premium Investing Services

Invest better with The Motley Fool. Get stock recommendations, portfolio guidance, and more from The Motley Fool's premium services.