Australia | Jul 30 2021
This story features EAGERS AUTOMOTIVE LIMITED. For more info SHARE ANALYSIS: APE
Tailwinds show no signs of abating for Eagers Automotive as its order book continues to exceed supply, enabling full margins to be maintained
-Benefits of stimulus payments, credit conditions and tax incentives prevail
-Demand/supply should become more balanced in 2022
-Equally strong second half envisaged
By Eva Brocklehurst
Trading conditions continue to benefit Eagers Automotive ((APE)) along with the seasonal uplift from financial year-end sales. Earnings strength is equally about demand as it is about pandemic-induced supply constraints of new vehicles.
First half underlying operating profit pre-tax is $218.6m, which the company attributes to savings extracted during 2020 and ongoing synergies from the merger with Automotive Holdings. Furthermore, demand continues to outstrip supply and volumes have recovered from lows experienced during the height of the pandemic.
First half guidance implies a full year underlying net profit run rate of around $437.2m, Morgans calculates, noting OEM (original equipment manufacturer) bonuses tend to be larger in December compared with other months.
UBS was impressed with the 30% increase in profit half-on-half, given the prior half already benefited from tailwinds such as stimulus payments, improved credit conditions and expanded tax incentives. The main issues going forward are how long demand remains elevated and when supply pressures will ease.
The broker notes new vehicle sales in the first half were 2% above the 2019 corresponding half and current lockdowns are likely to further impact these sales in July and August.
Morgans calculates finance and insurance has increased pre-tax profit by $2.5m for every 1% move up in penetration rates. Assuming penetration can move to 60% from around 40%, which is still below the US/UK average of 80%, this would create a $50m pre-tax profit opportunity.
The broker points out demand should reach equilibrium in 2022 leading to a normalisation of margins. Beyond this point, downside can be limited through additional cost reductions and efficiency opportunities.
Macquarie continues to envisage further upside risk to consensus expectations for 2022, noting on its forecasts Eagers is trading on 18x 2022 price/earnings, which implies a -22% discount to the small industrials compared to a +4% five-year average
To put demand in context, Morgan Stanley flags 2021 new vehicle sales are annualising at around 1.1m, well within historical ranges and above 2019. The broker notes the peak of 1.19m in new vehicle sales in 2017.
Moelis suspects the Sydney lockdown will be relatively muted in terms of its impact, as Sydney represents only around 15% of the company's overall sales. While there is likely to be some impact on service income, the company can reduce staffing costs to partially offset this.
The broker also notes, during the Melbourne lockdown, the drag on business was -$5m in pre-tax profit per month. Hence, a less strict lockdown in Sydney should ensure a lesser drag.
On the supply side, uncertainty exists around semiconductor shortages although some vehicle manufacturers are starting to find signs of improvement. Still, the spread of the delta variant creates potential for substantial disruptions in global supply chains and further delays to shipping.
Motor vehicle data for June was slightly disappointing, Macquarie points out, and there were concerns supply constraints could become more of an issue, although this first half earnings performance should alleviate some of those concerns.
Supply constraints, all up, are manageable and should support margins, the broker adds. Moelis too believes the supply tightness in June was purely about timing and the company's forward order book, written at full margins, should deliver an equally strong second half.
Credit Suisse believes the focus going forward will be the extent on which margin impacts from new car supply will normalise and be offset by further cost efficiencies, while the ongoing impact of pandemic restrictions add complexity.
The broker suggests the fading tailwind from the demand/supply imbalance will tempered by the lockdowns and this results in a 19% upgrade to 2022 estimates for earnings per share.
Beyond this, upgrades are less pronounced, as Credit Suisse continues to expect a moderation in unit sales margins, offset by better volumes. The broker also incorporates the recent divestment of Daimler Trucks and property, which results in a virtually debt-free balance sheet, providing options for further strategic acquisitions or capital management.
UBS believes if a 4.0% margin can be maintained there is around 24% upside to its estimates, and this could offset a -19% drop in 2022 revenue forecasts. The company's previous peak in pre-tax margins was 3.5%.
Morgans suspects the market is underestimating the company's ability to sustain structurally higher margins in future years, as cost reductions have become entrenched and there are other drivers that Eagers Automotive can control, such as acquisitions and property.
Moelis agrees there are further property rationalisation opportunities within the lease portfolio that should support margins in the short term. The broker, not one of the seven stockbrokers monitored daily on the FNArena database, has a Buy rating and $18.73 target for Eagers.
The database has five Buy ratings and one Hold (Credit Suisse). The consensus target is $17.63, suggesting 6.9% upside to the last share price. Targets range from $16.10 (Credit Suisse) to $19.20 (Morgans).
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