COOPER TIRE & RUBBER CO CTB
September 28, 2017 - 11:04pm EST by
repetek827
2017 2018
Price: 37.00 EPS 3.4 4.55
Shares Out. (in M): 52 P/E 10 8
Market Cap (in $M): 1,924 P/FCF 12.0 10.0
Net Debt (in $M): 91 EBIT 285 341
TEV ($): 2,015 TEV/EBIT 7.0 6.0

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Description

Long CTB ($37.00)
 
 
Cooper Tire & Rubber Company (NYSE: CTB) is a global manufacturer of tires for the passenger vehicle, light truck/SUV, and commercial market with a focus on replacement demand. CTB is the #5 U.S. tire manufacturer and #12 manufacturer worldwide, with annual sales in 2017 expected to be $3 billion. Sales in its Americas segment account for 82% of revenue and 18% is from its International business. The company’s tires are primarily sold through independent dealers. CTB is positioned as a value alternative to the larger competitors (see Comps table below). The company’s value brands (Mastercraft, Dean, Mentor and Starfire) are priced significantly lower with prices sometimes below $50 for several models. If you check online sites like Tiretab, SimpleTire and TireRack for some popular models , Cooper typically comes in at the low-middle end of the range with Goodyear and Pirelli at the high end.
 
 
Secular forces positive for tire demand
 
Increase in passenger miles driven
 
 
Shift to higher speeds
 
 
Supply and Demand balanced through 2020 in HVA (high value-added tires, 17 inches or
greater in diameter)
            o 115 capacity and 110 mm of demand
 
 
 
Strong Replacement Demand buffers CTB from Peak Auto Risk
 
Cooper’s focus on replacement demand relative to competitors makes its revenue less sensitive
to the cyclical changes in new auto sales. Replacement demand accounts for nearly 80% of sales
in North America and Western Europe. Passenger tires generally are replaced every 4 to 5 years
irrespective of the cycle. The average age for light vehicles in the U.S. is now over 11 years,
signaling a tailwind for replacement demand.
 
 
 
LT margin targets will likely increase due to industry and company-specific drivers
 
 
1) Move to larger size tires (HVA): Gross margin for replacement tires in the 17-inch and larger
sizes is approximately $30/tire according to industry sources compared to $10-15 for
smaller sizes. Cars and trucks are sold increasingly with 17-inch and larger wheels, which will
lead to greater replacement of those sizes over time, further benefitting mix. 80% of
Original equipment business is HVA but only 55% of replacement, so replacement will
naturally gravitate to higher margin HVA tires over time. LMC International projects the
global market for HVA tires to double in size from 222 million units in 2015 to 444 million
units by 2020.
 
 
2) CTB hints at further automation and cost improvement opportunities from “leveraging the
global manufacturing footprint”
 
3) Overseas growth in OE toward an 8-10% margin in China. After selling out of its original CCT
JV, CTB bought into a new arrangement that gives it access to 2.5mm of capacity. This
business is growing and slightly profitable on an operating basis but showing improvement
each quarter y/y
 
4) Increasing push towards higher priced house brand mix (70%) vs private label brand (30%)
 
 
 
 
Why does this opportunity exist?
 
-Expectations have come down meaningfully given the volume declines earlier in the year
 
-CTB gave lower than expected margin guidance as volumes declined8-10% margin now assumed for
the year
 
-Peak auto thesis has tarred the whole space
 
-Persistent promotional environment 
 
 
What’s changed?
 
-Volumes improved for the industry in July and August after being more negative in Q1 and Q2
 
-Tire PPI is up 2%; CTB increases are above that
 
-Raw materials have pulled back materially after flooding in Thailand sent up rubber prices early in 2017
(see graph below) and squeezed margins; the price/raw material differential has turned positive
especially for a LIFO-based company like CTB which increased price in March while others followed later
into May so the volume effect was felt already and consumers should have adjusted by now to a net 3-
4% price increase. At the same time, rubber has turned almost all the way back as depicted below.
 
 
 
 
Source: Bloomberg
 
 
-Stock heavily shorted. 15 days of short interest and 20% of float 
 
-CTB posted a 13.5% margin in 2016 with 22mm in tariff expense on TBR (truck and bus radial) so adjusted margin was more
like 14%; conservative 10% margin assumption in 2018 gets you to $4.55 and that could be conservative
if all the margin gains reverse
 
 
Valuation at lower end of historical range and discount to group despite higher return metrics
 
7 yr. valuation range: P/E (7-10x), EV/EBITDA (3-6x)
 
-Forward P/E of 8x 2018e EPS of $4.55 which is at lower end of historical range with margin
improvement on the horizon and a discount to the peer group (show in Table 1 below)
 
 
 
2018e BASE MODEL
 
Revenues
NA               2750
Intl              580
GM@ 20%    656
SGA             288
Interest        26
EBIT             341
Taxes @33%   113
---------------------------------------
Net income    228
Shares Out.   50
EPS             $4.55
 
 
 
 
 
Comparables Table
 
 
Name Est P/E Current Yr P/E Ratio FY2 EV/EBITDA FY1 EV/EBITDA FY2 P/Book EV/Sales FY1 P/FCF Market Cap
CONTINENTAL AG 13.2 12.0 6.9 6.3 2.9 1.1 23.1 50337.9
DENSO CORP 15.4 14.4 6.6 6.2 1.3 0.9 30.2 40270.7
BRIDGESTONE CORP 13.1 11.8 6.1 5.7 1.7 1.1 #N/A N/A 37235.1
DELPHI AUTOMOTIVE PLC 15.4 14.1 10.3 9.7 9.5 1.8 23.5 27444.9
MICHELIN (CGDE) 13.1 11.7 5.6 5.2 2.2 1.1 30.9 26688.4
MAGNA INTERNATIONAL INC 9.0 8.1 5.4 5.3 1.8 0.6 12.8 19694.6
VALEO SA 14.3 12.6 6.7 5.9 3.6 0.9 17.1 17758.0
LEAR CORP 10.4 9.9 6.1 5.9 3.2 0.6 11.7 11695.4
BORGWARNER INC 13.5 12.6 7.9 7.4 2.9 1.3 19.1 10570.0
FAURECIA 13.5 12.0 4.8 4.4 2.7 0.5 11.1 9577.6
GOODYEAR TIRE & RUBBER CO 10.8 7.8 6.2 5.2 1.7 0.9 21.4 8240.2
CHENG SHIN RUBBER IND CO LTD 18.4 14.9 9.5 8.0 2.5 1.9 #N/A N/A 6505.1
HANKOOK TIRE CO LTD 9.2 7.9 5.9 5.3 1.2 1.3 26.1 6343.2
NOKIAN RENKAAT OYJ 18.2 16.4 11.3 10.3 3.6 3.2 14.5 6021.6
SUMITOMO RUBBER INDUSTRIES 12.5 10.8 6.6 6.0 1.2 0.9 #N/A N/A 4810.8
MRF LTD 20.6 15.0 10.8 8.3 3.1 1.7 71.6 4080.3
YOKOHAMA RUBBER CO LTD 11.3 9.9 7.8 7.2 1.1 1.0 #N/A N/A 3490.0
TENNECO INC 8.9 8.2 5.1 4.8 5.2 0.5 27.4 3167.7
TOYO TIRE & RUBBER CO LTD 10.3 9.1 5.2 4.7 2.1 1.0 #N/A N/A 2804.1
COOPER-STANDARD HOLDING 10.4 9.5 5.3 5.0 2.5 0.7 15.0 1979.5
APOLLO TYRES LTD 14.2 10.3 8.7 6.6 1.7 1.0 #N/A N/A 1950.4
COOPER TIRE & RUBBER 10.6 8.8 4.5 4.1 1.7 0.7 #N/A N/A 1874.9
TOKAI RIKA CO LTD 9.6 9.0 3.2 3.1 1.0 0.4 #N/A N/A 1860.7
HYUNDAI WIA CORP 11.8 7.1 5.5 4.5 0.5 0.3 #N/A N/A 1455.0
NEXEN TIRE CORP 8.8 7.4 5.5 4.9 1.0 1.0 41.4 1121.0
KUMHO TIRE CO INC NA 11.0 15.6 8.9 0.8 1.2 #N/A N/A 693.3
                 
                 
                 
AVERAGE 12.5 10.7 7.1 6.1 2.4 1.1 24.5 9044.2
 
 
 
*Kumho hard-coded at the avg given outlier multiple on low earnings
 
 
 
Where could the stock go?
 
-Implied 2018 EBITDA of $477mm, comparable multiple of 6.0x yields $55/share
 
-As CTB is at the low end of the mkt cap and liquidity spectrum, let’s assume an average group
P/E multiple of 10.5x implies $48/share
 
-Downside protection from already low multiple. If for some reason the cycle turns ugly, EPS
could get as low as $2.50 (.50 higher than last down-cycle in 2013 to reflect operational cost
savings) at a multiple of 12x as multiple usually expands at bottom of cycle, so downside of $30
 
 
-One can argue that CTB should get a premium multiple to comps since Cooper has consistently
achieved mid-teens ROIC and on average 600-700 basis points better than peers Goodyear,
Michelin, and Bridgestone. Cooper also has a long history of paying a consistent dividend of
$0.42/share. In recent years the company began repurchasing its own shares. Shares
outstanding declined 15% from 2013 through 3Q16. The current share buyback program runs
through 2017 with $275mm left and would likely be reauthorized in future years barring a
significant downturn in the tire industry. CTB could retire another 15% of the share base (I
modeled a net 2-3% decrease).
 
 
 
 
Financially Underlevered
 
 
-Negligible net debt ($90mm)
 
-Consistently generates free cash flow in excess of $3.00/share (assumes ongoing capex of $175-180mm excluding higher than avg spend on China in 2017)
 
 
 
Takeout scenario just as plausible now as it was in 2013
-A desire to avoid import tariffs could lead another foreign tire manufacturer to acquire Cooper for its
U.S. operations. The proposed 2013 Apollo transaction valued Cooper at $2.5 billion, which at the time
amounted to a 0.6x revenue multiple, 4.4x EBITDA and a 40% premium for CTB shareholders. A similar
deal would need to be done at a higher multiple in line with current reality of 6.0x or $55ish per above calculation.
 
 
 
 
 
 

 

I hold a position with the issuer such as employment, directorship, or consultancy.
I and/or others I advise do not hold a material investment in the issuer's securities.

Catalyst

-Analyst day in early 2018
 
-Q3/Q4 earnings
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