Issue: Jan 2005


Keller



Financial Prudence: Why Is General Motors Still Paying a Dividend?

by Maryann Keller

Dividends are an appropriate return of capital to shareholders and ought to represent the surplus cash in the business not needed for internal investment or other corporate purposes such as paying down debt. During the 1990s General Motors financial fortunes turned around and enabled the company to easily afford a $2 annual dividend.

GM was riding high on the profits generated by SUVs and pickup trucks and automotive operations were throwing off more cash than the company needed. The superior investment performance of its pension fund was closing the gap between fund assets and liabilities. Credit rating agencies were impressed enough to boost the companys rating. The $2 per share dividend was both affordable and justified in the 1990s but isnt now and hasnt been for several years.

Frankly speaking it is the only real return GM shareholders get since much of GMs investments whether in most of its new products or in Fiat, Net Zero or other high tech ventures generated a positive return. However, the cash that they receive in the form of a dividend is also penalizing their ability to earn a return if the money had been spent on product or R&D.

The high dividend payout has not protected the common stock price, which has underperformed that of Ford this year. Ford, which has also suffered since the late 1990s, has reduced its dividend twice since 2000. GM can ill-afford to pay out almost $1.6 billion a year in real cash when it is threatened with a credit downgrade below investment grade, its balance sheet is bloated with debt and it is going to have to ransom the Fiat put for a hefty amount of cash.

GM has just undertaken yet another costly restructuring in Europe that will cost at least $1 billion. North American automotive operations are struggling with few of GMs new models capturing the publics attention and selling close to list price. GM has to undertake another restructuring in the U.S. that involves closing more plants and worsening its retiree to active worker ratio.

China, long trumpeted as a pot of gold for early investors, is shaping up to be a highly competitive and unpredictable market. Even though GM pays the highest incentives and is more dependent on fleets for volume, its market share in North America is in a downward spiral. GM has had to back off from its $10 per share earnings mid-decade forecast as a result of competition and pressure on margins.

Even as GM is paying out unjustified dividends it is demanding huge price concessions from its suppliers and complaining about the huge healthcare burden it carries from having 2.5 retirees for every active worker. Since dividends should represent surplus cash, the dividend payment presents a wrong message to those who could help it regain its competitiveness. Suppliers have their own shareholders to consider and few of them are flush with cash these days.

While the answer on GMs healthcare expense is not to shift the burden onto the American taxpayer, but rather to renegotiate burden sharing with its retirees, that conversation cant even begin while the company is distributing $1.6 billion each year to its shareholders. Relative to Toyota, which will displace GM as the worlds largest auto company in 2006 or 2007,

GM has underspent on new products and on technology. Its recent announcement of a joint venture with Daimler Chrysler to develop hybrid technology is critically important and indicative of the fact that GM no longer has global leadership in technology. The rating agencies are aware of GMs deteriorating financial condition and have placed the companys debt on a credit watch list in anticipation of another downgrade.

For us it isnt a question of if GMs debt will fall to a junk rating but when. Then GM might not have a choice about continuing to pay an unwarranted dividend. General Motors shareholders can only be served by investment in new products and technology which would generate the cash to pay them $2 a share or more.

Maryann Keller is a veteran auto industry analyst and author of the books Rude Awakening: The Rise, Fall and Struggle to Recover at General Motors and Collision: GM, Toyota and Volkswagen and the Race to Own the 21st Century.

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