BMW Group BMW3
November 13, 2012 - 11:12am EST by
flubber926
2012 2013
Price: 44.00 EPS $7.90 $8.50
Shares Out. (in M): 655 P/E 5.6x 5.1x
Market Cap (in $M): 28,820 P/FCF 8.3x 7.9x
Net Debt (in $M): -13,025 EBIT 8,450 8,900
TEV ($): 15,725 TEV/EBIT 1.9x 1.7x

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  • Automobiles
  • Manufacturer
  • Germany
  • Brand
  • Dividend yield
 

Description

BMW is well known for the quality automobiles and motorcycles it produces.
 
I've read more than one research paper where BMW's merits as a "luxury brand" were discussed. I have no intelligent answer as to weather this is a luxury company or not. My personal opinion is that given the natural cyclicality of any and all car manufacturers, even though BMW is certainly in the "premium" segment it lacks the defensive characteristics that a true luxury brand might have.
 
Having said this, BMW is without doubt well established as a premium car manufacturer and I do believe that it's consistent profitability and higher margins vis-a-vis global competitors should warrant a premium valuation to the sector. It's automobile brands Mini, BMW and Rolls Royce are all well established in their corresponding categories.
 
The opportunity here described applies when purchasing BMW's preferred, non-voting shares which currently trade at a 30% discount to the ordinary shares even though they both have the same economic rights.
 
The company just published an excellent presentation (Nov 2012), which I encourage anyone interested in further examining this business to read.
Link: http://www.bmwgroup.com/bmwgroup_prod/d/0_0_www_bmwgroup_com/investor_relations/_pdf/InvestorPresent_November_2012.pdf
 
Furthermore, the company's annual reports are particularly insightfull and well written. Amply discussing the company's oportunities without neglecting to talk about the challenges that it faces ahead.
After reading  their annuals you get a sense of the management who's in charge of this company and digging further it becomes evident that this family-owned business without doubt runs BMW with the long term in mind, seeks to add value for sharelholders through time and most importantly, has a track record of having done just that in the past.
 
The 2011 annual:http://annual-report2011.bmwgroup.com/bmwgroup/annual/2011/gb/English/pdf/report2011.pdf
And the 2010 annual report: http://bmwgroup.com/bmwgroup_prod/e/0_0_www_bmwgroup_com/investor_relations/finanzberichte/_pdf/BMW_Group_AR2010.pdf
 
I prefer straight to the point ideas where the thesis is laid out flat, the opportunity for the mispricing explained and where an ample arread of information is available for me to do my own research.
 Thus I will do my best to layout the core points of this investment thesis and let you delve further into the business per-se and conduct your research.
 
BMW is both a very profitable car and motorcycle manufacturer and a financial services company.
The company's automobile business operates with average ROIC's of 45% while the financial services division ROE is just around 21%.
 
So the first question one would ask is the current state of the world automobile market. The world can still produce roughly 80 million cars every year while today's demand is for about 60 million.
In the US although auto sales have rebounded, the current state of demand for 12-14 million vehicles is still far away from the 18 million cars we used to produce.
Europe buys around 14 million cars and falling with no clear stabilization so far. (Italy by far being the most hit market, followed by Spain)
Whereas China has become the largest car market in the world with roughly 18 million vehicles production. Estimates are that China will grow to be a 32 million market by 2020.
India, the south east Asian economies, Russia, the Middle east and Latam (specially Brazil and Mexico), all are growing markets as well.
Thus emerging economies growth are more than compensating for the developed markets decline in the global landscape of automobile production.
 
The company's strong brand has made it possible for BMW to grow sales from €55 bn in 2007 (the last peak), to roughly €70 bn today while basically doubling ebit and net profit. Meaning both growth and margin expansion. I see no reason for this not continuing.
 
As for growth opportunities, it is my belief the company is very well positioned to take advantage of them.
Take China as an example- according to Global Insight, China's premium segment will have the highest worldwide CAGR of 11.3% in the 2011-2020 period. This of course due to higher per capita income, a fast growing upper middle class and the country's urbanization (according to McKinsey estimates 350 million people will be added to China's urban population by 2025). 
 
BMW has been in China for many years now.  BMW Financial Services began operations in China in 2010 although a mayority of its sales in that country are still done without financing. As for production, the state of the art plant in Shenyang (engine assembly, series 3 and 5) is no different technologicaly speaking than their Dingolfing or Munich facilities, albeit being much smaller in production capacity. There are 332 BMW and 76 Mini dealerships in the country as of now, thus BMW enjoys an unparallel distribution network (comparable only to Audi's).
 
We've only discussed China (with justification since BMW's sales in China are set to surpass their US sales in 2012 and thus become their number 1 market), however the oportunities ahead in India, South Korea, Russia, Turkey, Eastern Europe and Latin America are equally attractive.
 
As for the lifecycle of their model portfolio, it is not until 2016 that the company expects a high renewal rate and additional models to be introduced (the BMW Activehybrid, Active E and BMW i3 and i8 are all to be introduced in coming years).
 
Allow me to skip to BMW's current valuation:
 
Shares outstanding (voting+preffered non-voting): 655 mm
Price (BMW3): €44
Market Cap:  €28,820
- Cash and equivalents:    €6,927
- Marketable securities:     €2,134
- Net financial receivables from FSS: €4,620
- Net financial receivables from other entities: €2,390
+Financial liabilities:  €3,046
Enterprise value:  €15,725
-Financial services segment (at book value): €7,169
Core Enterprise Value: €8,626
Automotive division FCF: €3,494
Core EV/FCF: 2.4x
 
Dividend per-share: €2.32
Dividend yield: 5,2% 
 
Thus you can buy this premium company, who enjoys a wide moat within the industry and with very appealing growth prospects ahead at what in my opinion is a ridiculously low valuation.
 
A couple points to be made:
 
With regards to BMW Financial Services- we value BMW FSS at book value in order to lend further safety to our valuation. It is my opinion that a FS company whose consistently earned close to 20% ROE with a negligible credit loss rate (0.51% currently and at the peak of the financial crisis 0.84%).
We strip out the value for valuation purposes but without doubt BMW's FSS division is fundamental to the group's strategy in many ways (the average replacement rate of a buyer using financing vs a cash buyer is double and brand loyalty is also higher, 75% vs 63% plus buyers who are financing their purchase tend to add 40% more in additional optional equipment vs a cash buyer).
 
Other liabilities (namely pension obligations)- BMW has fully funded its pension obligations, no hidden liability here.
 
Having said all the real question is how much is this company worth?
I believe a company such as BMW should be worth no less than 12 times normalized free cash flow.
If we use the company's guidedance of FCF for the automobile division (which has historically been quite conservative), for the automobile division of €3 bn, that yields a €36 bn enterprise value. Add back cash plus BMW FSS at book value and we get a market cap of roughly €56 billion or roughly €86 per share.
If we get there in three to five years that would yield an annualized return of between 17 and 28% plus the dividends received (5.2% yield), which I expect to actually increase over time.
 
As to why is the stock trading at such a valuation I have no intelligent insight other than it being part of a disliked sector headquartered in Europe where automobile sales are most likely to continue suffering for some time.
 
 
 
 
I do not hold a position of employment, directorship, or consultancy with the issuer.
I and/or others I advise hold a material investment in the issuer's securities.

Catalyst

Valuation
Share class homologation (preferreds+ords)
    sort by    

    Description

    BMW is well known for the quality automobiles and motorcycles it produces.
     
    I've read more than one research paper where BMW's merits as a "luxury brand" were discussed. I have no intelligent answer as to weather this is a luxury company or not. My personal opinion is that given the natural cyclicality of any and all car manufacturers, even though BMW is certainly in the "premium" segment it lacks the defensive characteristics that a true luxury brand might have.
     
    Having said this, BMW is without doubt well established as a premium car manufacturer and I do believe that it's consistent profitability and higher margins vis-a-vis global competitors should warrant a premium valuation to the sector. It's automobile brands Mini, BMW and Rolls Royce are all well established in their corresponding categories.
     
    The opportunity here described applies when purchasing BMW's preferred, non-voting shares which currently trade at a 30% discount to the ordinary shares even though they both have the same economic rights.
     
    The company just published an excellent presentation (Nov 2012), which I encourage anyone interested in further examining this business to read.
    Link: http://www.bmwgroup.com/bmwgroup_prod/d/0_0_www_bmwgroup_com/investor_relations/_pdf/InvestorPresent_November_2012.pdf
     
    Furthermore, the company's annual reports are particularly insightfull and well written. Amply discussing the company's oportunities without neglecting to talk about the challenges that it faces ahead.
    After reading  their annuals you get a sense of the management who's in charge of this company and digging further it becomes evident that this family-owned business without doubt runs BMW with the long term in mind, seeks to add value for sharelholders through time and most importantly, has a track record of having done just that in the past.
     
    The 2011 annual:http://annual-report2011.bmwgroup.com/bmwgroup/annual/2011/gb/English/pdf/report2011.pdf
    And the 2010 annual report: http://bmwgroup.com/bmwgroup_prod/e/0_0_www_bmwgroup_com/investor_relations/finanzberichte/_pdf/BMW_Group_AR2010.pdf
     
    I prefer straight to the point ideas where the thesis is laid out flat, the opportunity for the mispricing explained and where an ample arread of information is available for me to do my own research.
     Thus I will do my best to layout the core points of this investment thesis and let you delve further into the business per-se and conduct your research.
     
    BMW is both a very profitable car and motorcycle manufacturer and a financial services company.
    The company's automobile business operates with average ROIC's of 45% while the financial services division ROE is just around 21%.
     
    So the first question one would ask is the current state of the world automobile market. The world can still produce roughly 80 million cars every year while today's demand is for about 60 million.
    In the US although auto sales have rebounded, the current state of demand for 12-14 million vehicles is still far away from the 18 million cars we used to produce.
    Europe buys around 14 million cars and falling with no clear stabilization so far. (Italy by far being the most hit market, followed by Spain)
    Whereas China has become the largest car market in the world with roughly 18 million vehicles production. Estimates are that China will grow to be a 32 million market by 2020.
    India, the south east Asian economies, Russia, the Middle east and Latam (specially Brazil and Mexico), all are growing markets as well.
    Thus emerging economies growth are more than compensating for the developed markets decline in the global landscape of automobile production.
     
    The company's strong brand has made it possible for BMW to grow sales from €55 bn in 2007 (the last peak), to roughly €70 bn today while basically doubling ebit and net profit. Meaning both growth and margin expansion. I see no reason for this not continuing.
     
    As for growth opportunities, it is my belief the company is very well positioned to take advantage of them.
    Take China as an example- according to Global Insight, China's premium segment will have the highest worldwide CAGR of 11.3% in the 2011-2020 period. This of course due to higher per capita income, a fast growing upper middle class and the country's urbanization (according to McKinsey estimates 350 million people will be added to China's urban population by 2025). 
     
    BMW has been in China for many years now.  BMW Financial Services began operations in China in 2010 although a mayority of its sales in that country are still done without financing. As for production, the state of the art plant in Shenyang (engine assembly, series 3 and 5) is no different technologicaly speaking than their Dingolfing or Munich facilities, albeit being much smaller in production capacity. There are 332 BMW and 76 Mini dealerships in the country as of now, thus BMW enjoys an unparallel distribution network (comparable only to Audi's).
     
    We've only discussed China (with justification since BMW's sales in China are set to surpass their US sales in 2012 and thus become their number 1 market), however the oportunities ahead in India, South Korea, Russia, Turkey, Eastern Europe and Latin America are equally attractive.
     
    As for the lifecycle of their model portfolio, it is not until 2016 that the company expects a high renewal rate and additional models to be introduced (the BMW Activehybrid, Active E and BMW i3 and i8 are all to be introduced in coming years).
     
    Allow me to skip to BMW's current valuation:
     
    Shares outstanding (voting+preffered non-voting): 655 mm
    Price (BMW3): €44
    Market Cap:  €28,820
    - Cash and equivalents:    €6,927
    - Marketable securities:     €2,134
    - Net financial receivables from FSS: €4,620
    - Net financial receivables from other entities: €2,390
    +Financial liabilities:  €3,046
    Enterprise value:  €15,725
    -Financial services segment (at book value): €7,169
    Core Enterprise Value: €8,626
    Automotive division FCF: €3,494
    Core EV/FCF: 2.4x
     
    Dividend per-share: €2.32
    Dividend yield: 5,2% 
     
    Thus you can buy this premium company, who enjoys a wide moat within the industry and with very appealing growth prospects ahead at what in my opinion is a ridiculously low valuation.
     
    A couple points to be made:
     
    With regards to BMW Financial Services- we value BMW FSS at book value in order to lend further safety to our valuation. It is my opinion that a FS company whose consistently earned close to 20% ROE with a negligible credit loss rate (0.51% currently and at the peak of the financial crisis 0.84%).
    We strip out the value for valuation purposes but without doubt BMW's FSS division is fundamental to the group's strategy in many ways (the average replacement rate of a buyer using financing vs a cash buyer is double and brand loyalty is also higher, 75% vs 63% plus buyers who are financing their purchase tend to add 40% more in additional optional equipment vs a cash buyer).
     
    Other liabilities (namely pension obligations)- BMW has fully funded its pension obligations, no hidden liability here.
     
    Having said all the real question is how much is this company worth?
    I believe a company such as BMW should be worth no less than 12 times normalized free cash flow.
    If we use the company's guidedance of FCF for the automobile division (which has historically been quite conservative), for the automobile division of €3 bn, that yields a €36 bn enterprise value. Add back cash plus BMW FSS at book value and we get a market cap of roughly €56 billion or roughly €86 per share.
    If we get there in three to five years that would yield an annualized return of between 17 and 28% plus the dividends received (5.2% yield), which I expect to actually increase over time.
     
    As to why is the stock trading at such a valuation I have no intelligent insight other than it being part of a disliked sector headquartered in Europe where automobile sales are most likely to continue suffering for some time.
     
     
     
     
    I do not hold a position of employment, directorship, or consultancy with the issuer.
    I and/or others I advise hold a material investment in the issuer's securities.

    Catalyst

    Valuation
    Share class homologation (preferreds+ords)

    Messages


    SubjectRE: Questions
    Entry11/14/2012 03:34 AM
    Memberflubber926
    Sure, the 5.2 yield is on the prefs. The ords yield around 3pct. Adiscount historical discount, it's been as high as 40pct as low as 5pct. Unfortunately other than the dividend difference I see no immediate catalyst fothey're discount to close although there's been a recent trend for European companies to convert to a single class structure.
     

    SubjectBMW preferreds - anyone still following?
    Entry02/17/2015 11:32 AM
    MemberElmSt14

    Flubber (or anyone else) - why do you think this large discount on the BMW prefs still exists?  The obvious answer is "liquidity" but these preferreds are not THAT illiquid enough (in my view) to warrant a 25% discount to the common, especially if you compare it to VOW/VOW3 or to most liquid/illiquid dual class structures of major US companies?  Shouldn't EUR6mm/day be enough liquidity to close a 25% gap?  Just to show a few comparison points below:

     

    While the BMW prefs are up 80% from flubber's write-up (congrats on a great call), you could argue that they are still pretty cheap:

     


    SubjectRe: BMW preferreds - anyone still following?
    Entry02/18/2015 10:50 PM
    Memberflubber926

    ElmSt-

    I completely share your views. I agree that the preferreds are no longer illiquid enough so as to warrant such a high discount vs the commons. My expectation was that the gap would close in part because of the added yield of the preffs but that evidently has yet to be the case. 

    In my opinion BMW is still a great long term holding (even after the Jan-Feb rally we've seen) but we've been switching part of our position out of the ords and adding to the preffereds. There is no real economic reason for such a gap to exist and it should eventually close, in the meantime as you smartly put out you can end up buying BMW at around 5 times earnings pre-cash and about an 18% free cash yield.

    We bought part of a large block in the preffereds around September. The block was offered when a large European fund trimmed it's position after some hefty gains. At the time we heard some chatter about that fund selling it's position and thus creating an overhang.It is my understanding that most of the large holders are now in ords so that overhang is gone.

    I wish I could give you a better answer but I don't have one at the moment. I've been hearing that managament is more seriously considering a US listing. Fiat's stock performance after their recent US isting might have created a positive precendent. If that is to happen perhaps it would make sense to migrate to a single class structure before listing in the US. As I am sure you are aware BMW does not have a great history with buybacks but as their cash position keeps growing and with their consistent cash flow, a re-purchase of part of the preffereds could make sense. Pure speculation though.

     

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