GM's IPO May Require Hefty Incentives

The initial public offering of recently bankrupt and nationalized General Motors looks to be one of the trickiest deals in memory.

True, the still-enormous carmaker has shed billions in liabilities and legacy costs in its "quick-rinse" 39-day bankruptcy. After a federal rescue, GM is again profitable, and its vehicles are selling briskly in the U.S. and China. Yes, the Treasury Dept., which extended close to $50 billion of aid to the behemoth last year, is a motivated seller, eager to prove the bailout a success in an election year in which many voters say bailouts wasted their money. "The initial public offering will be a significant step in carrying out Treasury's previously announced intention of disposing of TARP investments as soon as practicable," states a Treasury memo on the deal, not yet scheduled but widely expected before the November elections.

The Wall Street underwriters, likely to be Morgan Stanley (MS) and JPMorgan Chase (JPM), are so keen to participate that they are accepting a 75 percent discount on their fees, says one person briefed on the matter. Various estimates peg the flotation, including about 20 percent of the government's 61 percent stake, at $12 billion, which would make it the second-largest in a decade, after Visa's (V) $19.7 billion deal in 2008. And do not underestimate GM Chief Executive Ed Whitacre's resolve. "The new management team desperately wants to feel like a legitimate company again," says Steve Dyer of Craig-Hallum Capital Group, a Minneapolis-based trading and research shop. "That can only happen if they get rid of the perception that they're still reliant on the government."

All great, save for one thing: It's not clear that investors are pining to buy GM 2.0. This could be an IPO unlike any other, and not only because Uncle Sam is hawking the shares. The main selling point will not be a quick return on investment. Instead, it will be that GM's limited record of success—the company just reported its first quarterly profit since 2007—is only the beginning. Throw in contrition and appeals to hope and patriotism, and GM just might have a successful offering.

Job No. 1 is restoring "Government Motors" to a staple investment for institutional shareholders. That means convincing investors it can consistently make a profit in a leaner car-selling market. There's no getting around the reality, though, that GM has a ways to go before it wins over the car-buying public. In an April Consumer Reports study of reliability among 15 automakers, GM scored second to last. GM has shed the Hummer, Pontiac, Saab, and Saturn brands and now consists of Buick, Cadillac, Chevrolet, and GMC.

Then there's the let-bygones-be-bygones part of the IPO sales pitch: GM must persuade investors burned by the government takeover and unconventional bankruptcy to buy its shares again. That might require mediation by the U.N. after a bankruptcy proceeding in which the United Auto Workers union received more of the newly issued stock than some bondholders—a rearranging of the stakeholder pecking order that would not have happened in a traditional court-managed filing. "GM and Treasury will pay a price for that," says Maryann Keller, a veteran auto industry analyst who advises large investors. "Three words," says William Smith of New York-based Smith Asset Management, a former holder of GM's old shares: "Smoke and mirrors." He calls the preference given to the UAW in the bankruptcy "dirty pool," something "unprecedented in a democratic country with bankruptcy rules."

Even after its restructuring, GM has a troubling pension burden. Its retirement plan is underfunded by $26.8 billion. While the company doesn't have to make a payment for three years, at some point more money will have to go into the plan.

There are other questions: The reception for GM's much anticipated all-electric Volt, which the company says it will roll out at the end of next year, is uncertain. So is GM's plan to fix its European operations, which lost $506 million in the first quarter. Another unknown is what kind of auto market GM needs to stay in the black. The sales levels of 16 million to 17 million cars a year that once prevailed? Or the present 11 million?

Keller argues that demand has been reset downward because of lagging personal income, fading consumer confidence, and the end of easy credit. Detroit, she notes, has spent the past four decades extending the typical car loan from two years to five or six, to reduce monthly payments and get more units out the door. Now, she says, "we're really at the limit of what you can do with creative auto financing." GM's lack of a dedicated finance arm could also be a problem. "GM will launch an IPO when the conditions are right and the company is ready," says spokeswoman Nina Price, declining further comment.

Perhaps the strongest case for a resurrected GM stock is that many fund managers will have no choice. What was too big to fail a year ago remains too big to ignore in current investing terms. Ford (F), which is the only other remnant of the Big Three available to investors, is the 53rd-largest component in the Standard & Poor's 500-stock index, according to Bloomberg data. GM, which is now probably worth more than Ford's $40 billion valuation, would almost certainly be restored to the S&P 500, the preferred benchmark for mutual funds. "Most fund managers need and want exposure to the space," says Craig-Hallum's Dyer.

The underwriters have a tricky assignment: Unless the stock market ultimately values the 102-year-old automaker at a truly impressive $80 billion, taxpayers will not break even. With confidence flagging in the overall economic rebound and the auto industry's wobbliness in recent months, "the risk remains high that an IPO in this environment is unlikely to generate the best returns for the taxpayers," writes Bill Visnic, a senior editor at Edmunds' As any good dealer will admit, you need heavy incentives and smooth talking to move a rebuilt car off the lot.

The bottom line: Despite a shaky economy, the White House is eager to refloat General Motors after its government takeover and bankruptcy.

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