PEUGEOT SA PUGOY
January 18, 2017 - 9:03am EST by
tharp05
2017 2018
Price: 17.00 EPS 2.04 2.14
Shares Out. (in M): 858 P/E 8.3 7.9
Market Cap (in $M): 15,604 P/FCF 9.6 9.5
Net Debt (in $M): -4,880 EBIT 3,125 3,222
TEV ($): 10,724 TEV/EBIT 3.2 3.1

Sign up for free guest access to view investment idea with a 45 days delay.

 

Description

Peugeot manufactures and sells cars under the Peugeot, Citroen and DS brands.  It also owns 47% of the Faurecia automotive equipment business (interiors, seating, emissions control).  The company is based in Paris, France.

Revenue & EBIT margin, by segment

Revenue mix by geography

 

Peugeot is one of the oldest auto manufacturers in Europe.  Despite being smaller than many peers, performance has dramatically improved in recent years following the hiring of CEO Carlos Tavares in November 2013.  After dramatically improved earnings and a balance sheet solidifying €3B capital raise, the business trades at a ~3x EV/EBIT.

While auto manufacturing is a tough business with many variables outside management’s control, performance actually appears to be improving while the business trades at a very low multiple.  Despite sustainable cost improvements won over the last few years, if we assume 3% long-term median EBIT margins, the business currently trades at 5.0x EV/EBIT.  A mid/high single digit multiple is probably more appropriate, implying nearly ~50% upside.  If we assumed long-term auto margins at 6%, per management guidance and near current levels, upside is even greater.  This business appears to be very inexpensive given its improving performance.

 

Thesis rests on the following key pillars:

  1. New management has instilled a remarkable cultural shift in a few short years, which should continue to benefit shareholders

  2. Balance sheet dramatically improved due to joint venture of financing operation, improved business performance and equity raise

  3. Operational improvements offer proof that 1 & 2 are having an impact

  4. Trades at a significant discount to peers and historical levels despite turnaround that is already underway.

 

In addition to the above, this formerly family controlled company is now equally owned by 3 key shareholders: Peugeot family, French state and Dongfeng Motors, at ~13% each.  While not central to the thesis, the Peugeot family ceding its controlling stake likely increases the likelihood of Peugeot eventually becoming a takeover candidate.

 

How we got here / New CEO

After more than a decade of mixed management performance, Peugeot was fortunate to hire Carlos Tavares, formerly COO of Renault.  Tavares had been with Renault 30+ years and is a protégé of industry icon Carlos Ghosn—before his appointment, he was widely regarded as one of the industry’s most talented non-CEO executives and the heir apparent CEO at Renault.  He became available due to unusual circumstances where he gave a Bloomberg interview lobbying for a CEO job, and was soon fired by Ghosn.  As a testament to his quality, Peugeot quickly moved to replace their leader with the newly available Tavares.

In appointing Tavares, the Peugeot-Citroen board has made a shrewd move.  Portuguese-born Tavares is a great product man (his first job with Renault was as a test driver)…He is also an astute, clear thinking businessman and a Francophile.  He has spent more than 30 years with Renault and the Renault-Nissan alliance so he understands the French way of working, he understands how to get the best out of alliances and joint ventures.  He also played a big part in helping turn round Nissan after Renault rescued it from near bankruptcy.  Tavares, an engineer, was described last year by Tom LaSorda, the former president of Chrysler, as “the best up-and-coming CEO in the auto industry” and someone who could run any car company. Just-Auto Global News; 11/23/13

Many point to his focused and competitive nature—along with his obsession with cars—as the secret behind his successes at Peugeot Citroen.  He is seen as the first real “car guy” to run the company for more than a decade… When he is not racing or working, he spends his spare time building and refurbishing cars in a shed in the woods, about five minutes from his house.”  FT.com; 3/6/15

 

Based on his career performance, deep international background and results thus far at Peugeot, Tavares appears to have every bit the managerial talent as Sergio Marchionne (Fiat Chrysler) and Carlos Ghosn (Renault/Nissan).  I do not believe the broader investment community fully appreciates this potential yet.  Even better for Peugeot shareholders, Tavares only has one company to run, unlike Marchionne and Ghosn, who are each responsible for more than one publicly traded business.  For an interesting perspective on the typical culture of French management, and inference to the potential benefits of an “outsider” CEO (despite being a Francophile, Tavares is Portuguese and has significant global work experience), I found the following archived Harvard Business Review article instructive: https://hbr.org/1991/07/the-making-of-a-french-manager.  

Investors in Peugeot benefit from an underappreciated management that will likely be recognized for their industry-leading ability if impressive execution continues.


Balance sheet

The risk profile of this business has been transformed by a dramatically improved balance sheet.  This business carried ~€20B net debt through most of its operating history but now has net cash, as it 1) transferred finance business to a joint venture with Santander, 2) issued €3B new equity in 2014, led by investments from French state and Dongfeng Motors, and 3) improved operations from cash flow negative to cash flow positive.

The chart above shows the new capital structure, and despite the associated “de-risking” of the business, Peugeot currently trades at ~3.2x EV/EBIT and ~2.1x EV/EBITDA, less than half the 4.6x EV/EBITDA historical median.

 

Early results

Within a year of joining, Tavares unveiled his “Back in the Race” performance plan, whose goal was to instill a sound operating culture that had been lacking at the company for many years.  The key goals and results of the plan were as follows:

GOAL

RESULT

Positive recurring FCF by 2016 at latest

FY15 was FCF positive

Combined aggregate group operating FCF €2B 2016-2018

Aggregate group operating FCF €6B generated during 2014-2015

Automotive operating margin 2% by 2018; target 5% by 2019-2023

Automotive operating margin 5% achieved by beginning of 2015

https://www.groupe-psa.com/en/publication/back-in-the-race/

It is rare for a company to exceed targets by the magnitude seen above.  At the time of unveiling, these were not viewed as “sandbagging,” and it provides some credibility toward management’s ability to meet future goals.

 

While this performance is the sum total of countless small initiatives, it can be broadly summarized into consolidation of models, reduced production costs by manufacturing in lower cost geographies along with more variable manufacturing pay in France, and improved procurement by improved processes and supplier cost concessions.  The quest to improve and sustain margins is a never-ending fight, but research of the industry and prior case studies (especially Ghosn and Marchionne) suggests that there is a very significant management ability to transform the performance of an automaker.  It is rare to find a CEO with the ability to lead a company to optimal performance, but signs thus far suggest that Peugeot may have found one.



Updated Plan

Since the goals of “Back in the Race” were achieved ahead of schedule, management unveiled its current plan, “Push to Pass” in April 2016.  This plan uses the operational foundation established in Back in The Race as a starting point for future growth.

GOAL

Improve 2016-18 sales and margins at least 4x versus historical levels

Consolidate from 6 to 2 vehicle platforms

Empower staff to think of and implement ideas for growth and efficiency

Increase mobility and service offerings

 

While the plan is in its early days, the company is at or ahead of targets.  The full presentation can be found at: https://www.groupe-psa.com/en/publication/push-to-pass/

Given management’s track record, plus the fact that the above targets are the minimum goal, shares appear very cheap relative to this potential outcome.

 

To provide some context as to the nature of improvement, the Auto segment EBIT bridge is shown below:

Roughly 2/3 of the improvements generated above were Peugeot-specific, and the company expects to sustain them.  If Automotive segment continues to generate anything in the vicinity of current EBIT, valuation will very likely expand toward the level of peers.



Faurecia

Peugeot owns 47% of Faurecia, one of the world’s largest Tier 1 automotive suppliers, primarily dealing in seating and exhaust systems.