Cash stories have been a compelling story line in the auto suppliers’ space for quite some time now, and for good reason – there is no shortage of automotive suppliers that offer low levels of leverage combined with respectable free cash flow prospects.
Industry wide graphical view
Before we discuss which companies are viewed as the best cash stories to invest in, we need to have some idea about where the industry is going in terms of its cash resources by exploring what are the debt levels, how are cash flows coming, how much of them are being distributed to the shareholders and so on. The following four metrics will help us to get a glimpse of the cash-related situation in this industry:
a) Net debt/EBITDA
b) Free cash flow (FCF) margins (calculated as FCF/sales)
c) FCF yields
d) Net cash (debt)/market cap (a good relative metric in terms of comparing according to the size of the companies)
The following four graphs show the situation on a pair axes:
In the first graph, a negative value means that the company’s cash resources exceed its debt (i.e. under-levered). It is interesting to note that several players in this industry are under-levered.
The next graph shows that most of them offer decent free cash flow margins:
The next graph shows that the FCF yields are also high for most of the players:
The last graph shows the net cash (debt)/market cap ratio for these players:
Which companies come into the limelight?
In addition to the low leverage and solid cash flow profiles available, a number of suppliers have also demonstrated a willingness to return cash to shareholders. In particular, BorgWarner, Dana Holding Corporation (NYSE:DAN), Delphi Automotive, Lear Corporation (NYSE:LEA), and TRW Automotive Holdings Corp. (NYSE:TRW) are the most compelling “return of cash” stories. Given that these stories are not new to investors, it will be worthwhile to consider the stage we are in for each of these stories.
Is the cash story at Lear over?
For Lear Corporation (NYSE:LEA), the cash story is largely reflected in the current stock price (the stock is up 30% since the start of the year), and not much upside related to cash is expected in the future. Activist investors Marcato Capital and Oskie Capital were appeased when Lear accelerated its prior $1 billion share-buyback program and instituted an additional $750 million program. Moreover, Lear Corporation (NYSE:LEA) increased the rate of acceleration on its $1 billion buyback program, effectively retiring ~12 million shares shortly after the 1Q print via a repurchase agreement with a financial institution. Although free cash flow improvements can be seen over the coming years, it’s highly possible that this is largely reflected in the stock price.