Traditional carmakers in Europe and the US present buying opportunities
Published in The Edge Markets on Nov 6, 2017.
The market’s misconception about the value of some traditional carmakers in Europe and the US have presented investors with attractive buying opportunities, says Devan Linus Rajadurai, CEO and chief investment officer of Malayan Traders Capital (MTC).
For instance, BMW AG, Daimler Motors Inc (which manufactures Mercedes-Benz cars), General Motors Co (GM) and Ford Motor Co are trading at single-digit valuations despite generating good cash flows. Their share prices are also trading at multi-year lows.
The main reason behind the low valuations is that investors are more focused on the new companies in the electric and autonomous car space such as Tesla Inc, says Devan. “However, they have overlooked the fact that some of the traditional carmakers actually have the same technological capabilities, if not better.”
The sales of electric cars produced by traditional carmakers are currently comparable with Tesla’s. Examples include BMW’s I-Series and GM’s Chevrolet Volt. Electric cars manufactured by traditional carmakers in Asia, such as the Toyota Prius and Nissan Leaf, are also at the top of the electric car sales list.
Devan cites Daimler as an example of a traditional carmaker that has as much technology capabilities as Tesla when it comes to autonomous cars. The German carmaker introduced the prototype of its Future Truck 2025 three years ago.
The autonomous truck allows the driver to put it on “autopilot” mode when it is on the highway. The driver is also able to track the location or condition of the stock on smart pallets, which are powered by the Internet of Things technology.
Meanwhile, BMW has teamed up with US based global technology company Intel to develop autonomous vehicles and GM is developing an autonomous car at its subsidiary Cruise.
Jack Heckett, who took over as Ford CEO in the middle of the year, has announced that the company plans to roll out autonomous vehicles by 2021. In September, the carmaker partnered ride-hailing service Lyft to develop self-driving cars.
Another factor that has contributed to the low valuations of traditional carmakers is investor concern that going forward, the demand for cars will dwindle due to the sharing economy, says Devan. The sharing concept has seen the rise of global community based ride-hailing companies such as Uber, Lyft and Didi Chuxing, which are encouraging people to share cars instead of buying one.
However, Devan believes that there will still be demand for cars from individuals who prefer to drive their own vehicles. Those who drive for these ride-hailing companies will also need to purchase cars, he points out. “At least for now, global car sales are showing signs of growth if you look at the publicly available information.”
According to Statista – an online statistics, market research and business intelligence portal – global car sales increased by 2% and 6.47% in 2015 and 2016 respectively. The figures are projected to increase another 1.65% this year. Despite the success of Asian carmakers such as Toyota and Nissan at producing electric vehicles, long-term investors should focus on European and US manufacturers as they will have a stronger technological advantage if the autonomous vehicle trend takes off in the future, says Devan.
He adds that traditional carmakers in these regions are establishing partnerships with market-leading technology firms such as Alphabet Inc (the parent of Google).This is vital to the research and development of autonomous vehicles as the technological know-how is different from that of traditional cars.
“Other technologies possessed by tech firms also play a role in autonomous cars. One example is mapping. Self-driving cars need this to navigate their way to their destinations. US tech giant Google is good at this. Traditional carmakers would want to partner tech companies and most of them are in the US. European and US traditional carmakers have already established such partnerships with these tech firms, but not the Asian carmakers,” says Devan. Stock picking is vital when it comes to traditional carmakers, says Devan, who is a deep-value investor. “Car manufacturing is a tough business. So, it is important to pick the right company.”
There are two important criteria, he adds. The first is to pick a company with strong branding and high customer loyalty in the market segments it is operating in. That means its customers will remain loyal to the company and the products and services it provides. Second, they should select companies that do not overspend on mergers and acquisitions to develop its autonomous vehicles capabilities. Instead, they should select those that spend prudently by buying small companies that have shown some results thus far at reasonable prices. “These are usually German companies,” says Devan.
The next growth driver
Devan Linus Rajadurai, CEO and chief investment officer of Malayan Traders Capital (MTC}, says two of its funds generated returns of more than 20% in the first half of the year. According to the firm’s website, the MTC Founders Fund – which is registered in Singapore has generated a return of 90.8% (in US dollar terms) since its inception on July 24, 2012.
By comparison, the Dow Jones Industrial Average is up 69.2% while the FBM KLCI is down 20%. In the first half of this year, the fund saw a return of 29.7% while the Dow and FBM KLCI were up 8% and 12.3% respectively.
The MTC Founders Fund is only available to qualified investors and the minimum investment amount is S$250,00. There is a management fee of 1% and a performance fee of 20% on the gain above the high water mark of its net asset value. The fund does not charge any sales fees.
MTC’s Meranti Fund is a wholesale fund registered under the Securities Commission Malaysia. It saw a return of more than 31.9% (in ringgit terms) in the first half of the year, says Devan.
The fund has the same strategy as the MTC Founders Fund and a similar portfolio. However, the key difference is that the Meranti Fund has a mandate to invest 30% of its portfolio in the local market. The fund managers can choose to hold cash if they do not find any good investment opportunities in the local market.
The minimum investment amount for this fund is RM1 million and there is a management fee of 1% and a performance fee of 20%. “Those who invest more than RM5 million with us are only charged the performance fee,” says Devan.
The outperformance of the two funds is partly due to the strong performance of US tech stocks such as Facebook, Apple, Netflix and Google (also known as FANG). The firm has taken profit from some these stocks, which are believed to have reached their fair value, says Devan.
In addition to undervalued traditional carmakers, the next phase of growth lies in brick-and-mortar retail companies that are embarking on the Internet of Things trend and preparing themselves aggressively for it. These include companies such as Macy’s Inc and Gap Inc. Macy’s is a department store operator while Gap is an international specialty retailer that mainly sells casual apparel and accessories.
As at Oct 25, Macy’s was being traded at US$21.35 per share, giving the company a market capitalisation of US$6.47 billion. It has a price-earnings ratio (PER) of 7.84 times and a dividend indicated gross yield of 7.11%, according to Bloomberg.
Gap was being traded at US$27.03 per share, giving the company a market capitalisation of US$10.63 billion. It has a PER of 13.27 times and a dividend indicated gross yield of 3.39%.
“These established companies that are digitalising their businesses have the potential to grow organically in the future. They can be good merger-and-acquisition targets, like how Amazon Inc acquired Whole Foods Market Inc at a 30% premium,” says Devan.