The S&A Digest: Another Letter from GM's Chairman

Goldsmith on the Digest... GM is dead... I love scotch... Dinging the cat... More from Mormons

Porter is locked in his office working on his latest issue of PSIA, so I'm on Digest duty.

Bad news for them, great for us... PSIA's short sell General Motors (GM) today announced that its net income fell 90% from last year, largely from its mortgage lending unit GMAC. The company reported earnings of $62 million for the quarter, down from $602 million a year earlier. The words of Porter Stansberry echo...

GM is already bankrupt. Over the last 10 years, General Motors has been unable to make a profit selling cars... General Motors will never earn enough money selling cars to repay these debts.

– PSIA February 2007

Readers have made 4% since the recommendation, but it doesn't look like things will get any better for GM.

Extreme Value pick Berkshire Hathaway (BRK-A) will hold its annual shareholders meeting in Omaha, Nebraska, this Saturday. Between 25,000 and 28,000 people are expected to attend what Warren Buffett calls "Woodstock for capitalists."

S&A Oil Report pick ConocoPhillips (COP), coincidentally a Berkshire Hathaway holding, is the only company that has not signed an accord with Venezuela to transfer operations to the state. President Hugo Chavez today threatened to forcefully eject the company from the country.

PSIA pick Nokia (NOK) unveiled seven new phones, including the ultra-thin Barracuda. While the world's largest cell phone producer has a strong position in emerging markets, it has been losing hold in developed markets to Motorola and Samsung, who have historically produced ultra-thin phones. All seven of Nokia's new phones are priced below $136 and will be released this or next quarter.

New highs: Van Kampen (VKQ), McDonald's (MCD), Buckeye Partners (BPL), Brookfield Asset Management (BAM), Nokia (NOK), Oneok (OKE), Sunoco Logistics (SXL), Verizon (VZ).

Porter's not here for his comments, and I'm keeping my responses short and sweet. Hopefully, we won't offend anybody today. If we do, let us know at feedback@stansberryresearch.com.

"I'm not sure of exactly who at Stansberry & Associates made the call on SPAN, but if I get to meet with them someday, I owe them a scotch... I picked up some shares at $20.86 and then the next day, with perfect timing, the company announces great quarterly results with an increase in net income of 85% and an increase in the regular dividend of 78%. The stock takes off and here I am 3 days after buying and up nearly 18% – and the special dividend is still coming." – Paid-up subscriber Glenn Mores

Goldsmith comment: That would be me... and I'm a huge fan of Macallan 30.

"Since I am buying the dividend stocks in my tax deferred Defined Benefit Pension Plan and am not concerned with the tax implications, I have been buying prior to the record date and reinvesting the dividends. Would you agree that I am doing the right thing? It also does feel more comfortable to know the drop in share price has already been offset by the dividend in hand." – Paid-up subscriber Gary Packman

Goldsmith comment: We recommend buying shares on or after the ex-dividend date because this method gives the highest returns.

"I am a paid-up Mormon. We do have too many gullible members trying to get rich quick, but on the other hand, you will not find a harder working more productive people in the world." – Paid-up subscriber Joe Farnsworth

"Undoubtedly, one of the best days of feedback you've ever had. All fronts were covered: investing (a natural), religion (shouldn't be allowed), neophytes (without whom you wouldn't be in business), marketing – or lack of (where the hell have they been?), politics (which I fail to understand/comprehend). No wonder you didn't have a 'Porter Comment' for each. The overall olio would have been hard for the shrewdest person to understand." – Paid-up subscriber John Fritchey

"First off, I love the S&A services and pretty much everything you and Steve write and plan on being a lifetime subscriber, and I've got lots of years ahead of me. A comment, though: As despicable as Wade Cook may be, your comments about Mormons came across as bigotry. Cook may be a promoter that is crooked. He may be a crooked promoter that is or was a Mormon. (I doubt he is still a Mormon as to be a member in good standing of The Church of Jesus Christ of Latter Day Saints one must live up to very high standards.) But Mormons are not crooked promoters. That is a gross generalization, for any religion. There may be many Mormons who do not live by the teachings of the church, but that could be said of any religion." – Paid-up subscriber Mike Hutchinson

"Are you tracking and still planning to recommend special situations like spin-offs in your Dividend Grabber newsletter? I sure hope so since I believe that with your great analysis, you will have many big winners. As you know, per Joel Greenblatt, well-chosen spin-offs have historically performed better than the market by a nice margin." – Anonymous

Goldsmith comment: Yes.

"When I grew up fairly poor and very long ago in rural Pennsylvania, our family had a standard for household cats. As long as they behaved, they were free to roam at will. When one acquired a taste for birds, we tied a bell around the cat's neck to give the birds a fighting chance. We called it 'dinging the cat.' I compliment you on your comments about the stock option mess. Keep dinging that cat." – Paid-up subscriber James Graby

"It is pretty amazing that you would report Taleb's demise in such a glib and unsubstantiated manner. I am reading his book; it is fascinating. I am not sure what your ax against him might be, but I googled him, found his e-mail, asked about the rumor, and received a quick reply. You might have expended the 30 seconds yourself before passing on the rumor. Is your research on stocks as thorough as it was on this rumor? Maybe I need to reassess my subscriptions. Maybe DIL is enough of a Black Swan for you that a little more introspection is warranted in the future before judging the quality of another's work?" – Paid-up subscriber Jan Carr

Regards,

Sean Goldsmith

Baltimore, Maryland

May 3, 2007

Another Letter from GM's Chairman

By Porter Stansberry

Dear General Motors shareholders,

Our lawyers and PR agents have done their best to make our predicament utterly indecipherable to anyone with under 27 years of experience in forensic accounting. But, while I may be unable to save this company from bankruptcy, I am not a liar. I have decided to come clean.

As I told you earlier this year, "We have infrastructure and employee obligations that outpace what we can afford given our greatly reduced profit margins and debt load. Our ongoing results reflect these important structural problems, which may be beyond our best efforts to fix."

You can ignore all 17 pages of the press release on our "preliminary" first-quarter financial results. Our consultants tell us that the longer our earnings announcements are and the more "adjusted" numbers we use, the more unlikely it is that anyone will actually know what's happening in our business. And that will, they say, help keep our stock price up and our bonds above par.

It's all hogwash, of course. All you really need to know – despite our claims of record vehicle sales and "reported" net income of $272 million – is a few of our top-line numbers. If we were capable of saving this company, you'd expect to see significant improvement in our top-line profitability. That's the only chance we have to save this company – given our massive debt load.

So... what are the key numbers? Unfortunately, dear shareholders, the news is not good.

We had hoped that by closing plants, firing workers, and negotiating for better union labor regulations, we could offset any decline in revenues with a great decrease in expenses. The problem is, we're such a huge business and have so much fixed overhead that, unless we're able to significantly increase revenues, it's unlikely that we'll be able to cut expenses fast enough. Worse, because we were forced to sell a few of our prized assets last year (GMAC, Suzuki) due to a credit downgrade, it's next to impossible for us to produce any high-margin revenue. (Porter Stansberry has accurately described these asset sales as "burning the family furniture to keep the furnace running.")

The numbers show our predicament clearly (so long as you look at the right ones). Our total first-quarter revenues were $43.9 billion, down $8.4 billion from last year – as expected. What wasn't expected is that we were only able to cut expenses by roughly the same amount. Our total operating costs were $43 billion – a decline of $8.4 billion.

So... after two years of big restructuring, asset sales, marketing changes, and management shuffles... our grand turnaround plan has produced a top-line benefit of exactly $13 million – which might as well be a rounding error when you're talking about tens of billions of dollars.

Meanwhile, we had to spend $800 million on interest in the first quarter, up from $638 million last year, because as our debt rolls over, we must refinance at much higher interest rates. Globally, our cost of borrowing is up to 6.16% from 5.50% last year. As you can see, our interest costs continue to increase at a much faster pace than any of our operational improvements. This is likely to be the case – until bankruptcy.

Other than these top-line numbers, there's almost nothing else in our entire 17-page press release that you should bother reading because we didn't include a cash flow statement – only an income statement with "adjusted" and "operating" numbers, which are meaningless to analysts and investors.

But there are a bunch of things we didn't include that you should definitely know about.

First, on Wednesday, Fitch Ratings changed its outlook on Residential Capital (GMAC's mortgage financing business) from stable to negative, indicating a greater chance of a rating downgrade on GMAC. We still own 49% of this business, and we're on the hook for any loss of book value. When we sold 51% of GMAC to a Wall Street hedge fund, we had to promise to indemnify them for any losses. If Residential Capital is downgraded one more time, the losses to GMAC could be substantial – more than $1 billion. In fact, Residential Capital posted a first-quarter net loss of $910 million on Wednesday. Our CFO told you last quarter that GMAC was "leaning" away from residential lending... but apparently it didn't "lean" fast enough. Our legacy obligations to GMAC remain a largely unrecognized risk to our solvency.

Second, although we didn't release a cash flow statement, several of the analysts that know our business as well as (or better than) I do, say we're still not producing any positive cash flow. Rod Lache, the GM analyst at Deutsche Bank, says, "With GM, the scary thing is they're not even close to the finish line here. They're not generating cash." The scary thing for you to realize is that Rod is one of GM's cheerleaders – he even has a buy rating on the stock.

I might bicker with Rod about the exact meaning of the words "cash flow," but one thing is abundantly clear: We're not producing nearly enough cash to cover our capital spending needs, our dividend, or our interest payments. And, until that happens, any "profit" we claim is wholly meaningless to shareholders. Even after that point, we've got an enormous hole to dig out of: Our accountants tell me we still owe $38 billion.

Until we can find a way to sell a whole lot more cars, GM is heading for bankruptcy.

Best regards,

Your Chairman

P.S. Last month saw the biggest sales decline (9.4%) I've seen during my entire tenure. It's bad, folks. And it's getting worse.

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