Sunday, March 3, 2013

The Truth About Channel Stuffing

Zerohedge chart shows GM stuffing the channel at a frightening rate

Zerohedge, the website that caters to short sellers, has been monitoring GM for symptoms of a relapse to the Bad Old. One of these symptoms is channel stuffing, defined by Investopedia as �a deceptive business practice used by a company to inflate its sales and earnings figures by deliberately sending retailers along its distribution channel more products than they are able to sell to the public.�

Zerohedge has a chart depicting an increasingly overflowing channel, and it looks bad. Letâ?™s have a closer look.

Zerohedge sees â?œa near record 743K carsâ? sitting in the lots of GM dealers in February, – â?œthe second highest ever.â?

If you want to come to the defense of the General, you can simply say: �Second highest February, ever? Not true at all! In February 02, 988K were out there.  In February 03, dealers drowned in 1.13 million GM vehicles. In  February 04, there were 1.2  million � shall I go on?�

Point taken. Those were the days of 17 million units a year, and we all know what happened after the channel got stuffed.

Inventories go up for GM and its peers

Let�s put the  matter in perspective by recreating the same chart for GM and its peers. Dealer inventories sure are rising. They rise for all makes, some rise more than others. A simple reason for dealer inventories to rise is that sales are up.

A better, but still confusing picture

To get a grip on this (and on inventories), the industry uses a metric  usually called �days to turn� (or �days of sale� etc.). It goes like this: �If business stays like last month, how many days will it take to move the inventory?�  Days to turn should not go up as business increases. Sure, total inventory goes up. By selling inventory faster, days to turn should stay relatively even.

In the industry, a two month inventory, or around 60 days, is considered reasonable.  As we can see from this chart, GM appears to be far removed from that 60 days ideal.

Days to turn also is a metric that must be used with care. Take GM�s  December 1 inventory of 788K. Looking at the sales rate of November, it was determined that it would take 106 days to move.  GM did put cash on the hood, year-end sales  did their part. On January 1, there was an inventory of 717K. Now suddenly, it would take only 76  days to move that inventory? It would, if January sales pace would be the same as December. Of course it was not. So we land on 738K inventory at the beginning of  February, which suddenly is said to take 95 days to turn. Confused?

We are not trying to predict inventory levels, we are trying to establish a trend. For that, we take a simple three month moving average of the days to turn to smooth out the confusing ups and downs.

GM accumulates more and more inventory, while Toyota’s remains relatively flat

This chart is less dramatic than that of Zerohedge, but it tells us a lot.  We see that days to turn trend up for all  Detroit makers. GM however remains the most profligate  inventory oinker.  On a three month averaged basis, GM has  nearly three weeks more inventory out there than Ford. Of the Detroit3, Ford looks most disciplined, especially considering its high share of trucks. In Febuary, Ford’s three month average for trucks was 77 days, that of cars was 68 days – not a large difference.

I have added Toyota as a reference.  With Toyota still  importing some 30  percent of the cars it sells in the U.S., one would assume that Toyota�s inventories should be higher. They are not.  Quite interestingly, all four of them had inventory levels slightly above 60 days  in March 2011.  After the Tsunami hit, Toyota�s inventories decreased, but they did not increase a lot in 2012. Lean inventories do not seem to be in favor in Detroit, with GM topping the obesity scale.

P.S.: Before the usual “GM needs to prepare for the truck shutdown” arguments come: In February, GM’s truck inventory stood at 94 days, that of cars stood at 95 days.

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