General Motors’ valuation methods
There are many different valuation methods available for valuing automakers such as General Motors (GM). We believe that investors should use a combination of discounted cash flow and valuation multiples to value the company.
First, let’s use a relative valuation method based on General Motors’ valuation multiples. Later, we’ll discuss the DCF (discount cash flow) valuation method.
Relative valuation using multiples
Valuation multiples are widely used in the auto industry (FXD) to compare companies. The EV-to-EBITDA (enterprise value to earnings before interest, tax, depreciation, and amortization) multiple is an important relative valuation multiple. It’s generally used for capital-intensive industries such as the auto industry.
As of March 14, 2016, General Motors’ forward EV-to-EBITDA multiple is 2.2x for the next 12 months. This is lower than Ford Motor Company’s (F) EV-to-EBITDA multiple of 2.8x.
Investors can also use a forward PE (price-to-earnings) multiple in comparing two similar companies in the auto industry. As of March 14, 2016, General Motors’ forward PE ratio, based on its earnings forecast for the next 12 months, stands at 5.6x, lower than Ford’s 6.4x.
These forward valuation multiples are calculated based on expected values of the denominator after a year. As you can see in the chart above, General Motors’ valuation multiples are currently in a downtrend. This could be because of the concern that US auto sales may have already peaked last year.
Note that currently, Japanese automaker Toyota Motors’ (TM) valuation multiples are trading much higher than those of major US automakers, including GM and Ford.
Discounted cash-flow method
General Motors’ business model is mature enough to predict its cash flows. This is what makes the DCF method appropriate in valuing a company such as General Motors, unlike new auto industry entrants such as Tesla (TSLA). However, the cyclical nature of the automotive industry could be a challenge when using the DCF method to value an automotive company.
It’s important for investors to understand that valuation multiples depend on investors’ risk perceptions as well as growth prospects in the industry. We’ll talk about these factors in the next and final article of this series.