General Motors Company (GM) reported a solid increase in earnings for the fourth quarter and all of 2013. Adjusted earnings before interest and tax increased almost 10% in 2013, from $7.9 billion to $8.6 billion. Almost all of that improvement came in Q4, when EBIT-adjusted rose from $1.2 billion to $1.9 billion.
However, digging further into GM's numbers, it's clear that despite all the accolades for new vehicles like the 2014 Chevy Silverado and the 2014 Corvette Stingray, GM is still far from achieving its financial goals. In fact, GM could have trouble meeting the earnings expectations it has set for 2014, primarily due to pricing pressure in the U.S.
North America drives earnings
Like its crosstown rival Ford, GM is a global automaker that nevertheless relies heavily on North America for its earnings. For the full year, GM North America's adjusted EBIT was $7.5 billion, compared to global, adjusted EBIT of $8.6 billion. GM Financial also contributed $900 million to GM's earnings last year, meaning that all the rest of GM's global automotive operations were barely profitable.
The balance was even more skewed in Q4, when GM's automotive segments outside of North America lost money. (Small profits in South America and the "International Operations" segment could not fully offset GM's loss in Europe.)
Given that North America is such a critical earnings driver for GM, the mid-2013 launch of GM's new full-size pickups has been a big tailwind for the company. Last quarter, GM North America's adjusted EBIT soared from $1.1 billion to $1.9 billion on the back of 10% revenue growth and strong margin expansion.
The key reason for GM's improved profitability in North America last quarter was a $1.2 billion improvement in "price". This was primarily driven by the launch of the new full-size pickups, because GM has been selling them at much higher prices than the previous models. However, this improvement is probably unsustainable.
For retail sales, GM recognizes revenue as vehicles are delivered to dealers -- not when they are actually sold to customers. This is a standard auto industry practice, and it usually doesn't impact results. However, GM has recently sold a lot of high-margin full-size pickups to dealers that have been piling up on dealer lots.
Combined Chevy Silverado and GMC Sierra deliveries rose by 86,000 units through the first three quarters of 2013, due to the strong growth of the pickup market. By contrast, combined deliveries of the two trucks rose just 3,000 units in Q4.
The trend worsened in January, as combined Silverado and Sierra deliveries fell by more than 8,000 units year over year. Bad weather was a major contributor to the weak sales performance, but GM still saw a bigger drop in sales than competitors. Slow sales of the new pickups have left GM dealers with five months of Silverado supply -- about double the ideal level.
The same high pricing that led to a nice jump in North American earnings last quarter has been a big factor holding back sales of GM's new pickups. Ultimately, GM must choose between slashing pickup production in a bid to keep margins high or boosting discounts in order to sell more trucks, albeit at a lower profit margin.
Right now, it looks like GM is opting for the latter strategy. GM has rolled out huge discounts on some Silverado and Sierra models (particularly those with V-6 engines) as part of a President's Day sale that will run through the end of February. The discounts exceed $7,000 in some cases.
This should help GM reverse some of the recent inventory buildup so that it won't have to idle its pickup plants. However, the big step up in incentive spending will weigh on margins this quarter. Indeed, this incentive program is probably one of the major reasons why GM's Q1 earnings are expected to be unseasonably weak this year.
GM is making progress toward becoming a leaner and more efficient company, and its product quality is clearly improving. This year will be another big one for GM product launches in North America, led by GM's new heavy-duty pickups and full-size SUVs. These new products should keep potential customers excited.
However, GM's recent experience with the full-size pickup launch is a warning sign for investors to be cautious. Last quarter, GM saw a big jump in earnings as it recognized lots of high-margin pickup sales even though many of those pickups are still sitting on dealer lots. This quarter, GM will face a "penalty" as it recognizes the cost of the discounts that will be needed to get pickup sales back to a reasonable level.
This process could repeat for some of GM's future product launches. The company is still learning how to balance profitability with volume. Until GM's earnings performance becomes more consistent, I'm inclined to steer clear of the stock.