Economic Conditions are Evolving Rapidly, but GM's Dividend Looks Safe For Now

A dramatic slowdown in auto sales is becoming more likely as consumers brace for tough times and governments appear increasingly poised to implement drastic measures to slow the spread of the novel coronavirus.

Yesterday, GM announced that the automaker would suspend production and idle factories until at least March 30 (about two weeks) in response to the expected decline in demand as well to protect workers' safety. Management said the situation would be reevaluated week-by-week.

There's a lot of uncertainty as to how severe the outbreak of the coronavirus will be and how far the government will go to contain the virus' spread. However, the likelihood of the economy falling into a severe recession, auto sales taking a prolonged hit, and consumers potentially defaulting on vehicle loans has increased.

In recognition of the possibility for an unusually severe downturn that sudden and unforeseen developments have brought, we are downgrading GM's Dividend Safety Score to Borderline Safe.

That said, a dividend cut appears neither imminent nor likely at this point, and we plan to continue holding our shares in our model portfolios.

Since coming out of bankruptcy in 2009, GM has overhauled its business to survive downturns, slashing costs, divesting unprofitable brands, reducing its union workforce, and eliminating tens of billions in debt.

Importantly, management highlighted last August that GM holds $18 billion in cash, including two years' worth of dividends set aside in the event of a downturn. Having experienced a nearly 30% drop in sales during the financial crisis, GM is not new to sharp industry downturns.

Moreover, GM enjoys a BBB investment grade credit rating, and the firm's leverage metrics are at healthy levels. All of this suggests that GM has financial flexibility to weather storms while maintaining the dividend.

If nothing else, GM's liquidity and relatively strong financial position make it possible for management to take a "wait and see" approach with the dividend amidst uncertainty. After Ford suspended its dividend this morning, GM is likely eager to prove to investors that the automaker is much more resilient than its peers.

Also, unlike Ford, GM in recent years proactively exited most unprofitable international markets, improved its cost structure, and set itself on a path to generate stronger free cash flow from its core automotive operations.

However, if measures put in place by governments to slow the spread of the coronavirus become more drastic or prolonged, and if economic conditions materially worsen for consumers, then GM's dividend risk profile could need to be reevaluated.

Widespread default on lease payments and car loans, for instance, could threaten GM's otherwise healthy financial state. For now, though, it seems likely that the government will support consumers in dire financial circumstances.

At the same time, the prospect for a quick economic rebound or increased certainty that the current downturn won't be severe could lead to GM's Dividend Safety Score being upgraded. We will continue to monitor the situation and provide updates as new information arrives.