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The record charge is essentially a one-off accounting charge, with GM eager to stress that it will not affect its cash position. This means that the firm will not face problems paying suppliers, workers and lenders, but the effect of the announcement on its share price is as yet unclear.

Essentially, when companies incur a loss in one year, they are allowed to carry forward tax assets to a future year to offset taxes on future earnings. These deferred tax assets are carried in the book value of the company.

However, when it appears that those deferred tax assets will not be used in the near future, they must then be written off, resulting in a charge.

More likely than not

The Financial Accounting Standards Board’s Statement of Financial Accounting Standards (SFAS) No. 109, Accounting for Income Taxes, requires that companies assess whether valuation allowances should be established against their deferred tax assets based on the consideration of all available evidence using a “more likely than not” standard.

In making such judgments, significant weight is given to evidence that can be objectively verified. A company’s current or previous losses are given more weight than its future outlook, and a recent three-year historical cumulative loss is considered a significant factor that is difficult to overcome.

General Motors Corp. (NYSE: GM) said it had previously believed that a valuation allowance was not necessary for its DTAs in the US, Canada or Germany. The company based this on several factors, including the degree to which the company’s three-year historical cumulative losses were attributable to special items or charges, several of which were incurred as a result of actions to improve future profitability, the long duration of its deferred tax assets and the expectation of continued strong earnings at GMAC Financial Services and improved earnings in GM North America.

However, according to GM, SFAS No. 109 requires that a valuation allowance should now be established due to more recent events and developments during the 2007 third quarter.

Mortgage business 

A significant negative factor was the company’s three-year historical cumulative loss in the third quarter of 2007 in the US, Canada and Germany on an adjusted basis. Another significant factor was the ongoing weakness at the 49 per cent GM owned finance company GMAC Financial Services, related to its Residential Capital, LLC (ResCap) mortgage business. Income here was down $630 million in 2007 compared with the third quarter last year as a result of continued pressures in the mortgage industry. Finally, the company said it faces more challenging near-term automotive market conditions in the US and Germany.

“The establishment of a valuation allowance does not have any impact on cash, nor does such an allowance preclude us from using our loss carry-forwards or other deferred tax assets in the future,” said Fritz Henderson, GM vice chairman and chief financial officer.

“It’s also important to note that the establishment of a valuation allowance does not reflect a change in the company’s view of its long-term automotive financial outlook,” Henderson added. “GM continues to believe that its new product introductions, combined with the new GM-UAW labour agreement, once fully implemented, will significantly improve GM’s competitive position in the US and better position the company to utilise tax benefits in the US and Canada in the future.”

Announcing its financial results for the third quarter of 2007 on Wednesday, the world's largest car manufacturer reported a net loss of $1.6 billion, excluding the charge, or $2.80 per diluted share, compared to net income of $497 million, or $.88 per diluted share, in the third quarter of 2006.

Founded in 1908, GM today employs about 284,000 people around the world. In 2006, 9.1 million GM cars and trucks were sold globally under the following brands: Buick, Cadillac, Chevrolet, GMC, GM Daewoo, Holden, HUMMER, Opel, Pontiac, Saab, Saturn and Vauxhall. GM's largest national market is the United States, followed by China, Canada, the United Kingdom and Germany.

In the UK, GM employs around 8,000 staff and had a 14.7 per cent market share in 2006. Since 2000 GM has been responsible for the Saab brand in Britain. Chevrolet launched in the UK market in January 2005 and more recently Cadillac and Corvette have been introduced to the British market.

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