Earnings Review: SUV Sales Drive GM’s Profits

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General Motors (NYSE:GM) announced its results for the second quarter of fiscal year 2015 on July 23. The company reported earnings of $0.67 per share, a big improvement over last year’s $0.11. [1], and revenue and EBITDA of $38.2 billion and $36.9 billion, respectively. Rising sales of full-size pickups and SUVs drove margins in North America and China, overshadowing losses in Europe and South America. Below, we take a look at the company’s performance in each geography in more detail.

We have a $38 price estimate for General Motors, which is about 20% more than the current market price.

SUV Sales Drive North America Profits

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GM has been working on improving the profitability of its North America operations. In the second quarter, those efforts showed results as the company made $2.8 billion in North America before taxes primarily due to the following two factors: 1) GM’s expenditures on the Ignition Compensation Fund, an account the company had to setup following the ignition switch recall crisis, have begun to decline. The company has now expensed over $600 million to cover the cost of the Ignition Compensation Fund. [2] 2) Lower interest rates and an improving economy has made it easier for consumer to finance the purchase of vehicles using loans. Customers empowered by cheap credit are purchasing upscale pickups, SUVs, crossovers and luxury vehicles, resulting in higher transaction prices across the industry. The average selling price for GM’s vehicles in the second quarter was $400 higher than in last year’s second quarter. [3]

However, there were two sore points: one, the company’s market share in North America has declined by 10 basis points due to reduced sales as several models are nearing the end of their run. [4] The company has announced the launch of the 2016 Chevrolet Cruze, Camaro and Camaro convertible, which should drive sales later in the year. Second, the company took a hit of around $300 million from returned rental cars that sold for lower than expected prices at used car auctions. [3]

SUV Sales Drive China Results, Europe Still Weak

GM is trying to restructure its operations in Europe and hoping to return to profitability next year. In the quarter, the company’s losses in the region narrowed to $45 million compared to $305 million in the same quarter last year. [3] Overall, GM’s market share in Europe has declined by 80 basis points since the beginning of the year due to wind down of operations in Russia as well as the withdrawal of the Chevrolet brand from several markets.

GM’s China unit earned $1 billion for the quarter, increasing its pre-tax profit margin to 10.2% from 10% last year. [3] In the previous quarter, GM had reported a decline in  equity income  due to an increase in costs related to product change over and product launches as the auto maker was due to launch the Buick Excelle, the Buick Envision and the Chevrolet Sail 3 in the region. There were worries whether that would happen in the second quarter especially due to the stock market crash, but sales of the Buick Envision and Baojun 560 helped the company overcome the negative impact of the stock market. These vehicles sell for higher prices than comparably sized passenger cars and hence allow GM to post a higher margin. [3]

Having increased its market share in the region over the last few years, the company’s focus has now shifted towards higher profits. To this end, the company is trying to grow the sales of crossovers, SUVs, and Cadillacs in the region. Last year, global Cadillac sales increased 5% on a 47% increase in China, bringing the cumulative sales growth of the brand to 35% since 2012. Chevrolet also achieved a record sales figure as volumes of the new Trax crossover gathered steam. Crossover and SUV demand in China is expected to grow at about a 10% annual rate and reach about 7 million units by 2020. [5]

GM is now looking at the luxury car segment in China since it already has a significant presence in the mainstream car segment. Last year, GM got the government’s approval to build a $1.3 billion plant with a capacity to produce 150,000 units of Cadillac cars locally. With more competitive pricing, GM is targeting a 10% share in the Chinese luxury market by the end of the decade. As the proportion of higher-priced vehicles increases, average income earned per vehicle could rise even further.

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Notes:
  1. GM 10-Q, SEC []
  2. General Motors Company’s (GM) CEO Mary Barra on Q2 2015 Results — Earnings Call Transcript, Seeking Alpha, July 2015 []
  3. Ref: 2 [] [] [] [] []
  4. Ref: 1 []
  5. China And Other Emerging Markets To Drive SUV Demand, China Economic Review, February 2014 []