GM Steals a Bold Move From Ford
Jun 1st 2012 3:42PM
Updated Jun 1st 2012 3:44PM
Regardless of your feelings about the 2009 "bailout" of General Motors (NYS: GM) , there's little argument that it has been a qualified success so far. GM's sales have been rising, the quality of its newest models are on par with the world's best, and the company has posted strong profits for the last several quarters -- including a record profit in 2011.
But GM still has a lot of work to do to overcome some of the challenges of its legacy that it wasn't able to leave behind in the high-speed restructuring overseen by the Obama Administration in 2009. Chief among those challenges -- and a big weight on the stock price: GM's massive pension liability.
On Friday, GM announced a significant step toward addressing that liability -- a step that takes a page from GM's oldest rival.
The wooly mammoth in GM's living room
While GM has a massive cash reserve of over $30 billion, its global pension plans were underfunded by a whopping $25.4 billion as of the end of 2011. That's an amount that would eat up much of the company's cash, were it required to cover it all at once.
It's also seen as a significant obstacle to the restoration of GM's investment-grade credit rating, as well as a major drag on GM's stock price. With GM's leadership eager to raise the company's stock price -- not least, to entice the U.S. government to sell its remaining stake in the automaker -- and to lower the company's borrowing costs, addressing the pension shortfall has become a priority for GM CFO Dan Ammann.
Ford (NYS: F) , which has a sizeable pension shortfall of its own, announced in April that it would offer pension buyouts to 90,000 of its current and former salaried employees. That was widely seen as a bold stroke that could significantly reduce the Blue Oval's exposure, should enough of its employees accept the offer.
On Friday, GM -- which has never been reluctant to run with a good idea from its Dearborn rival -- announced that it was taking a similar action.
A big effort to reduce a big liability
Ammann said on Friday that GM expects to cut its pension obligation by as much as $26 billion with a two-pronged effort: First, it would follow Ford's lead in offering pension buyouts to many of its current and former salaried employees. Those who take the buyout will receive a single, lump-sum payout in lieu of the lifetime payments.
Second, GM is working with Prudential Financial to create a massive group annuity that will provide monthly benefit payments to those remaining in the plan. Essentially, GM is shifting its salaried pension plan to Prudential -- a move that takes the plan off of GM's books and should eliminate its future liability once the group annuity is up and running.
That move comes at a price, of course, but it's a reasonable one: While the annuity will be largely funded by the assets of the existing pension plan, Ammann said that GM expects to kick in between $3.5 and $4.5 billion to help fund the purchase of the annuity contract.
The upshot: A huge step forward
This doesn't completely solve GM's pension problems -- its hourly workers' plans are unaffected by these moves, as are plans outside of the U.S. -- but it will take a big chunk of risk off of the company's balance sheet, and that makes it a big step forward in GM's ongoing turnaround effort.
Not least, the move should be very good for GM's stock price over the next few weeks -- indeed, the stock abruptly reversed a sharp loss in trading Friday afternoon shortly after the announcement was released. It should also greatly improve GM's chances of an investment-grade credit rating in coming months: Ford's return to investment-grade status came just a few weeks after it announced its own pension-derisking effort, a fact that surely didn't escape Ammann's notice.
Long story short, this is a smart move by GM's management, one that should greatly reduce the company's financial exposure -- and one that should go a long way toward rewarding GM's patient shareholders. While that could lead to significant upside for the stock in coming months, we've run across another stock pick that has so much promise that we've dubbed it "The Motley Fool's Top Stock for 2012." This company is revolutionizing commerce in Latin America and could be a golden opportunity for savvy investors. You can get instant access to the name of this company and the full story -- download it now.
At the time this article was published Fool contributor John Rosevear owns shares of Ford and General Motors. Follow him on Twitter at @jrosevear. The Motley Fool owns shares of Ford. Motley Fool newsletter services have recommended buying shares of Ford and General Motors, as well as creating a synthetic long position in Ford. Try any of our Foolish newsletter services free for 30 days. We Fools don't 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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