The Dow Jones Doesn't Miss Down-and-Out General Motors Company
General Motors was once one of the Dow Jones Industrial Average's most durable components. The automaker represented Detroit on the index from 1925 to 2009, which was one of the longest stretches of membership among the more than 120 companies that have held a spot on the Dow since 1896.
While it was typically one of several automakers representing the sector during its 84-year tenure, GM survived a number of shifts that winnowed down both the diversity of its competition and the number of peers on the Dow. But in 2009, the unthinkable happened -- America's largest automaker, and the blue-chip index's last remaining representative from a once-thriving Detroit, fell into bankruptcy. The Dow, forced to update its roster, replaced GM with Cisco , and five years have passed since any automaker had a place on America's most-watched industrial index.
General Motors returned to the public markets in late 2010 when the government divested its bailout stake. It hasn't been a good return for GM, which lost nearly half its value in the year and a half following its IPO. A strong rebound, which pushed GM past that price in mid-2013, now looks to be undone by what has now become the largest (and it's still growing!) auto-industry recall ever seen. Since February, GM has recalled more than 28 million vehicles for a number of problems, most notably ignition-switch defects linked to a number of deaths. This is almost three times the number of cars it sold in 2013 and far exceeds the 14-million-plus vehicles Ford recalled in 2009 for faulty cruise controls.
The scope of the recall brings to mind an offhand discussion that took place in the cult classic Fight Club between Edward Norton's narrator character and a stranger he meets on an airplane:
Narrator: A new car built by my company leaves somewhere traveling at 60 miles per hour. The rear differential locks up. The car crashes and burns with everyone trapped inside. Now, should we initiate a recall? Take the number of vehicles in the field, A, multiply by the probable rate of failure, B, multiply by the average out-of-court settlement, C. A times B times C equals X. If X is less than the cost of a recall, we don't do one.
Stranger: Are there a lot of these kinds of accidents?
Narrator: You wouldn't believe.
General Motors already expects to lose at least $1.2 billion on the recalls in the second quarter alone, and since its current "compensation plan" includes settlements that will reach into the millions, it's probably safe to assume that there are a lot of dangerous GM vehicles on the road that need to be fixed, and a lot of these potential failures could result in catastrophic injury or death if not addressed. The scope of the recall is truly staggering in terms of the aggregate personal danger that GM has implicitly admitted to creating by installing these defective ignition switches.
Yet even before the recall, even as GM was recovering rapidly in a rapidly rising market, there was no real discussion of replacing any current Dow component with the automaker and thus restoring the auto industry to a place of importance on what was originally meant to be an industrial index. Which component would GM replace? It wouldn't have done much to change the Dow's momentum to reverse the GM-Cisco swap, as both companies have similar share prices and have put together similar share growth since GM went public:
I would also argue that Cisco should stay on the Dow, as it's the best possible representative of the growth of the Internet so long as it retains a dominant position in routers and switches. It would be better to replace a company that isn't systemically important to a vital part of the American economy. What about 3M ? While that company is one of the last manufacturing representatives on the Dow, it's not exactly an essential cog in the economy. Here's why such a switch, though, would be a terrible idea:
Not only would the Dow lose out on a great deal of growth, it would also replace a heavily weighted component with what would be one of the smallest-weighted components -- GM's share price is currently lower than all but four of the Dow's 30 stocks.
Does the Dow need an automaker? It certainly should consider including one -- few companies in America are as systemically important to the economy, as automakers spin a wide web of suppliers and support companies that employ millions of Americans. However, GM seems to be too poorly managed and too low-priced to justify being added again. If it can overcome its recall woes, GM might deserve another chance -- but for now, the Dow certainly isn't missing the biggest of Detroit's Big Three.
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The article The Dow Jones Doesn't Miss Down-and-Out General Motors Company originally appeared on Fool.com.Alex Planes has no position in any stocks mentioned. The Motley Fool recommends 3M, Cisco Systems, Ford, and General Motors. The Motley Fool owns shares of Ford. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.
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