Thursday, October 14, 2010 10:25:17 PM
Oct. 14 2010 - 5:52 pm
By STEVE SCHAEFER
General Motors wants to price its IPO low enough so that everyday investors can get access. That’s just dandy, but Michael Kao is already having a field day with the automaker’s convertible bonds.
At the Value Investing Congress Wednesday, the founder of Akanthos Capital Management detailed a trade pairing GM convertibles with a short position in Ford. His reasoning: the GM bonds – convertibles are a debt/equity hybrid – have as much as a 50% upside from their recent level of 32 cents on the dollar. (He bought them at 5 cents on the dollar). Moreover, although Kao had praise for Ford CEO Alan Mulally for avoiding bankruptcy he questions whether the company should be afforded a winner’s premium, or a winner’s curse.
“I’m not bearish Ford,” Kao said at the conference, but he points out that by avoiding bankruptcy the company was more restricted by GM when it came to stripping out costs. GM slashed its dealer network by 30% — Ford was only able to prune 10% — and managed to reverse its cash position from around $30 billion in net debt to $12 billion in net cash thanks to the largesse of government bailouts.
On a valuation basis, Kao says GM’s enterprise value is almost $20 billion less than Ford’s, despite having $30 billion more in revenue and a strong China business that is growing at a 25% annual clip.
GM’s creditors are in better shape than those of its fellow Detroit orphan Chrysler. In the case of Chrysler, Kao explains, many of the senior secured creditors were TARP recipients and hedge funds, not exactly the most endearing constituency, and got manhandled to an extent by the government’s settlement. In the case of GM, the $27 billion creditor base was comprised of far more mom-and-pop, Main Street type investors, and that was reflected in the bankruptcy process.
Motors Liquidation, the carcass of “Old GM,” owns 23.85% of New GM pre-IPO, including in-the-money warrants.
With its IPO expected in November, GM is also on its fourth CEO in little over 18 months, but if that’s what it took to reverse a “horribly inbred management culture,” Kao is all for it. He admitted to wishing Ed Whitacre had stuck around longer as CEO — chairman until year’s end, Whitacre has predicted the IPO will price at around $25-$30 per share — but had praise for new chief Dan Akerson. “He understands capital structure, and getting [CFO Chris] Liddell from Microsoft was good.”
To Kao, the story at GM has a Depression-era parallel in railroad bonds. Cy Lewis made his name, and in many ways Bear Stearns’, by pouring money into railroad debt during World War II when FDR commandeered the railways to ensure delivery of necessary war materials. Lewis scooped up railroad bonds for pennies on the dollar as fears over nationalization depressed prices, and reaped the reward when the market turned. That fear of nationalization happened again in 2008, Kao says, creating the present opportunity in GM.
Follow my blog Exile On Wall Street, or Twitter @SchaeferStreet.
http://blogs.forbes.com/steveschaefer/2010/10/14/going-long-gm-before-it-goes-public/?partner=yahootix
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