In 2009, the Obama Administration bailed out General Motors Co. (NYSE: GM). It was a crucial part of the recovery process for both GM and the automotive industry as a whole. The issue was capital, and the capital markets had dried up for the auto industry, leaving the government as the lender of last resort.
The capital markets consists of two primary markets: debt and equity. Equity is considered more expensive than debt, especially in periods of low interest rates. Debt is considered less expensive due to tax considerations, but it must also be paid back, even in difficult times. This makes debt riskier than equity in terms of its claim on future earnings, which is why companies with higher leverage tend to have lower credit ratings. This is also why companies with higher leverage have a lower valuation, since the increased risk translates into a higher cost of capital.
Most companies adopt a capital structure based on strategy. The goal is to find an optimal capital structure, the right balance of debt and equity to help grow operations. Other companies, such as GM, adopt a strategy because no other viable option exists. In this case, GM is heavy in debt. In fact, total debt is about $10 billion higher than total market capitalization in December 2015. Still, GM could be doing worse. At the time of writing, GM's market debt-to-equity was 118% compared with Ford's (NYSE: F) 231%.
From December 2014 to December 2015, total debt increased from $46.8 billion to $63.1 billion. Short-term debt increased from $15 billion to $19.6 billion over the same time period. Revolving credit and term loans remained flat, but the company increased bond issuances from $33.6 billion to $49.3 billion. This pushed long-term debt from $46.8 billion to $63.1 billion.
Equity Capitalization and Enterprise Value
As debt increased, the enterprise value of the company also increased. Enterprise value is calculated by taking the market value of common stock, adding the market value of preferred equity, the market value of debt and minority interest, and then subtracting cash and investments. This is often used by those looking to buy out a company as a theoretical takeover price. In such a case, the buyer takes on the company’s debt but can also use the company’s cash to help finance the deal. In this case, market capitalization decreased as debt increased, making the total cost of ownership higher. From December 2014 to December 2015, the enterprise value increased from $73.1 billion to $87.9 billion. In mid-December 2014, the market price of the stock was approximately $31. The stock price grew to $35 by mid-December 2015, due in part to a decrease in the number of shares outstanding.
Other factors impacting enterprise value include cash and cash equivalents, investments in unconsolidated subsidiaries, noncontrolling interest and pension liabilities. From December 2014 to December 2015, cash and cash equivalents remained high but decreased from $29.5 billion to $25.0 billion. Investments in unconsolidated subsidiaries increased from $8.3 billion to $9.2 billion over the same time period. Noncontrolling interest decreased from $567 million to $452 million, and pension liabilities decreased from $7.0 billion to $6.0 billion.
It is seven years after the bailout, and GM continues to hold a large, and growing, debt position. At the same time, equity capitalization decreased, due in part to a 100 million drop in the number of shares outstanding from 1.6 billion to 1.5 billion, and the stock price grew approximately $4 from December 2014 to December 2015. Without the drop in shares outstanding the market capitalization would have been higher than $56.5 billion and enterprise value would be slightly higher as well. Enterprise value pushed higher from December 2014 to December 2015, but only because of an increase in total debt, not cash or capitalization.