The Month That Was: Automotive Stocks

It has been an eventful August. Earlier in the month, China devalued the renminbi against the U.S. dollar, the biggest one-day currency move in over two decades, in a bid to spark an increase in exports and boost economic growth. And then the country cut interest rates, flooding its banking system with liquidity. Concerns over the contagion effect of the China slowdown on the rest of the world, signs that the U.S. economy might not be doing as well as previously thought, and uncertainty over interest rate hikes, saw the Dow Index plummet 1,900 points, and the S&P 500 Index decline more than 10%, before the six-day losing streak ended last week. The stock market has rallied since, but uncertainties still remain.

The Chinese slowdown has impacted many companies, especially the likes of Volkswagen AG (OTCMKTS:VLKAY), Daimler AG, and Tata Motors (NYSE:TTM), who previously looked at the huge potential of China to derive growth. The world’s largest automotive market has suffered a substantial hit this year, with sales of passenger vehicles declining in both June and July by 3.4% and 6.6%, respectively. Overall, automobile sales are up only 0.4% year-over-year through the first seven months. And volumes are braced to decline again in August. Amid the normalization of the Chinese automotive market, we look at how these companies are placed.

Volkswagen

China forms over one-third the net vehicle deliveries for the entire group, a group that delivers over 10 million vehicles annually across the globe. Hurt by the slowdown, Volkswagen’s vehicle deliveries declined by 5.3% year-over-year through July in the country, more than the 0.4% decline in overall automobile sales. The company is not only losing volume sales due to the lowering demand, but is also surrendering market share to both foreign and domestic manufacturers.

We have a $46 price estimate for Volkswagen AG, which is above the current market price. The stock has declined 6% in the last month.

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The price sensitivity of consumers has increased amid the slowdown and crashing of the stock markets, and the domestic makers have considerably lower price-points when compared with the foreign automakers who import their vehicles, which has benefited them. A tough pricing environment in China, and slight reduction in disposable incomes, has impacted the financials of key foreign automakers, which have lost approximately 3.7 percentage points of market share to domestic manufacturers so far this year in the country. On the other hand, the luxury juggernaut owned by Volkswagen, Audi, has also struggled in China this year, with sales declining 0.3% year-over-year through the first seven months of the year. More of the same could continue this month.

Daimler

A stark contrast to Audi’s downtrend in China has been Mercedes’ growth. Mercedes-Benz has defied the China slowdown and posted a 14.7% year-over-year rise in global vehicle deliveries through July, with a solid 22.7% rise in deliveries in China. The brand expects this trend to continue through the rest of the year, and might not look to increase discounts despite the increased economic volatility. This could protect profitability. In addition, while Mercedes had for around two years trailed its compatriots in terms of operating margins, as of Q2, it has the highest margins among the German big three. Compared to BMW and Audi’s 8.4% and 9.7% operating margins, respectively (the figure for Audi doesn’t include China results), Mercedes’ margins stood at 10.5%.

We have a $91 price estimate for Daimler AG, which is above the current market price. The stock has declined 8.3% in the last month.

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Why the August results might be pivotal for Mercedes is because the brand could very well overtake Audi as the second highest-selling luxury automaker in the world, behind BMW, this year. Mercedes trails Audi by less than 300 units and has the growth momentum.

Tata Motors

The contribution of China to Jaguar Land Rover’s (JLR) net retail sales has decreased from 28% in Q1 fiscal 2015 to 18% this Q1 quarter (ended June), due to a large 33% fall in retail volume sales in the country. The impact of the fall in China demand is also apparent in Tata Motors’ financials. Net revenues fell 6% and profit after tax was almost half of what it was in the last June quarter, hurt by the decline in China sales at JLR, which forms almost 90% of the group’s valuation as per our estimates.

Trefis’ price estimate for Tata Motors is $37, which is above the current market price. The stock has declined a considerable 13% in the last month.

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Volumes continue to be down in July, and could decline again in August. The case with JLR might be bad timing due to the problems in ramping up sales of the Evoque, which is rolling out from a completely new manufacturing facility in China, the first time JLR is building vehicles from scratch outside the U.K. It might take time for the company to speed up production. In order to boost its retail sales, the brand cut the starting price of its China-produced Evoque, is also launching the new Jaguar XF and XJ models this year, and running out the Freelander, which will be replaced by the Discovery Sport. Once the reach and availability of the new locally-built models increase in the country, the company’s sales might begin to turn around, seeing how demand for premium SUVs and Crossovers remains strong. More color would be provided by the August volumes.

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