Brighter H2 Likely For GUD Holdings

This story features G.U.D. HOLDINGS LIMITED, and other companies. For more info SHARE ANALYSIS: GUD

GUD Holdings is confident organic growth in its automotive business will return to historical levels in the second half. Several brokers prefer to wait and see.

-NARVA catalogue and new product could mean strong recovery in the second half
-High-quality automotive aftermarket brands remain potential acquisition targets
-Margin is unlikely to be sustained over the next 3-5 years
 

By Eva Brocklehurst

A sharp deterioration in growth in the company's automotive business underscored the first half for GUD Holdings ((GUD)), as it slipped to less than 4% from an average of more than 8% over the past five years.

The company is confident organic growth will return to over 8% in the second half. Recent trading appears to have been mixed, with Christmas/New Year softer but subsequently rebounding as Ryco achieved record sales in the third and fourth weeks of January.

The company reported underlying earnings before interest and tax (EBIT) in the first half of $43.9m up 9.6%. Operating cash flow was sharply lower, at $2.2m, versus the $16.6m generated a year ago.

Historically, there has been a skew in cash flow to the second half and the Brown & Watson business, the supplier of NARVA automotive lighting and electrical accessories, has experienced a significant lift in inventory, ahead of a new product catalogue that will be launched in the second half.

Ord Minnett suspects some timing issues, such as the release of the NARVA catalogue and new products, could mean a strong recovery occurs in the second half, but prefers to wait and see. The broker acknowledges the organic growth profile is highly valued and expects the market will question the underlying growth dynamics until the second half result is delivered.

Still, accepting there may be one-off timing issues surrounding the NARVA catalogue, greater margin erosion from acquisitions and increased working capital intensity signal to Wilsons incremental returns have likely deteriorated.

Wilsons was disappointed with the first half result and the slowdown in automotive earnings. Increased working capital intensity also contributed to a diminished outlook for the core business and the broker believes the weaker sales growth implies a slowdown in volumes. Wilsons, not one of the eight stockbrokers monitored daily on the FNArena database, has a Hold rating and $11.25 target.

Macquarie finds the defensive earnings profile attractive, given current market conditions as well as organic growth and options regarding acquisitions. Valuation appears undemanding following the sell-off and, over time, the broker expects the company to extract additional synergies/margin from completed acquisitions.

The stock is now attractively priced, UBS agrees, upgrading to Buy from Neutral and suggesting the result is not as bad as the headlines indicate. The lower acquired revenue from AA Gaskets is considered to be a temporary issue. Moreover, cash flow is usually weighted to the second half anyway.

Acquisitions

UBS suggests high-quality automotive aftermarket brands that are not too reliant on sales to either Bapcor ((BAP)) or Repco are potential acquisition targets. The broker envisages mid single-digit top-line growth is achievable in the medium term, without acquisitions.

Nevertheless, UBS suspects margins are unlikely to be sustained over the next 3-5 years. Although the company is expanding its share of wallet with major customers, UBS expects the threat of private-label competition and the move away from internal combustion engine parts will soften margins in the longer term.

Citi separates the discussion into organic growth versus acquisitions. The broker estimates, at the EBIT line, half the 10% growth was organic, which is likely to be flat in the second half. Growth from acquisitions is expected to increase to around 7%, from around 5% in the first half, as AA Gaskets accelerates.

The broker reiterates a Buy rating, although lowers forecasts by -2-5%. Citi envisages several primary drivers for the automotive division, including continued growth in motor vehicle numbers, annual price rises and a positive shift towards more expensive parts over time. Growth of the independent aftermarket channel and gains in market share by the company's primary customers are also envisaged.

The company continues to flag further bolt-on acquisitions in the automotive sector. Citi estimates GUD Holdings could fund via debt up to $80m in acquisitions before reaching the upper end of its target range for net debt/operating earnings (EBITDA). An $80m acquisition at an enterprise value/EBIT multiple of 6.5x represents 9.4% upside to the broker's net profit forecast in FY19.

The database shows three Buy ratings and two Hold. The consensus target is $13.67, signalling 22.6% upside to the last share price. The dividend yield on FY19 and FY20 forecasts is 5.0% and 5.6% respectively.

Find out why FNArena subscribers like the service so much: "Your Feedback (Thank You)" – Warning this story contains unashamedly positive feedback on the service provided.

FNArena is proud about its track record and past achievements: Ten Years On

Click to view our Glossary of Financial Terms