Morningstar | MG Updated Forecasts and Estimates from 15 Nov 2018
No-moat Magna reported record third-quarter earnings per share before special items (EPS) of $1.56, $0.17 higher than the same period last year and $0.06 better than the sell-side consensus EPS of $1.50. Record revenue of $9.6 billion represented a 9% increase compared with $8.9 billion reported in third-quarter 2017 but would have been 11% higher excluding currency, acquisitions, and divestitures. The 3-star rated shares of Magna currently trade at a slight 5% discount to our $57 fair value estimate. Accordingly, we view the stock as reasonably valued relative to our forecasts for revenue, cash flow, and return on invested capital.Revenue growth was healthy across all Magna operating segments with Body Exteriors & Structures, Seating Systems, Power & Vision, and Complete Vehicles posting 6%, 6%, 5%, and 50% increases, respectively. However, adjusted EBIT margin (before special items) contracted by 70 basis points to 7.3%, as we expected, on a higher mix of lower margin vehicle assembly business but also due to higher launch costs from new seating facilities, favorable customer pricing resolution in the prior-year period, and higher R&D spending for autonomy and electrification technologies.
Management lowered the top end of 2018 guidance on slightly lower customer production schedules, lower equity earnings from the company's European transmission joint venture, and higher steel prices for the Body Exteriors & Structures segment. The new revenue range of $40.3 billion-$41.4 billion represents a $1.1 billion decrease from the prior top end of the range. However, management lowered adjusted EBIT margin guidance to approximately 7.7% from a range of 7.7%-7.9%. JV equity income guidance range was reduced to $255-$280 from the previous guidance of $270-$305.
Magna returned $629 million in cash to shareholders during the quarter, including the repurchase of 9.2 million shares worth $520 million, plus $109 million in common stock dividends. We forecast free cash flow (cash from operations less capital expenditures) of approximately $1.5 billion and $1.8 billion in 2018 and 2019, respectively. Consequently, we expect additional share repurchases and an increase in the dividend.
Our forecast for the year was already roughly in line with management’s guidance. We had already forecast 2018 revenue of $41.5 billion but slightly tweaked our estimate to $41.2 billion versus management's range of $40.3 billion-$41.4 billion. Our JV equity income estimate was already at the low end of management's previous guidance at $270 million and remains unchanged. We maintained our profit assumptions which results in a 7.7% adjusted EBIT margin, already in line with management’s new guidance, including JV equity income, partially offset by relatively healthy performance given the current operating environment. The change in our estimates had less than a $1 impact on our fair value estimate, which we have maintained at $57.
Our investment thesis remains intact. We believe Magna will continue to benefit from the increase in customers' use of global vehicle architectures. In our opinion, the company’s electrified powertrain and autonomous driving technologies represent significant growth opportunities for Magna, but the relative size of these businesses compared with the overall total restrains consolidated revenue growth. The company is one of the most diverse suppliers in the auto industry following years of auto supplier consolidation, yet it has maintained an ultraclean balance sheet compared with other vendors.
Due to the potential for both higher content penetration and acquisitions, we think Magna revenue growth will surpass the annual growth in global vehicle demand which we forecast at an average annual rate of 1%-3%. However, owing to its relatively higher-cost capital structure, despite a slight shift to lower-cost debt capital, we remain concerned about Magna’s ability to generate excess returns on invested capital through the economic cycle, resulting in our no-moat rating.
Magna is a global automotive supplier whose product capabilities include producing body, chassis, exterior, seating, powertrain, electronic, vision, closure and roof systems and modules, as well as vehicle engineering and contract manufacturing. Co.'s operations are segmented on a geographic basis. Co.'s segments consist of North America, Europe, Asia and Rest of World.
Morningstar, Inc. is a leading provider of independent investment research in North America, Europe, Australia, and Asia. The company offer an extensive line of products and services for individual investors, financial advisors, asset managers, and retirement plan providers and sponsors.
Morningstar provides data on approximately 530,000 investment offerings, including stocks, mutual funds, and similar vehicles, along with real-time global market data on more than 18 million equities, indexes, futures, options, commodities, and precious metals, in addition to foreign exchange and Treasury markets. Morningstar also offers investment management services through its investment advisory subsidiaries and had approximately $185 billion in assets under advisement and management as of June 30, 2016.
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