The share buybacks make sense with this share price. However, one of the risks might be that the FCF deteriorates, which would bring the consequence that more of the FCF would be needed to reduce the debt on the balance sheet in order to keep the EBITDA relative to the debt within appropriate boundaries. This would obviously impact the ability to repurchase shares, which is one of the key drivers in the returns here it seems.
From a FCF deterioration perspective, the revenue seems to be in a increasingly negative trend looking at the revenues on a quarter by quarter basis for the at least the last four quarters. The problem seems to be within Gasoline and Diesel and the lightweight vehicle sales. In addition, it also looks like that management is not really having grip on it, as they are lowering their revenue outlook quarter over quarter – note they started with 0% growth expectation in the beginning of this year, which they reaffirmed following the Q1 figures, while they are currently – disclosed in the Q3 earnings call – are expecting a 11% decrease. It seems that either management is not really in control or that this business maybe is not as predictable as they are trying us to believe. What evidence do you have that revenues will not further decrease?
Finally, they mention that OEM sales is predictable with ~80% being contracted several years in advance. Do you know how they define OEM sales? What is the percentage of OEM sales in total revenues? I wasn’t able to quickly catch this from their disclosures.
What is reassuring for me from the FCF side, is that despite lower sales they actually managed to stay at the lower range of their initial FCF outlook (as well as EBITDA's outlook). Partly due to commodity deflation, which they pass through 100%. And partly due to their flexible cost structure and improving efficiency.
Concerning sales, they were partially caused by commodity deflation (which is OK, since they pass it through and it's even margin accretive). Other part was caused by some weakness in automotive industry (especially Europe and China).
Concerning OEM sales - From latest 10-K: "OEM sales were approximately 86% of our 2023 revenues while our aftermarket and other products contributed 14%."
I have entered an initial position and I will monitor in the next months/quarters, how the situation unfolds. If it's getting better, I'll add more.
I cannot say if automotive industry will get stronger or not next year (probably continued weakness for Europe and ok market for US and China), but I am quite sure that Garrett will be able to navigate through it with solid FCFs.
There is one big caveat to this thesis. For the record, I've followed GTX closely since spinoff in 2018, having done extensive research, and I am still invested with a small position that I'm likely selling within a few of months.
The thing is, the world of auto manufacturing is being somewhat disrupted on a macro level by the raise of China, out of nowhere, as the world's largest producer and exporter of cars. Also, there's a price war in China and competition between brands is extreme. I think all this puts extreme presure on Western OEMs going fwd (I believe we'll see OEMs going bust yet again in the coming years), and they are GTX's main customers. The company has acknowledged this in their last couple of quarterly calls, as well as the fact that they are aware of their IP having been copied by local manufacturers in China, where they have less patent protection resources.
All in all, I think this is a well run company implementing excellent capital allocation policies, but whose (formerly excellent) business is fundamentally impaired going forward. Hence I see fwd returns as 20% from capital allocation, minus some significant % coming from recurring revenue losses (~10% YoY in the last 2 quarters), call it ~10-15% prospective return altogether, not worth the uncertainty in my view, especially for a cyclical industry like autoparts; remember that 80% contracted revenue is contingent on volume sales, so if less customer OEM cars are sold, that revenue will be proportionately lower. I give 0 value to zero-emission tech that probably won't ever amount to much vs their turbo business given the low adoption of BEV mentioned in the article; I actually tend to see those $500M of R&D for zero-emission products as potentially wasted, if we continue down the current path regarding BEV adoption; maybe just an expensive PR exercise targeted at ESG-minded institutional investors when it's all said and done.
I still believe that the worst case provides enough margin of safety (10-15% as you told). Anyway, I have initiated an initial positions for now. And then I'll see how the thesis develops in the next quarters.
With most revenues in europe and asia, wouldn’t GTX be at risk? I most revenues were from USA I would feel safe, but europe and asia can bring declining revenue forever.
I cannot say if the automotive industry will get stronger or not next year (probably continued weakness for Europe and ok market for the US and China), but I still believe that the worst-case scenario provides enough margin of safety. Anyway, I have initiated the initial position. I'll see how the thesis develops in the next quarters.
It is a good business with a horrible balance sheet. FCF yield is more like 10% not 20% - better to use FCF/EV rather than mkt cap. I don't think creditors would be too happy if they used all FCF to buy back shares - surely some has to go to reduce leverage? But yeah, good business, strong market position, EV/EBITDA about 5.5x, 10% FCF yield. May be an opportunity.
Hi Leahi, yes sure, I expect that 300-500 mln will go to repay the debt in the next years to bring them in line with competitors and get to investable rating. I will also reduce very leverage to ~1.5x. Covered it in the capital allocation section.
Hi Maksim,
Thanks for the write-up. Interesting opportunity.
The share buybacks make sense with this share price. However, one of the risks might be that the FCF deteriorates, which would bring the consequence that more of the FCF would be needed to reduce the debt on the balance sheet in order to keep the EBITDA relative to the debt within appropriate boundaries. This would obviously impact the ability to repurchase shares, which is one of the key drivers in the returns here it seems.
From a FCF deterioration perspective, the revenue seems to be in a increasingly negative trend looking at the revenues on a quarter by quarter basis for the at least the last four quarters. The problem seems to be within Gasoline and Diesel and the lightweight vehicle sales. In addition, it also looks like that management is not really having grip on it, as they are lowering their revenue outlook quarter over quarter – note they started with 0% growth expectation in the beginning of this year, which they reaffirmed following the Q1 figures, while they are currently – disclosed in the Q3 earnings call – are expecting a 11% decrease. It seems that either management is not really in control or that this business maybe is not as predictable as they are trying us to believe. What evidence do you have that revenues will not further decrease?
Finally, they mention that OEM sales is predictable with ~80% being contracted several years in advance. Do you know how they define OEM sales? What is the percentage of OEM sales in total revenues? I wasn’t able to quickly catch this from their disclosures.
Best regards,
Harrie
Hi Harrie, thanks for questions!
What is reassuring for me from the FCF side, is that despite lower sales they actually managed to stay at the lower range of their initial FCF outlook (as well as EBITDA's outlook). Partly due to commodity deflation, which they pass through 100%. And partly due to their flexible cost structure and improving efficiency.
Concerning sales, they were partially caused by commodity deflation (which is OK, since they pass it through and it's even margin accretive). Other part was caused by some weakness in automotive industry (especially Europe and China).
Concerning OEM sales - From latest 10-K: "OEM sales were approximately 86% of our 2023 revenues while our aftermarket and other products contributed 14%."
I have entered an initial position and I will monitor in the next months/quarters, how the situation unfolds. If it's getting better, I'll add more.
I cannot say if automotive industry will get stronger or not next year (probably continued weakness for Europe and ok market for US and China), but I am quite sure that Garrett will be able to navigate through it with solid FCFs.
There is one big caveat to this thesis. For the record, I've followed GTX closely since spinoff in 2018, having done extensive research, and I am still invested with a small position that I'm likely selling within a few of months.
The thing is, the world of auto manufacturing is being somewhat disrupted on a macro level by the raise of China, out of nowhere, as the world's largest producer and exporter of cars. Also, there's a price war in China and competition between brands is extreme. I think all this puts extreme presure on Western OEMs going fwd (I believe we'll see OEMs going bust yet again in the coming years), and they are GTX's main customers. The company has acknowledged this in their last couple of quarterly calls, as well as the fact that they are aware of their IP having been copied by local manufacturers in China, where they have less patent protection resources.
All in all, I think this is a well run company implementing excellent capital allocation policies, but whose (formerly excellent) business is fundamentally impaired going forward. Hence I see fwd returns as 20% from capital allocation, minus some significant % coming from recurring revenue losses (~10% YoY in the last 2 quarters), call it ~10-15% prospective return altogether, not worth the uncertainty in my view, especially for a cyclical industry like autoparts; remember that 80% contracted revenue is contingent on volume sales, so if less customer OEM cars are sold, that revenue will be proportionately lower. I give 0 value to zero-emission tech that probably won't ever amount to much vs their turbo business given the low adoption of BEV mentioned in the article; I actually tend to see those $500M of R&D for zero-emission products as potentially wasted, if we continue down the current path regarding BEV adoption; maybe just an expensive PR exercise targeted at ESG-minded institutional investors when it's all said and done.
Just my 2c.
Regards
Hi Fede, thank you for the comment!
I still believe that the worst case provides enough margin of safety (10-15% as you told). Anyway, I have initiated an initial positions for now. And then I'll see how the thesis develops in the next quarters.
With most revenues in europe and asia, wouldn’t GTX be at risk? I most revenues were from USA I would feel safe, but europe and asia can bring declining revenue forever.
Hi Bernardo,
I cannot say if the automotive industry will get stronger or not next year (probably continued weakness for Europe and ok market for the US and China), but I still believe that the worst-case scenario provides enough margin of safety. Anyway, I have initiated the initial position. I'll see how the thesis develops in the next quarters.
Nice Work! Your substack is gold! Hope you write more. Thanks
Thank you very much for your kind words! Another company analysis is in the pipeline. I think I'll publish next week.
Great breakdown. High uncertainty, low risk, pretty much nails it.
Hi, thank you, money machine!
It is a good business with a horrible balance sheet. FCF yield is more like 10% not 20% - better to use FCF/EV rather than mkt cap. I don't think creditors would be too happy if they used all FCF to buy back shares - surely some has to go to reduce leverage? But yeah, good business, strong market position, EV/EBITDA about 5.5x, 10% FCF yield. May be an opportunity.
Hi Leahi, yes sure, I expect that 300-500 mln will go to repay the debt in the next years to bring them in line with competitors and get to investable rating. I will also reduce very leverage to ~1.5x. Covered it in the capital allocation section.
Really complete, precise and interesting analysis. Thank you.
Thank you for the feedback!