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Big Three Automakers: Hold Your Applause

Ford, General Motors and DaimlerChrysler got a boost on Wall Street on Feb. 9. But turnaround stories involve sales improvements as well as cost-cutting plans.

If you buy a stock at the right time, you can make money even if the company has serious problems. Witness General Motors. It soared 58% in 2006, making it the best-performing stock in the Dow Jones industrials last year. It turns out that GM isn't the only non-Japanese automaker that has some supporters on Wall Street. All of the Big Three automakers received analyst upgrades on February 9, pushing their shares up on what was an otherwise bleary day for the stock market.

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Behind the positive comments: A growing consensus that Ford, GM and DaimlerChrysler will likely reach a deal with the United Auto Workers union to cut labor costs, especially health-care benefits.

Deutsche Bank Securities raised its opinion on Ford and General Motors to buy from hold. Shares of Ford (symbol F) climbed 2.1% to $8.73, while those of GM (GM) leaped 6.5%, to $36.01, near its 52-week high. Citigroup echoed the bullish auto sentiment with a similar upgrade for Germany-based DaimlerChrysler stock (DCX). It drastically raised its 12-month target price on Daimler shares, from $58 to $75. The stock rose 2.1%, to $64.09.

The sudden optimism about as troubled a sector as you can find springs from expectations that the automakers will undergo significant restructuring. Bulls believe that the trio will get big concessions on health-care benefits, wages and factory closings from the UAW. Labor leaders are willing to make concessions because they know the Big Three are in dire financial straits and don't want to see one or all of them go bust.

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New contracts should dull foreign automakers' labor-cost edge. Over the past decade, the Big Three have spent an average of $2,500 more per car in labor costs than their more-efficient rivals, according to the Center for Automotive Research. The heft of labor costs weighs on all the Big Three, but their financial circumstances vary.

DaimlerChrysler "was the dog that didn't bark among possible 2006 restructuring plays," says Citigroup analyst John Lawson. He does not see the benefits of a widely rumored sale or spin-off of its U.S.-based Chrysler subsidiary. Nor does he think a rumored alliance with Nissan CEO Carlos Ghosn would fix DaimlerChrysler's problems. "We've grown more optimistic, though do not find convenient solutions," Lawson says. Instead, he predicts that the company will deal with its problems by cutting labor costs and increasing productivity. That in turn will lead to improved profits margins by 2009, he says. DaimlerChrysler is expected to announce its restructuring plans on February 14.

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The big opportunity for improving the bottom line is to find ways to stem rising health-care costs, says Rod Lache of Deutsche Bank Securities. "Until now, we have viewed this rapidly inflating burden as understated in U.S. automakers' financials, severely limiting potential upside for shareholders," he says. "If they reach a health-care solution, U.S. automakers would gain much more flexibility in restructuring and re-sizing their businesses for profitability." Lache has a one-year price target price for GM of $45 and an $11 target for Ford.

Both analysts' forecasts focus on how lower labor costs will aid automakers and their shareholders, but those improvements won't help the U.S. auto industry this year. The Big Three still need to produce compelling vehicles that consumers want to buy. On that front, the picture is murky. With a few exceptions -- notably GM's newly redesigned Sierra and Silverado pickup trucks -- the vehicles Detroit has launched lately haven't sparked a boom in sales. Cost-cutting is only part of the solution for what ails U.S. automakers; innovation is the rest of the cure. Given Detroit's record in satisfying consumers, not to mention the financial health of the companies, you should view an investment in any of these stocks as risky, if not speculative.

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