The accounting function and financial analysis at General Motors

Accounting Function for a chosen organization

This paper will be aimed at providing a full background of the financial situation at General Motors, focusing on the role of the accounting function within this organization and the results it produces. The paper will be structured in five different chapters.

In the first chapter, following an introduction that will aim to give some background on the organization that will be discussed in the paper, including relevant information on its history, evolution and current status on the market, we will aim to focus on the accounting function in the organizational structure of General Motors and identify how this is integrated, what kind of resources it is being allocated, how it interacts with other entities within the organization etc.

The second chapter of the paper will provide an overview of the business from a financial perspective. In this chapter, we will focus both on yearly trends for some of the most important elements on the income statement, the cash flow statement and the balance sheet, as well as on financial ratios that can provide good insight into profitability or asset management trends.

The third chapter of this paper will be revolving around the concept of management accounting and how it is working at General Motors. This part of the paper will focus on budgeting and how the budgeting system works, on costing structures and calculated prices at GM.

Finally, the fourth part of the paper will concentrate on the operations management analysis. A significant part of this chapter of the paper will be represented by a wide SWOT analysis, aimed at providing relevant information about the strengths, opportunities, weaknesses and threats that General Motors is facing, both internally and externally.

Chapter I: The Accounting Function

Company Background

The General Motors Corporation was established in 1908 by William C. Durat and it is currently headquartered in the heart of the automobile industry, Detroit, Michigan. The company mainly produces cars and car parts (generally engines) and distributes them throughout the entire world through a wide and complex logistics network. Historically, the organization has undergone numerous changes and has generally succeeded in its endeavors, managing to establish itself as the leader of the automobile industry both nationwide as well as internationally. More recently however, due to the economic crisis and the focus placed on satisfying the customer, the organization has extended its offering to also include financial services which help the customer find a more convenient means of paying for the purchased automobile. In 2008, General Motors employed an estimated 266,000 individuals worldwide; these numbers are however expected to decrease as the organization faces the severe challenges of the contemporaneous economic crisis.

2007 has been a year of both gains and losses for the second largest automobile producer in the world. Despite the fact that the growth was a reduced one, it is crucial that it was manifested. In this order of ideas, the net revenues from the sales of automobiles increased from $171,179 million in 2006 to $178,199 million in 2007; the increase totals up to 4.1%. On the other hand, the income from financial operations decreased from $34,422 million in 2006 to less than 3,000 million by 2007. Their global production of automobiles and engines increased slightly throughout 2007 as compared to 2006, but the overall figures for the net revenues reveal a decrease.

Despite the fact that the financial highlights reveal mainly losses, the General Motors representatives argued that 2007 meant a good year from other standpoints, rather than financials. In this line of thoughts, they proclaim that they used the past twelve months to restructure the organization and prepare it for the changes that are prone to occur. The aim of the endeavor was to increase the company's adaptability to the changes in the micro and macro environments, to help it respond more effectively and efficiently to the internationalized economic crisis, but also to support the organization in reaching its future profitability objectives. "While these results are disappointing [the financial highlights], in many respects the bigger story for GM in 2007 is what went on behind the numbers - under the hood, if you will. Look under the hood, and we see that 2007 was a 'tipping point' for GM in terms of structuring the company and building the product technology momentum necessary to position us for sustained profitability and growth in the rapidly changing global auto industry."

Company Objectives

Just like any other for-profit organization, General Motors strives to increase its profits. Their approach in doing this has however changed throughout the years. In its early existence, the organization would increase revenues by producing and selling similar products. Today, the focus on achieving the financial desiderates is based on the full satisfaction of the customers' needs and wants, the satisfaction of their staff members and also that of the stakeholders. All their endeavors are integrated in strategies that are socially responsible.

The corporate objectives are best summarized by the General Motors mission statement: "G.M. is a multinational corporation engaged in socially responsible operations, worldwide. It is dedicated to provide products and services of such quality that our customers will receive superior value while our employees and business partners will share in our success and our stock-holders will receive a sustained superior return on their investment."

Key Resources

In terms of financial resources, the organization mainly uses its profits and reinvests them in new ventures which end up generating additional income. In terms of commodities, some of these are produced by the organization, while the large majority is purchased from national and international suppliers. General Motors was the first automotive company to establish a supplier diversity program in 1968, with the aim of creating a diverse network of suppliers which share common goals with the Detroit-based car manufacturer. Foremost, the strategy was aimed to support the growth and development of small size purveyors. "It is General Motors' policy to help minorities, women, and small business [...] achieve economic equality by fostering and encouraging diverse enterprise. We recognize that an effective means of accomplishing this is through the placement of appropriate business with diverse suppliers of goods and services."

Another key resource revolves around the technologies employed in the manufacturing of the GM vehicles. These are generally emerged from the United States and the organization benefits largely from its headquarter location in the heart of the automobile industry, which ensures its easy access to the latest developments. Finally, in terms of the human resource, this was historically set in the U.S. As the forces of globalization and market liberalization emerged however, the company began to open plants and consolidate distribution networks across the globe. The workforce at GM is then an internationally diverse one.

Role of Accounting

The primary specification that has to be made when discussing the accounting function at General Motors is that the company's statements are developed in accordance with the specifications of the legally implemented and required accounting standards and principles.

The accounting function at General Motors is a dual one. First of all, the operations help financially evaluate the past achievements in terms of gains and/or losses. By looking at the operations undergone in a past period, the accountants at GM are able to identify the profitability of a certain endeavor. Secondly, and probably the most important role of the accounting function is that of further supporting the organization reach its overall objectives. This is achieved as the accounts offer an objective view of the past and make assumptions for the future. Based on the observed past trends and the estimations made, the company's management will be able to make the best informed decisions and develop and implement the most suitable strategic approaches.

The accounting departments at General Motors make use of the same resources as the entire organization. In this order of ideas, they require financial resources to properly function; they employ human resource and they make use of technological applications to conduct their operations. They however do not require a consumption of commodities.

The accounting division is perfectly integrated within the corporation and interacts with all divisions to retrieve the information required in their analyses. After developing its reports, the accounting division interacts mainly with the management in delivering the retrieved information and making the recommendations they find most suitable.

Much of the accounting function is based on estimations made by the department, meaning then that these estimations have to be objective and unbiased. Most of the projections refer to the employee wages; commodity necessary and consumption; future investments in technologies (including both machines and software); levels of the pensions and other benefits that have to be offered to the retired or downsized employees; deferred taxes; sales incentives; policy, warranty and recalls; derivatives; impairment of long lived assets; the valuation of financial services offered by the organization (valuation of leases on the operating vehicles or lease residuals). It is however probable that the foreseen numbers are different from the future reality. Keeping this possibility in mind then, the accountants at GM have to constantly readjust their balances. "Management believes that the accounting estimates employed are appropriate and the resulting balances are reasonable; however, due to the inherent uncertainties in making estimates actual results could differ from the original estimates, requiring adjustments to these balances in future periods."

Based on the data retrieved and the projections made, the accounting division will proceed to the development of the consolidated statements for all of GM subsidies and the overall group. There are 24 consolidated statements, as follows: Discounted Operations; Asset Impairment; Investment in Nonconsolidated Affiliates; Marketable Securities; Variable Interest Entities; Finance Receivables and Securitization; Inventories; Equipment on Operating Leases; Income Taxes; Property - Net; Goodwill and Intangible Assets; Other Assets; Accrued Expenses, Other Liabilities and Deferred Income Taxes; Long-Term Debt and Loans Payable; Pensions and Other Postretirement Benefits; Commitments and Contingent Matters, Stockholders' Equity; Earnings per Share Attributable to Common Stocks; Derivative Financial Instruments and Risk Management; Fair Value of Financial Instruments; Stock Incentive Plans; Other Income; Segment Reporting and Subsequent Events.

Chapter II: Financial Accounting Analysis

General Motors is undergoing a significant crisis in the present, also there are significant elements to show that this is not necessarily a financial crisis, but rather an operational one, mainly related to the decrease of the brand's competitiveness on the market. This, accumulated with the current economic crisis, which marked a significant downturn in global demand, gradually created a serious cash flow problem for General Motors, which translated in the consideration of potentially filing for bankruptcy at some moment during 2009 (management reportedly noted that the company was unlikely to survive past 2009 under the current conditions).

In 2007, the cash flow values on the automotive part of the business were slightly higher than those in 2006, having increased with 3.26%. However, if we compared this with the increase from 2005 to 2006, it is insignificant. At the same time, the cash flow on the insurance and financial sectors, as well as on other related sector, has decreased from 2006 and even more so from 2005. Practically, with the cash flow figures that the cash flow statement shows for the 2007 Annual Report, the company no longer has a functional insurance and finance operation.

The conclusions targeting the cash flow statement are clearly stated in the Annual Report and they do reflect the reality on the ground. As such, the company is able to "meet our capital requirements, including the required funding of the UAW Attrition Program, and other funding needs over the short and medium-term, even in the event of further U.S. industry decline." However, for the medium and long-term, the survival of the company would depend on its capacity to abide by the turnaround plan proposed and by the resurgence of sales on its North American market.

In the meantime, with the economic crisis becoming more acute and with demand on a descending trend, the first part of the analysis has become doubtful and the company is most likely considering its short-term survival at this point, rather than its long-term ability to turnaround. Nevertheless, becoming more competitive on the market should essentially be the clue to the survival of General Motors. However, the company has been forced to cancel in 2008 a new investment program for its SUV platform, which means that the company will not be able to renew its automotive portfolio.

This is probably best explained with one of the asset management ratios, the inventory turnover ratio. The inventory turnover ratio can be used to calculate the ratio between the cost of goods sold and the average inventory, but can also be expressed as the volume of sales divided by the volume of inventory. In general, a low turnover means that the company has too high levels of inventory and that it is not generating enough sales as compared to these levels of inventory.

The inventory turnover ratio has decreased for General Motors from 2005 to 2007 by over 10.8%, which means that the company is producing much more than it can sell, which is risky both because of the additional costs that high levels of stocks involve and because the prices for cars could potentially decrease over the next period of time., especially with the current financial situation. At GM, there seems to be an unprofitable continuous mechanism that implies that workers need to produce because they cannot be fired (because of strong unions), but what they produce is no longer sufficiently demanded on the market.

In terms of the liquidity ratios, the current ratio, calculated as a ratio of the current assets value to the current liabilities value, was 3.21 in 2005, which shows a very prudent short-term financial policy, with the current asset value surpassing significantly the value of the short-term liabilities value. Nevertheless, this changed over the next two years, with the value reaching 0.86 in 2007. The value is not sufficiently conclusive to understand whether this occurred because the company has been accumulating short-term liabilities at a faster pace or because it has decided it needs to have a liquidity ratio closer to 1.

Liquidity ratios at GM - 2005-2007

In terms of the profitability ratios, a useful one is the basic earning power ratio, comparing the earnings and assets of the company. As we can see from the table below, the fluctuations for this ratio are great, with a 20% decrease from 2005 to 2006, followed by a 87.5% increase from 2006 to 2007, but the values remain at generally low levels.

Profitability ratios at GM - 2005-2007

As a final note for this part, the social factors seem to have a great impact on the activity and financial results at General Motors. The strong unions dictate part of the financial and operational decisions at GM. One good example in this sense was the 2007 GM strike, when 2 days of strike meant significant losses for the company, along with agreements with the workers that followed the crisis and that provided additional financial burdens for GM. All this is coming at a moment when the company most likely needs significant restructuring and laying people off in an effort to sustain its already affected cash flow.

Chapter IV: Operations Management Analysis

The operations management strategies that General Motors used have evolved in time, depending on the evolution of the market and, at the same time, its own positioning in the national and global automotive markets. During the 1950s and 1960s, the company successfully used a market-driven strategy, which meant that General Motors sold on the market products that customers required. It diversified significantly its portfolio of products to include a larger variety of engine types, of models, of colors than other American competitors such as Ford had at the time.

During the early 1990s, General Motors benefited from its strength, its sheer size and presence on the market to use a "muscle and influence" strategy on the market, which included dominating the supplying or distribution organizations to its own advantage. However, this turned out to be a problem during the later part of the 1990s, when the market required more flexible companies, able to adapt more quickly to the changing environment. For GM, adapting to the new realities was difficult to do and, from there on, the drop in its shares of the domestic market only made its problems more difficult.

At this point, with the company's main objective being its financial viability and survival on the market, the company has focused on the turnaround plan, which means that its strategy can now be primarily characterized as a cost- reduction strategy. The company boasts decreasing its structural-cost base at an annual average of $9 billion, considering figures in 2005 and 2006.

The company is also using its sales in developing countries, especially the BRIC group (Brazil, Russia, India and China) to counterbalance the decreasing market share on the U.S. market. This outreaching approach to the global market and external-oriented strategy could be the right strategy to take the company through the crisis. Nevertheless, at this point the problem is that the global economic recession is starting to strongly affect these countries as well. Russia, for example, has witnessed a significant drop in its stock exchange values from August 2008, mainly because of the decrease in oil prices and the global economic recession. Demand will thus be expected to drop on these foreign markets as well.

SWOT Analysis

The SWOT analysis will give us a better image of the company's positioning on the market, but also of the internal factors that the company will need to take into consideration (notably the company's strength and weaknesses). The external opportunities and threats will present a reasonable situation of the automotive market at the present time and will help produce an idea about the way that General Motors should position itself for the future.

Strengths

The size of the company. The size of the company is a strength because it enables it to better absorb some of the shocks, to produce scale economies and work and make operations more efficient. As was the case during the early 1990s, the company's size allowed it to use its position on the market in order to put pressure on the distribution and supply networks, make its supply chain better managed and obtain advantages from this.

Worldwide recognition and presence on most continents. The size of its market (it is actually a global market) means that GM can afford a short-term crisis on the national market, because it can redistribute its sales to other countries where demand still remains at reasonable levels. At the same time, a global approach like GM has will allow it to relocate some of its productions towards a cheaper workforce.

Weaknesses

The unions. Probably the biggest weakness at General Motors is represented by the unions, which are very strong and able to have a negotiating leverage in almost any condition. The fact that they are able to strike and cause large daily financial losses makes the management liable to its pressures. At the same time, instead of focusing the existing cash flow towards investments that can bring a future yield, the company has to allocate a significant part of it for the requirements of the unions.

The size of the company. Almost to the same degree to which this represents a strength, this is also an important weakness. The size of the company is making it difficult for GM to be flexible on the market and to adapt so as to be able to better manage the effects of the economic crisis. To the same degree, some of the necessary measure that it needs to take, among them a restructuring mechanism included in the turnaround plan, are also more difficult to approach, because such changes are more difficult to implement in a company this size.

The financial situation. As previously shown in this report and quoting the company's annual report, the company needs to consider its short-term cash flows. At this point, there is a distinct possibility that the existing cash flow will not be sufficient to cover the day-to-day payments that the company needs to make, including salaries and daily expenses. The problems with the cash flow are probably the company's biggest weakness.

Technology. The company is one step behind its Japanese competitors in terms of technology, mainly because it was not done at the right time and the right manner.

Opportunities

Bailout and state aid: unfortunately for General Motors, things are so difficult operationally at this point that the possibility of the U.S. Government allocating a sum of money for the automotive producers has to be seen as a potential opportunity. With Obama's new administration, this may become more plausible than in the former Bush administration, when the talk was more about a gradual bankruptcy process rather than a structured approach towards saving the main automotive producers.

Outsourcing and cheaper jobs. This alternative becomes even more viable in the current economic global condition. Indeed, with the economic crisis and with many companies either letting people go or simply freezing its hiring policies, General Motors could benefit from this by reducing its labor costs, preferably by outsourcing some of its production to other countries. China could be a good option, since GM has already expanded there in the past period of time. There are several problems here, however. First, one thing that has been previously mentioned is the strength of the GM unions, which will probably oppose any move that is likely to weaken their position and decrease the benefits and pay. Second, outsourcing usually takes some time to implement before it becomes profitable. It implies investing in training and sending management from the U.S. In the first stages of outsourcing. GM is not in a position where it can afford such investments and taking the time to see whether it will bring the expected profits.

New technologies. Implementing new technologies and diversifying its portfolio with improve automotive that can be more environmental friendly is an obvious solution. However, the temporal problem is again one with impact here, because such an approach will need to include new investments. The fact that GM has cancelled its SUV program, as previously mentioned, is not a good sign and its seems that the company's cash flow does not allow it to make any more investments in the short and medium term.

Threats

The global economic and financial crisis. This is definitely the most important and dangerous threat at the moment. First of all, the financial crisis means that credits are harder to obtain from the banks and other financial institutions, especially for a company like General Motors that has seen its credit rating fall throughout the last period of time. On the other hand, the economic crisis means a lower demand for products on the market, including for automotive, generated by the uncertainty of things as they occur in the economy and of the restructuring and loss of jobs in many economic sectors. These two put together affect both production and expansion on one hand and the capacity to obtain financing, as well as the demand side of the balance, with decreases in the volumes of sales.

Splitting bailout sums with the other automotive producers: all three main automotive producers in the United States (Ford, Chrysler and GM) are in the same difficult economic and financial situation. This means that a potential bailout will need to be split between them, probably in an equal measure. At the same time, this may also mean that the sums that GM will thus receive may not be sufficient for its turnaround plan and for getting the company out of the situation it is in.

Japanese producers. The main Japanese producers remain the most important competitor on the market, despite the fact that the current economic crisis has affected them as well (Toyota has reported losses for the first time in over seventy years). The European producers (mainly Renault and Citroen, but also Fiat) are in the same difficult situation and the French government has already proposed a bailout, despite protests from its European partners. Toyota has managed to remain very competitive throughout the 1980s and early 1990s, having introduced new technology in time and opening plants in the U.S. To avoid the high protectionist import rates that were applied on the U.S. market. At this point, Toyota and other Japanese producers have taken away a significant part of the domestic market share for General Motors and the trend could continue in the future as well.

Vulnerability in the face of high resource costs. This applies especially to the oil prices, which have now reached a significantly lower level than in 2008, but whose evolution is still not conclusive. A new increase in the oil price will force General Motors to invest heavily in new technologies that would enable it to produce hybrid cars, with lower consumption figures. However, at this point and given its cash flow, as well as the financial situation and difficult crediting policies that most banks are forced to adopt, this may be quite difficult.