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Motley Fool: Stay in neutral on auto stocks

Sun., Feb. 15, 2009

In 2008, for the first time in 77 years, Toyota (NYSE: TM) sold more vehicles than General Motors, 8.97 million vs. 8.35 million. Between 2005 and the third quarter of 2008, GM lost more than $70 billion, while Toyota raked in tens of billions, though Toyota is expecting to record its first operating loss in 70 years by the time its fiscal year ends in March.

Survival is all that GM, Chrysler and Ford are thinking about these days. U.S. automakers saw sales fall in December anywhere from 31 percent (for GM) to as much as 53 percent (for Chrysler). Foreign automakers weren’t immune, either, with Toyota off 37 percent, Honda down 35 percent and Nissan off 31 percent.

The real winner will be the car company that’s the smallest, but profitable. Ford started down that road when it sold both Jaguar and Land Rover to Tata Motors and decided to concentrate on making only Fords. GM is looking to reduce its brands to a core of just four: Cadillac, Chevy, Buick and GMC.

Big, small or somewhere in between, the U.S. car market is going to end up in a radically different place. Investors would be wise to steer clear until a carmaker shows that it knows how to sell cars here again.

Ask the Fool

Q: When a company is bought out, should its stock price go up or down? – P.U., Bellingham, Wash.

A: It depends on the deal. If the firm’s current market value is around $5 billion and it’s bought for $10 billion, the stock price may leap up on the news. When a company is very desirable, perhaps due to its products or growth prospects, a buyer may have to outbid other interested companies. But if a firm is struggling, it might get scooped up for a song.

Meanwhile, if investors think that the acquiring company has struck a good deal, its price might also rise. But if they think the company overpaid or won’t see a good return on the investment, the price can fall.

Q: When one company buys another and spends millions of dollars to do so, who actually gets that money? Where does it go? – B.A., Millersburg, Ohio

A: If the acquiring company pays cash, it goes to the shareholders of the acquired firm. There can also be payments to other classes of equity, such as holders of preferred stock. On some occasions, some of the cash tendered may go to debt holders, if part of the purchase price is allocated to buying back debt.

If the acquirer buys with its own stock, then shareholders of the acquired firm will get shares of the acquiring company in exchange for their acquired-firm stock. These shares can be sold for cash, or the shareholders can simply hold on. Companies typically buy other companies for more than their pre-purchase market price, paying a “premium.”

Some purchases involve combinations of cash and stock. In all-stock transactions, no cash trades hands.

My dumbest investment

In 1998, at age 69, I began reading the Wall Street Journal and decided to buy stocks on my own because I was disappointed in my husband’s investment returns. After lots of research and following my picks, I bought into Sun Microsystems, Palm, Oracle, Qwest and AstraZeneca, because it was located near my hometown. After the nosedive in tech stocks, I began reading all the logical explanations. I lost a lot. My husband, very little. With the wind out of my sails, I realized what a rookie I was and that Rome wasn’t built in a day. – V.P., online

The Fool responds: You were smart to research before buying, but you’re right that developing real savvy can take time and some painful lessons. AstraZeneca is holding its own, and some tech stocks such as Oracle have risen significantly since that nosedive. At least you didn’t buy near the peak, in 2000. Perhaps ask your husband what he looks for in his investments. By putting your two heads together, your portfolio might end up doing even better.

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