Go Underweight GM (Again) And Buy Fiat Chrysler, Says Adam Jonas

Morgan Stanley’s Adam Jonas resumed coverage of General Motors Company GM with an Underweight rating and a price target of $26, while reinitiating coverage of Fiat Chrysler Automobiles NV FCAU with an Overweight rating and a price target of €10 target.

General Motors

The company’s exposure to growing macro and cyclical factors creates earnings risk. In the event of a recession, General Motors’ earnings could be “substantially eliminated,” with a significant increase in financial leverage, analyst Adam Jonas said.

If US auto sales decline 30 percent, along with a 300bps reduction in pricing, the company’s North America margins would contract from 10 percent to close to break-even. Although General Motors has indicated that its NA breakeven point is a US SAAR of ~10-11 million units, when this is combined with lower pricing, the breakeven levels are closer to 13 million units, Jonas mentioned.

“While our base case forecasts are not based on the US entering recession, we have factored greater conservatism into our medium term and exit margin forecasts,” the analyst wrote.

Related Link: Credit Suisse Downgrades Ford To Underperform, Continues To Favor GM

General Motors is expected to witness a significant improvement in profitability in Europe, although the company may not achieve breakeven until 2017. The automaker could suffer further deterioration in South America; Jonas commented, while saying that 2016 expectations are for losses of more than $800mm.

“Our China JV valuation has risen modestly due to a pull forward in our DCF, but were main less constructive on the region and continue to forecast modest growth (2% per annum) and long-term pre-tax margins of 5%,” the Morgan Stanley report added.

Fiat Chrysler

Like all US OEMS, Fiat Chrysler is also vulnerable to a decelerating US cycle, widening debt spreads and technological disruption. Jonas pointed out, however, that the positive rating reflects:

1. Management’s willingness and ability to seek opportunities to explore asset sales or other mechanisms, such as the recent Ferrari spin-off, to “ring-fence the value of the group's most desirable businesses.”
2. Fiat Chrysler being highly awareness of its limitations during times of significant changes in the technological or business model, and the company’s focus on where it can succeed long-term.

“Our positive view on FCA is not based on a cash-rich balance sheet, strong near-term free cash flow and share buybacks – FCA offers none of these attributes. Rather, it's the company's strategic and industrial moves on multiple fronts (as evidenced by the successful completion of the Ferrari spin-off) that we find most compelling,” the analyst commented.