UAW Strike Raises Investor Risks

Also, why Morningstar thinks the Federal Reserve will cut interest rates earlier than projected.Dave Whiston, U.S. autos equity analyst for Morningstar Research Services, says the demands from the UAW strike could bankrupt the Big Three automakers.Apple’s Innovation in Q3

Smucker’s is Growing Its Snacking Portfolio

Morningstar Expects More Deals from Disney

An Unprecedented UAW Strike

What are the UAW Strike Counteroffers?

Advantages and Disadvantages of a Standup Strike

Would Meeting the Strike’s Demands Make the Big Three Automakers Less Competitive?

UAW Strike Risks to Investors

15:54 Ford and GM Stocks

17:21 We Expect Faster Pace of Interest-Rate Cuts Than the Fed

Read about topics from this episode.

Disney and Charter: A New Carriage Agreement Points to Improved Content Strategies https://www.morningstar.com/articles/1180340/disney-and-charter-a-new-carriage-agreement-points-to-improved-content-strategies

Qualcomm: Supply Agreement With Apple Doesn’t Alter Our Long-Term Valuation https://www.morningstar.com/articles/1180169/qualcomm-supply-agreement-with-apple-doesnt-alter-our-long-term-valuation

Smucker: Price Paid for Hostess Looks Fair, but Past Execution Mistakes Worry Investors

https://www.morningstar.com/articles/1180281/smucker-price-paid-for-hostess-looks-fair-but-past-execution-mistakes-worry-investors

What the First-Ever UAW Strike at All 3 Detroit Automakers Could Mean https://www.morningstar.com/stocks/what-first-ever-uaw-strike-all-three-detroit-automakers-could-mean

When Will the Fed Start Cutting Interest Rates? https://www.morningstar.com/markets/when-will-fed-start-cutting-interest-rates

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Read what our team is writing:

Ivanna Hampton https://www.morningstar.com/authors/2399/ivanna-hampton

Preston Caldwell https://www.morningstar.com/authors/2047/preston-caldwell

David Whiston https://www.morningstar.com/authors/766/david-whiston

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Ivanna Hampton: Here’s what’s ahead on this week’s Investing Insights. A historic strike targets “The Big Three” automakers. A look at the risks investors face. Plus – a Morningstar U.S. economist weighs in on the Federal Reserve’s latest rate decision. And – a cash-and-stock deal for an iconic brand crowned some big winners. This is Investing Insights.

Welcome to Investing Insights. I’m your host, Ivanna Hampton. Let’s get started with a look at the Morningstar headlines.

Apple is upping its innovation with its latest iPhones and watches. The tech company continues to show off its expertise and competitive advances in hardware, software, and beyond. Apple's iPhone 15 lineup and prices resemble last year’s models. The 15′s will have faster processors, improved cameras, and a customizable action button. Apple has switched the charging cable interface to USB-C. This could annoy those who use Lightning cables but not keep them from buying the new iPhone. The new Apple Watch Series 9 will have a Double Tap feature. A person can tap their thumb and index finger together on their watch hand. The corresponding tiny wrist movement will then allow them to perform several watch actions, such as answering a phone call or stopping a timer. Morningstar thinks Apple's value sits at $150 per share and modestly overvalued.

Smucker is adding the maker of Twinkies to its snacking portfolio. The jelly maker is buying Hostess Brands in a cash-and-stock deal worth $34.25 per share. It’s a strategic move. Hostess’ sales have grown about 14% per year over the last three years. Its brands hold a leading 10% share in the U.S. packaged cakes market, according to research company Euromonitor. Hostess' convenience store presence complements Smucker's existing distribution. Morningstar believes Hostess investors are the big winners. However, paying full price for Hostess makes it unlikely the acquisition creates value for Smucker. That’s unless Hostess' growth and contributions to the combined company are greater than Morningstar expects. Smucker's investors are hoping this deal doesn't end up like the past disappointments of Big Heart and Ainsworth. Two high-growth assets that drove leverage higher but failed to deliver. Morningstar estimates Smucker’s stock is worth $140.

Disney is taking its first step to better tie its streaming strategy to the traditional television business. Morningstar thinks future deals will mirror the one the entertainment powerhouse struck with Charter Communications. Disney pulled channels including ESPN and ABC from the cable giant last month over a contract dispute. A standoff led to an agreement. Charter will no longer carry second-tier channels, like Disney XD and FXX. However, the Disney+ ad-supported plan will be added to Charter’s most popular television packages. Customers paying for more expensive packages will receive ESPN+ and the full ESPN streaming service when it launches. The deal is meant to slow the decline of cord cutting. The traditional TV business still delivers the most profits across the media industry. Morningstar believes Charter staying engaged in the television business is also a positive. The cable giant has used its position to move media companies in a healthier direction. Content owners like Disney have been locked in a prisoner’s dilemma, where self-interest damages the collective whole.

An unprecedented strike is slowing “The Big Three” automakers’ production. The United Auto Workers or UAW is simultaneously striking against GM, Ford, and Stellantis for the first time ever. Dave Whiston is the U.S. autos equity analyst for Morningstar Research Services. He’s here to discuss what risks investors face from this historic action. Thanks for joining me today, Dave.

Dave Whiston: Thanks for having me.

Hampton: So the strike started last week. What is UAW asking for and then what are the counter offers?

Whiston: Yeah, so there's an awful lot to this strike. Normally, these kind of things are just about wages and maybe one or two other issues. This is about so many different issues, some of which are ultimately, I think, existential to the ultimate existence of the Detroit Three going forward.

Let's start with wages. Obviously, that's a very key one. What do we all get paid? The union basically benchmarked their initial demand of 40%, which is reportedly down to 35% on, I believe it was the increase in just the salaries of the Detroit Three CEOs on average across the 2019 contract that just expired. Automakers, on the other hand, are all countering now. They started around high single digits and now they're around 20, 21 percent so still a big gap there.

Another big issue is what the union calls tiers. You may have seen UAW President Shawn Fain wearing the big T-shirt says End Tiers across. So that's also somewhat known as, depending on who you're talking to, as in progression. Basically, the problem here is you've got two people on the line at a plant doing basically the exact same job, but one person might make the max wage which is a little over $32 an hour generally, and one person may have just started recently and they're only making, I believe, in say high teens to low twenties. The union's wanted to get rid of this for a long time now, the automakers are hesitant to do that because it does keep their labor costs a bit lower than they otherwise would be, and they're still already above Tesla and the transplant automakers.

But the problem is the unions wanting basically after 90 days you would be moved up to max pay. The automakers were initially proposing eight years and they're now down to four years as of our conversation here today. So four years and 90 days is still a really big gap. Personally, I think the right answer is in the middle. I think 90 days is a little too low and four years is way too high, but we'll see how that works out. The union's always mindful of their retirees and their legacy, their history, so they want the people who are already currently retired and getting a pension, they want to get raises for them in the pension payment. They haven't gotten a raise for the retirees in over a decade according to the union.

They want to basically reinstitute the jobs bank with something, I think it's called the Worker Protection Program, or Worker Community Protection Program, where basically if the automakers close a plant, the automakers would have to keep paying employees to do community service in that community. They want a 32 hour work week, but get paid 40 hours to do it. The automakers understandably are not thrilled with that idea because in order to keep output the same, you'd have to hire almost roughly 20% more people, which of course the union would love. They would love to increase their head count.

So there's those issues. Then you've got some incredibly serious issues that probably don't get quite enough attention in the media, which is resuming some bygone benefits, in particular reopening the pension plans, which at most of the firms was closed in fall of 2007. And also, giving everybody retiree healthcare instead of what's currently done through the, it's called the VEBA Fund, where basically now the union is responsible for providing the healthcare for retirees. In principle, I mean, I understand

completely where the union's coming from. They want security and everybody would like a pension and raises and more paid time off and whatnot. But things like pensions in the healthcare would literally add tens and tens and tens of billions of dollars of liability and would need to be funded, and I don't think people understand that.

I mean, as a stock analyst, I can tell you what I would do if I was told GM's got 30 billion in pension liabilities or Ford or whoever. Well, okay, Ford's got 4 billion shares outstanding, take your 30 billion divide by four, and that's how much the fair value [inaudible 00:04:08] holding all its constant, that's how much a fair value changes. It's a massive number and it's just not affordable, it's not realistic. So that's the long answer to your question. The short answer to your question would be, basically in a sentence, the union wants to go back to how things used to be in the glory days when everybody only bought American cars and whatnot, and even factory workers without a college degree, you could come in, start at age 18, retire at age 48, and make a lot of money, have your summer home in Northern Michigan and whatnot, and retiree healthcare and a pension. Unfortunately, I think those days are gone. It's just not affordable.

Hampton: Well, right now they're carrying out so-called standup strikes where workers can walk off the line at a moment's notice. What are the advantages of this type of strike?

Whiston: Yeah, they're called a standup strike because the UAW wants to pay homage to the sit down strikes of, I believe it was 1937 when the union was first getting started. Now basically, instead of everyone striking at the same time, the UAW leadership decides to call on certain UAW locals, which represent various plants and just have them stand up, so to speak, and strike. It's basically what's known as a bottleneck strike, or at least it will be once the spreads to the supplier plants I should say. Right now, it's just assembly plants for each of the Detroit Three.

But the reason they're doing this, even though I don't think UAW leadership wanted to admitted it on the video they did right before the strike started, but they want to preserve the strike fund as long as they can. It's got roughly $825 million in it going into the strike. And so if you strike everyone at once, depending on whether or not the union then pays healthcar e as well, by my estimate, they'd have six to 11 weeks of money. You do it this way, it's more gradual and it gives management an opportunity to perhaps realize, oh, the union's serious about this. And this is what the union's hoping, I think, is management will say, "Okay, they're serious. We better make a deal before they shut down more plants." We'll see how that plays out. I mean, there's an awful lot of liquidity on the automaker side too.

Hampton: And are there some disadvantages to this type of strike?

Whiston: Yeah. I mean, just from watching the UAW President Fain's last video when he announced this plan, there was a lot of tough talk and rah rah language, I guess for a better word. "Let's go after them, let's go after them," and then when this gradual strike format was announced, all the comments in the video I was watching went very negative. It was interesting because President Fain normally spends a lot of time answering Q&A at the end of his prepared remarks and the comments, really responding to things. If you watch the video, he doesn't talk a whole lot because he's scanning and scanning. My guess, he

wasn't seeing anything positive to comment about personally, but he did briefly address why didn't they strike everyone at once, but he didn't mention the strike fund math, and I think that's really important.

The other disadvantage though, other than perhaps a morale impact is that you have various UAW people in different positions. Some are still working and getting paid and everything just like normal, others are on strike and getting their $500 a week in strike pay. But then there are also plants like Ford's Michigan assembly plant that was hit last week with the initial rollout of these standup strikes. That strike at Michigan assembly was only for the final assembly and the paint shop, it wasn't for the whole plant. So I believe it was 3,300 workers were called to strike, the other 600 workers roughly were not, and Ford has since laid off those other 600 workers. So technically, the union doesn't have to give them strike pay, although I've read that they will still give those 600 workers strike pay. But it breaks into the solidarity mode that the union's always pushing, not everyone's the same. But honestly, it would be too much of a gamble to do it all at once.

Hampton: So the Big Three automakers have said that meeting these demands would make them less competitive against other car makers. What's your view?

Whiston: I think certain demands, like a wage increase and whatnot, are possible and certainly affordable to some degree. I mean, I don't know, I think they could do 40% if they had to, I don't think they want to. My concern isn't so much even really on wages, it's on things like a 32 hour work week and reopening the pension and reopening healthcare and the jobs bank program. Although, they're not calling it a jobs bank program, I should say. As I said before, that is literally tens and tens and tens of billions of dollars of extra liabilities and costs at each automaker, and it's just not realistic. You can see some of this from Ford's UAW media guide and my own research on GM. The all-in, including healthcare and bonuses and whatnot, the all-in hourly labor costs is in the mid $60 an hour range, roughly 64, 65 dollars an hour. It's reportedly in the mid 50s at the transplants, such as Toyota, and it's even lower I think in the upper 40s at Tesla.

And on top of that, you've got something that's not getting talked about is Chinese automakers now make really high quality cars, they're just not here in the United States yet. That can always change. If someone's watching this and laughing in that, well everyone laughed at Toyota in 1957 when they came in too and it took Toyota another 10 years to make a really quality car. Their first cars couldn't even make it up roads in the Rocky Mountains, but nobody laughs at Toyota today, it's a very formidable competitor. So I mean, the union's entitled to some increases, I want to be clear. I'm not totally on the side of management just because I work in "Wall Street", but you have to do it in a way that's realistic and makes the Detroit Three stay competitive forever. Because if you don't, you kill the golden goose, so to speak.

And honestly, I mean in my opinion, if you gave the union everything they wanted, such as the pensions and whatnot, you'd probably be sending them on a path to eventually going bankrupt or consolidating again, the Detroit Three. I mean, because to me that would be history repeating. What I mean by that is Detroit's power really peaked in the seventies, and coincidentally so did UAW membership, and over time the Detroit Three's quality suffered, the Japanese got better, eventually you had more Asian competitors and the Germans coming in and getting better.

Hampton: So you've written that investors could face some risks. Talk about those. What are those risks that investors can face?

Whiston: Yeah. So assuming that a strike doesn't go well beyond the Detroit Three and it doesn't impact the whole automotive supply chain to hurt Toyota and Honda and everyone else making vehicles in the United States, you still have the questions then of what does a new contract look like, and then during the strike, how much more debt do the Detroit Three have to take on? Because a little bit of debt is one thing, a lot of debt probably does hurt the stock price, at least in the short term. If you then can resolve the strike favorably, you can probably pay that debt back quickly but then even beyond strike resolution, what does that new contract look like?

It's very clear their unions being much more hard line than they have in the past. They've got different leadership and they have the ability to strike. Whereas say back in, I think it was 2011, they weren't even allowed to strike Chrysler or FCA and GM because of the federal bailout. So they're using their leverage, but it's just a question of how long does this last, and it could last unfortunately, and I really hope I'm wrong here, but I think it's going to last a long time, even in the 2024 possibly.

Hampton: So you cover Ford and GM in your role here at Morningstar. What do you think of those stocks?

Whiston: Well, assuming they can get a competitive contract and move forward in a positive way that everybody can win, I do like both stocks. I think today GM is a five star, Ford is a four star. As I've said in the note, I'm going to wait to see what a new contract looks like most likely before changing any fair value because I don't want to... Otherwise, I think it's just too haphazard to see what are the impacts on say 2023 earnings and beyond, how much is appropriate to lower or raise margins and whatnot.

But I do like GM more than Ford because GM, frankly for years isn't getting enough credit for what they're doing. Second quarter earnings were a great example. They had really a solid, excellent quarter, and the market didn't care one bit. I don't know if that was because they were afraid of the UAW possibly striking or what, but they're doing everything you could ask as an investor, they're beating on consensus estimates, they're getting good free cashflow now, they're even buying back stock again. They did resume their dividend, although it's not back to pre-pandemic levels like it is at Ford, but I'm

positive on both names. GM doesn't get enough credit for their electric vehicle portfolio.

Hampton: All right. Well, thank you Dave for explaining what's at stake.

Whiston: Thank you.

Hampton: The Federal Reserve is going to wait and see. It held interest rates in place at its September meeting and left the door open for another rate hike this year. Morningstar Research Services’ Senior U.S. Economist Preston Caldwell is here to discuss the Fed’s decision.

Thanks for joining me, Preston.

Preston Caldwell: Thanks, Ivanna.

Hampton: So, what’s the big headline from Fed Chair Jerome Powell’s post-meeting news conference?

Caldwell: Well, as you mentioned, the Fed opted to keep the Fed-funds rate unchanged in its meeting today, and that’s the outcome that had been expected by most market participants in the weeks leading up to today’s meeting. So, in that sense, there wasn’t much news from today’s meeting, but everyone is trying to glean insight on what the Fed will do next. At this stage, the Fed has hiked the Fed-funds rate over 500 basis points from where it was in March 2022. And the question is, What impact will that continue to have on the economy? And most importantly, Will it be enough to quell the high inflation that has racked the economy over the last two to three years?

Hampton: Let’s talk about rate hikes and rate cuts. How does the Fed’s projections line up with Morningstar’s forecast?

Caldwell: We continue to expect a faster pace of Fed-funds rate cuts than the current Fed projects. And that’s because we are expecting a faster rate of inflation reduction. We project the inflation rate, core inflation rate in the fourth quarter of next year to be at 1.9%, just below the Fed’s 2% target, whereas the Fed is expecting it to be at 2.6% at that time. And additionally, we’re projecting the GDP growth rate in the fourth quarter of next year to be at 1%, below the Fed’s 1.5% projection. And so, that weaker growth and inflation coming all the way back to normal, I think will be enough for the Fed to actually cut aggressively in 2024 and 2025, pushing the federal-funds rate down to just over 2% by the end of 2025, which is 175 basis points below what the Fed is expecting.

Hampton: Now, Powell kept saying they need to proceed carefully. What should investors take away from this wait-and-see stance?

Caldwell: He has been quite consistent in that attitude over the last six to nine months, let’s say, since the start of this year. He has adopted the approach that the Fed is going to be data-dependent, while always being a bit ambiguous in terms of what data will lead the Fed to ultimately act in which direction. It’s giving the Fed maximum flexibility, and it’s also recognizing the uncertainty of this situation. Again, as I mentioned, the Fed has hiked by 500 basis points, which is the most since 1980. There is very little concrete, high confidence idea of what that’s going to do in the economy. And we don’t think the effects of those rate hikes are anything fully played out yet. And so, the toll of high interest rates will continue to build up in terms of damage to financial institutions and the rest of the economy and the housing sector, as we’re seeing. And so, the Fed is just going to have to play it minute-by-minute and see what happens in terms of the data.

Hampton: And we’ll all be waiting and seeing what they will do. Thanks, Preston, for your time today.

Caldwell: Thanks, Ivanna.

Hampton: Subscribe to Morningstar’s YouTube channel to see new videos from our team. You can hear market trends and analyst insights from Morningstar on your Alexa devices. Say ‘Play Morningstar’. Thanks to senior video producer Jake VanKersen, and lead technical producer, Scott Halver. And thank you for tuning into “Investing Insights.” I’m Ivanna Hampton, a senior multimedia editor at Morningstar. Take care.