Morgan Stanley is hot for General Motors Co. In a research note on Wednesday, analyst Adam Jonas declared the automaker as his new top pick, with a lofty target price of $50 (U.S.) – implying an upside of more than 60 per cent from the stock's closing price on Tuesday.
The move is somewhat contrarian, given that North American auto stocks have stalled this year. As the analyst pointed out, talk among investors at the start of the year was about the V-shaped U.S. economic recovery and 15 per cent to 20 per cent growth in the Chinese car market. Now, investors are talking about high gas prices, Japanese price wars, fears of a double-dip recession and flat growth in China.
"We believe we are at a point of heightened uncertainty on macroeconomic factors and maximum uncertainty on industry specific issues," Mr. Jonas said.
So why is he upbeat on North American car makers, and GM in particular? He has four big reasons for being bullish: 1. He believes that expectations for U.S. car sales have been thrown into disarray because of the Japanese earthquake and tsunami in March. But 2012 sales should pick up as supply levels improve, incentives kick in and credit conditions continue to thaw.
2. Fears of a Japanese price war are overdone. The high value of the yen constrains the big Japanese manufacturers, and their struggle to hold onto market share began with the financial crisis. Incentives failed to stop the slide.
3. High gas prices result in a shift from light trucks to passenger cars, which can be bad news for North American manufacturers. However, the shift is likely to be more modest than some observers fear, given that gas prices have subsided recently. And besides, Mr. Jonas pointed out that GM and Ford have been gaining market share in the small car segment.
4. Stocks are down. GM shares have fallen 17 per cent this year and Ford shares have fallen 16 per cent – by far the worst performers among global car makers.
On GM, Mr. Jonas argues that the valuation is hard to beat. The shares trade at just 4.5-times estimated earnings and the market appears to be valuing its core operating business at near zero: The company's net cash position is worth $14 a share, or nearly 50 per cent of its market capitalization, while tax credits and net operating losses are worth another $9 a share.
"Throw in the value of GM's Chinese joint ventures ($5 per GM share) and one can account for nearly 100 per cent of the GM share price before considering its consolidated operating business ($150-billion of revenues and more than $9-billion of operating income," the analyst said.
His target price of $50 – based on 15 million car sales in 2012, with GM taking a 20.2 per cent share in 2013 – makes him the most bullish analyst following the stock, where the average target is just $43.55.
"Since the IPO, GM's results have missed our expectations, while performing in line with consensus," he said. "We believe 2Q11 will mark an inflection in results that can drive material if not very large upward earnings revisions. Our $1.60 EPS estimate for 2Q is 40 per cent above consensus and our full year 2011 EPS forecast of $5.20 is more than 30 per cent higher than the street. This magnitude of the gap between our numbers and consensus is much larger than for any other stock under our coverage."
Gentlemen, start your engines.
David Berman