LNR.TO - Linamar Corporation

[rukawa]

Autonomous robot vehicles are just a really shitty version of Uber (since AI drivers are just really shitty humans). So if you want to know how many vehicles they will displace you can know that now.

 

Right now I could simply use Uber to get to work and get rid of my car. But I don't. OTOH I know people who delayed learning to drive or didn't buy cars because they had Uber. Usually these were people who either had unstable jobs and little money or they lived in cities. So I can see vehicle demand being reduced.

[Orchard]

i would say the argument is that once the robot sits in the box, the price will drop significantly convincing people like you to stop driving yourself...

[jfan]

For the few people still interested in auto suppliers.

 

This is linamar's quarterly presentation. https://linamar.com/sites/default/files/reports/Q2%202019%20Earnings%20Call%20Presentation.pdf

 

Missed expectations. But it was nice to see that they have taken the effort to reduce its debt load, hoping to target net debt:EBITDA to 1.25 by the end of the year.

 

Interestingly, looking back at North American Auto sales, https://www.macrotrends.net/1372/auto-and-light-truck-sales-historical-chart

During recession sales drop somewhere between 15-40%.

 

During the 2001 recession, LNR's net income was stable. This, in contrast, to 2009, net income dropped 36%.

 

With the long-term PE multiple being 13, and current PE of ~ 5. I guess the market expects that EPS will drop 38% in the medium term.

 

I guess the magnitude of USMCA, tariffs, and China trade war, talk of recession and other previously discussed disruptive influences would be collectively comparable to the effect of the GFC on earnings in a permanent manner.

 

 

 

 

[kab60]

Considering their three end markets are struggling somewhat (and that they missed expectations), I think they're managing the business very well. I was afraid that negative operating leverage would be worse, but ebitda-margin held up pretty well overall at 15,6 pct. versus 16,9 pct.

 

Apart from missing expectations, which I don't care about, they did postpone their debt paydown. Before they said they'd be at 1xND/ebitda FY19, now it'll be 1,25x. Still expect FCF of 500-700m though.

 

I already have a very large position (20 pct.) which is down 15 pct., but if the market goes crazy because they missed expectations, I will load up further. They're valued cheaper than quiet a bit of auto suppliers, but half of their operating income in H1 was from outside auto.

[UK]

Tariffs/weather issues perhaps are worse than expected/unexpected, but somewhat temporary, but not sure what to think about this:

 

https://www.wsj.com/articles/auto-parts-giant-continental-slams-brakes-on-engine-parts-amid-shift-to-electric-11565165087

 

What if changes are much more faster than LNR expects?

[kab60]

I'd say that's probably priced in already if you do a very rough SOTP and value auto, industrial and agriculture separately (they've lumped the last two together). Page 27 (https://www.linamar.com/sites/default/files/reports/Linamar%20-%20MacDon%20-%20Transaction%20Presentation.pdf) is an easy place to start.

 

I think you can come up with a pretty decent margin of safety even if you expect their auto biz to be completely dead in 10 years and just discount the cash coming in.

 

I think that's wrong on so many levels (increased CPV, increased outsourcing driving TAM growth even if ICE declines, they're growing content for electric vehicles and hydrids etc. etc.), and you'd end up with a pretty uninspiring result, but it's an easy exercise.

 

If that was to happen you'd be left with two higher margin, higher multiple businesses. And quiet a bit of optionality on MacDon (which they're hoping to grow four times by going global).

 

Bull case is that ICE will be here for a long time, their end markets start firing on all cylinders simultaneously, and that they'll be coming out of a cyclical downturn stronger and meaner (and even leaner). Base case is they'll start hitting their guidance and thus grow both sales and operating earnings next year. Bear? The world turns into a giant shit show, and they trip their covenants. I think that's highly unlikely (less than 5 pct.), but if that was to happen, it gives me comfort that their lenders are Canadian Banks (getting paid less than 3 pct.), and Linamar politically seems to be a well connected institution (so who'd dare to pull the plug?).

 

Anyway, regarding their current direction, I think this comment is worth keeping in mind when judging the current performance (even though I think they have a history of being too optimistic in their communication):

 

"The bottom line is Linamar has a strong track record of outperformance and long-term growth, regardless of auto cycles and also a history of quickly reacting to declining volumes by cutting costs, reallocating equipment and aggressively finding new business to grow market share and utilizes both equipment and people. Good evidence of this where we sit today, still generating strong margins and cash flow 3 years into a down market. There are many companies struggling out there. Some are failing and we are actively picking up work from these companies right now, thanks to our strength and our resilience during this auto cycle."

[kab60]

This one is pretty good to come up to speed: https://seekingalpha.com/article/4283690-linamar-standout-amongst-auto-oems

[kab60]

Also, regarding their auto opportunity - check page 18 of their presentation: https://linamar.com/sites/default/files/reports/Q2%202019%20Earnings%20Call%20Presentation.pdf

 

Again, I think they have a history of being overly optimistic in their communication (but generally they've very much delivered), and considering the source one should be highly sceptical, but at least they seem to think their opportunity is 2,5x as big 10 years out (they have a backlog to show for it).

[UK]

Thank you for your reply.

[jfan]

Currently it is a really hated company.

 

I think the odds are on side that things will turn around.

 

However, market sentiment is powerful and alot of people out there are trading technicals, that there is a possibility of continued stock price decline.

 

Certainly it is possible that this will take longer to actualize than we think. In its presentation, these down cycles can last up to 9 years and we are only 1/2 way through in 2020.

 

I guess it depends on the permanent of your capital and your time frame.

 

That said, Skyjack took a number of years to monetize historically but it came out to be a big win. Hopefully, MacDon will be the same.

 

 

 

 

[kab60]

The thing is, things don't have to turn around here to do well.

 

If it stays stable (they guide DD growth) we'll be at 3xev/ebitda next year with very little leverage and 40 pct. of their earnings from outside auto.

 

This for a company with excellent management (look at the presentations - these guys don't waste), with skin in the game (blood actually), that have and expect to continue to grow DD with quiet good returns on invested capital.

 

No idea when/If it rerates, nor what the technicals say, but I very much like the odds.

 

Interview with the CEO: https://www.bnnbloomberg.ca/video/linamar-s-hasenfratz-growing-automation-is-putting-pressure-on-wages~1750231

 

She mentions how she'd like to get some credit for their different businesses (mentions SOTP), and while I think they'll always trade at a sizeable discount to SOTP (most investors like clean stories), I think these levels are crazy.

 

We're getting towards 0,5xBV. Not that it matters very much - there's goodwill and intangbles from acquisitions - but these Guys have been savy buyers historically. MacDon looks badly timed now due to tariffs (market down 19 pct.), but it could get big longer term and possible shift the narrative if/when earnings from industrials and agriculture surpasses auto.

[RadMan24]

How does electrification impact their business?

 

 

[kab60]

:'(It's a secular headwind but then there's a tailwind from OEM's incresingly outsourcing. I'd recommend the presentation and annual reports  (which shows orderbook has grown quiet a lot).

[Spekulatius]

How does electrification impact their business?

 

Most of  their powertrain business will go away. They will have to completely change their product portfolio, which is one of the reasons why Linamar should be trading at a discount. Other car suppliers like Lear don’t have that issue, since future cars still will have seats and Electronics, just to name one example.

[RadMan24]

How does electrification impact their business?

 

Most of  their powertrain business will go away. They will have to completely change their product portfolio, which is one of the reasons why Linamar should be trading at a discount. Other car suppliers like Lear don’t have that issue, since future cars still will have seats and Electronics, just to name one example.

 

My concern as well. I also wonder how does the company benefit in the dual-clutch and hybrid transmission world. Eventually electric cars would entail even simpler transmissions.

[jfan]

How does electrification impact their business?

 

Most of  their powertrain business will go away. They will have to completely change their product portfolio, which is one of the reasons why Linamar should be trading at a discount. Other car suppliers like Lear don’t have that issue, since future cars still will have seats and Electronics, just to name one example.

 

My concern as well. I also wonder how does the company benefit in the dual-clutch and hybrid transmission world. Eventually electric cars would entail even simpler transmissions.

 

Total agree that electrification is a secular trend that is coming. I think the biggest questions are:

 

1) What is the adoption rate of EVs in replacement of ICE? I think this will ultimately depend on the total cost of ownership which in turn is driven by the differential in cost of oil vs electricity as well as the battery cost per weight. The personal choice of helping the environment will likely play a secondary role (interestingly LNR states that the GHG emission for modern diesel engines are marginally worse than BEV engines from well to wheel https://www.autonews.com/assets/pdf/wc-presentations/2019/lindahasenfratz.pdf)

2) Will the outsourcing of ICE drivetrain parts mitigate the decline in annual ICE sales?

3) What is the probability that LNR's management can develop EV products that can help replace some of their declining ICE business?

4) How good is management in leveraging their manufacturing expertise to pivot to other industries (infrastructure, water, age, power, food) to mitigate the declining transportation business? What hidden upside optionalities are there in the business?

 

This leads to the expectations built in the current price and if these expectations are far more pessimistic than reality.

 

Here are some random links that can help give some color.

https://www.visualcapitalist.com/rise-electric-vehicle/

https://www.greenbiz.com/article/tipping-point-electric-vehicle-ownership-costs-undercut-gas-and-diesel-cars-post-2022

https://www.corporateknights.com/channels/clean-technology/faceoff-electric-vs-gas-cars-on-cost-15555966/

https://about.bnef.com/electric-vehicle-outlook/#toc-viewreport

https://www2.deloitte.com/us/en/pages/manufacturing/articles/global-automotive-supplier-study.html

 

Some very rough approximations, if the 2030 global passenger automotive sales are flat ~ 90 million vehicles, and EVs comprise of 30% of the market. That would mean LNR should lose 12% of their total revenue (given 40% of their sales is from transportation and the remainder from industrial) by 2030. If their target net margins are ~ 7%. This would mean they would lose ~ 14% of their total EPS in 2030 due to the decline in their ICE business. This would also assume that OEMs are not increasing their driveline outsourcing, there is no consolidation of the auto supplier space (Continential is moving away from their ICE business as per Wall Street Journal)

Tariffs/weather issues perhaps are worse than expected/unexpected, but somewhat temporary, but not sure what to think about this:

 

https://www.wsj.com/articles/auto-parts-giant-continental-slams-brakes-on-engine-parts-amid-shift-to-electric-11565165087

 

What if changes are much more faster than LNR expects?

and LNR is not about to gain market share. 

 

Furthermore, in their industrial business, their purchase of MacDon although untimely given the China-US trade wars and China-Canada Huawei spat, is at this stage potentially under-earning. This gives some upside optionality to future earnings. Also with the need for infrastructure build globally (at least as per Brookfield Infrastructure's macro view), it would be hard to imagine that Skyjack also does not have anymore upside.

 

At its current price, the market is "expecting" LNR to lost 40-60% of their EPS. How realistic is that?

 

 

 

 

 

 

 

 

 

 

 

 

 

 

[Spekulatius]

You could buy MGA instead, which is much less depends on powertrain and is cheap as well, and has shown a lot of  resilience in margins. They are also family led by Frank Stronach, who is quite and interesting character by himself.

https://en.m.wikipedia.org/wiki/Frank_Stronach

 

It seems to me that MGA better prepared for the automotive future than Linamar, regardless of the adoption of EV.

[kab60]

Really appreciate the pushback, but I don't think there's anything so far that suggest they can't overcome some of the structural headwins through growing content and market development.

 

I think this part from their 2018-report is quiet interesting (and telling);

 

"Continued business wins have resulted in a backlog of nearly $4.4 billion in annualized sales under launch at Linamar today. In fact, 2018

was another record year in new business wins for us and we continue to quote more new business opportunities than we have

ever seen in our history.

New business wins in total for the year were greater than $2.0 billion, with particular success seen around products for e-axles and other

BEV components, huge wins outside NA as we continue to grow our global footprint, numerous cylinder head and block programs, many

fully machined which is a new and exciting market development, several projects with targeted customers such as the French and

Japanese, continued penetration of the opportunistic gear market. In fact, 53% of business wins in the last year were for our facilities

outside NA. 12% were for electrified vehicles, massively higher than the penetration of these vehicles in the market today and the future

for that matter, meaning we are rapidly building our market share and punching way above our weight."

 

There are lots of different estimates out there (and who really knows - I have a Credit Suisse report from 2007, where they said pretty much every car would be an EV today...), but let's say IEA among others are right, and EV gets to 30 pct. share in 2030. Some will be pure EV, others will be hybrid and thus need a transmission.

 

Another thing that comforts me a bit (apart from their track record) is that these a lot of their new business is quiet far out in the future (look at their launch book). Which means they should have pretty good visibility in how things will evolve and thus eventually give them time to pivot if/when necessary (I'd love for them to somehow get into aerospace...).

 

As for Lear, the market already assigns Lear a higher multiple - around 0,5 turn of ebitda.

 

Not sure that is justified.

 

Linamar has higher margins (even in auto), and 40 pct. of Linamars income is from higher quality segments (margins could also suggest making transmissions is better than making seats).

 

Also, Lear seems to be hurting a lot more atm (they're also more exposed to China, so that explains some of it), and they just announced a restructuring that'll cost 200m. In the recent Q, Lear revenue is down 10 pct., net income 45 pct.

 

Linamar NI is down 25 pct., and they still expect to generate 20-25 pct. of their marketcap in FCF (some of it onetime benefits from WC so probably not sustainable, but analysts have them pegged at a 18,5 pct. FCF yield in 2020 - I don't think it'll be that high considering their invesments and growth trajectory).

[kab60]

Yu could buy MGA instead, which is much less depends on powertrain and is cheap as well, and has shown a lot of  resilience in margins. They are also family led by Frank Stronach, who is quite and interesting character by himself.

https://en.m.wikipedia.org/wiki/Frank_Stronach

 

It seems to me that MGA better prepared for the automotive future than Linamar, regardless of the adoption of EV.

Magna looks cheap as well. I'll have to look deeper into that, but one of the things that really attract me to Linamar is that it gets lumped together with all the other auto parts manufacturers, when I think that in ten years time it might look quiet different (and not because auto is completely gone). I think you get quiet a lot of optionality which I like in the hands of good management.

[RadMan24]

Thanks jfan.

 

Electrification is coming - it's superior technology and fun to drive. Transmissions will become simplified - potentially no more than 1 gear in daily drivers. Today you have 10 speeds, so 9 less gears, less weight, less problems.

 

Formula E usually run on 1 gear, although some drivers do have 3 gears, to boost power in the lower speed range.

 

Several new engines were developed recently by Ford and GM - where any of these parts outsourced to Linamar? This includes GM's 2.7L 4cyl turbo, GM's 3.0L inline 6 Duramax Diesel (in addition to Ram's 3L V6 Diesel), Ford's 7.3L Gas V8, GM's 6.6L Gas V8. If there's a segment to be least impacted from electric vehicles for several years, its the truck market.

 

They have booked sales and launches, based on estimated production volume, any insight into what percentage those launches are tied to trucks, suvs, cuvs, and cars?

 

 

[jfan]

You could buy MGA instead, which is much less depends on powertrain and is cheap as well, and has shown a lot of  resilience in margins. They are also family led by Frank Stronach, who is quite and interesting character by himself.

https://en.m.wikipedia.org/wiki/Frank_Stronach

 

It seems to me that MGA better prepared for the automotive future than Linamar, regardless of the adoption of EV.

 

Stronach and family seem to have more political ambitions and focus on their own wealth. Their governance structure has changed alot since they bought Frank out. Now the company I believe is run by professional management where executives and directors own less than 2% of shares. Not sure how much influence the Stronach family still has in the company.

 

I like Linda's story much better. Her father made her work all the different areas in the business to train her to understand the business before she became CEO. They seem to have a much more functional relationship. I prefer to align myself with higher quality founding families that have a skin in the game who can look longer term especially in times of disruption.

 

https://business.financialpost.com/news/a-stronach-family-feud-how-things-fell-apart-between-the-patriarch-and-his-heir-apparent

 

Thanks jfan.

 

Electrification is coming - it's superior technology and fun to drive. Transmissions will become simplified - potentially no more than 1 gear in daily drivers. Today you have 10 speeds, so 9 less gears, less weight, less problems.

 

Formula E usually run on 1 gear, although some drivers do have 3 gears, to boost power in the lower speed range.

 

Several new engines were developed recently by Ford and GM - where any of these parts outsourced to Linamar? This includes GM's 2.7L 4cyl turbo, GM's 3.0L inline 6 Duramax Diesel (in addition to Ram's 3L V6 Diesel), Ford's 7.3L Gas V8, GM's 6.6L Gas V8. If there's a segment to be least impacted from electric vehicles for several years, its the truck market.

 

They have booked sales and launches, based on estimated production volume, any insight into what percentage those launches are tied to trucks, suvs, cuvs, and cars?

 

 

 

Unfortunately, I don't have access to the granularity of this data. Be very interested to find out though.

 

 

[UK]

It seems they started buying back shares quite aggressively under 40, some 17-28 per cent of total volume in the last 4 days?

 

UK

[kab60]

Yes. They're obviously frustrated about where it trades but need to balance buybacks with debt paydown. When they recently guided they kept FCF target for the year but lowered debt reduction some 300m, so possibly that is for buybacks.

[UK]

But at current prices it is more than their currently authorised program and, maybe mistakenly, but I thought nobody expected them to do anything material until leverage <1?

[kab60]

But at current prices it is more than their currently authorised program and, maybe mistakenly, but I thought nobody expected them to do anything material until leverage <1?

I think they're just being opportunistic. They've only bought back modestly since announcing the program, but now it seems they think the value is too high to pass on.