July 2017 Stock of the Month: Lear Corporation

Folks, the following is offered as insight into the operation of Camarda’s Portfolio Management Board. A technical sell alert was recently (June 19th) issued for Lear; when this happens, we update the fundamental research, and if the latter does not conclude in a sell recommendation, Dr. Camarda makes the call on whether to sell or hold. In this case, we are holding, based on the below prepared by Dr. Bui.
Lear designs, develops, and manufactures automotive seating and electrical systems and components. Seating components include frames and mechanisms, covers (leather and woven fabric), foam, and headrests. Automotive electrical distribution systems and major electrical and electronic components include wiring harnesses, terminals and connectors, junction boxes, electronic control modules, wireless control devices, interior and exterior LED lighting systems, as well as audio systems and electronics. Over 80% of 2016 net sales were generated outside of the United States. General Motors, Ford, and BMW are the three largest customers.
• Outlook for the auto parts and equipment sub-industry for the next 12 months is positive.
• Its top line and bottom line have seen a steady growth in the past 5 years.
• Both its gross margin and operating margin also enjoyed a stable growth over the past 5 years. Its last 12-month ROE was much higher than that of its industry and the market, 32.4% vs. 19.4% vs. 21.9%, respectively. Its current ROE is higher than its past 5 year average.
• The company also has seen growing and strong cash flows over the past 5 years, while capital spending still sees a steady increase.
• The company managed to reduce its debt. Its current debt level is modest with end-of-last-quarter D/E of 0.57.
• Its current P/E of 9.6 vs. its industry 15.2, and it is trading at EV/EBITDA: 5.71– very attractive.
• The company increased its share repurchase program over the past 5 years.

Compared to our review based on the most recent alert on April 21, 2017 (Camarda maintained a HOLD), the company has had mixed news since: very good on quarterly earnings but caution from analysts on the whole sector- especially the U.S. auto sales.
Q1-2017 EPS of $4.27 beating market’s average estimate by $0.34.
Revenue of $5B (+7.3% on a Y/Y basis) beating market’s estimate by $70M.
The company saw a gross margin rate increase by 20 bps to 11.7%.
Management confirmed 2017 guidance which includes a 5% increase in revenue to $19.5 billion, a 4% increase in adjusted EBIT to $1.6 billion.
Quarterly sales data:
+ Net sales in North America decreased -3.3% to $1.99B
+ Europe and Africa increased +4.8% to $1.92B
+ Asia increased +13% to $923.3M
+ South America increased +86% to $91.7M.
In early June, two analysts had warnings on the U.S. auto sales leading to 2021 helping the underperformance of all companies in the industry. Although the U.S. automobile makers have seen more competition in the U.S. and losing market share in the recent years to foreign car makers, and potential sales reduction in the U.S. market in the coming years, given the company’s products being mostly sold in foreign markets (80% of its revenue), the company still sees growth potential, especially in emerging markets (Europe, Asia and south America like quarterly data showed above). This partly has been reflected through the company’s sale growth, increase in market, high profitability over the past 5 years. As a continuing effort to boost up its international market, in May 2017, the company had a groundbreaking ceremony in Shanghai for its future Asia headquarters and technical center. The company expects the expansion of its Asia-Pacific administrative infrastructure and engineering capability to help it develop new products and grow sales in China and throughout Asia. Its management believes that China is its fastest growing market, and its business in the Asia-Pacific region is expected to continue to grow rapidly. The company’s growth rates will be also supported by a growing global premium-vehicle segment and increasing penetration of automotive electrical and electronic content.
There is some currency risk, and price compression from auto makers M&A activity. In closing, our opinion is that the company has strong cash flow, high profitability, some growth potential, and is trading at a very attractive price multiple – it is a buy or hold at this price point.

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