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Morningstar | Toyota Finishes Fiscal 2019 in Excellent Financial Strength

Toyota's full-year fiscal 2019 results gave us no reason to change our fair value estimate. We calculate fiscal fourth-quarter nonfinancial services operating income fell 15.9% year over year on gross profit compression, likely due to commodity and currency issues. Full-year operating income excluding the finance arm rose 1.3% while total company operating income grew 2.8% to JPY 2.47 trillion and operating margin was flat at 8.2%. The full-year yen to U.S. dollar exchange rate remained at JPY 111 in fiscal 2019 compared with fiscal 2018, but a stronger yen against the Australian and Canadian dollars, the pound, the ruble, and although not disclosed we suspect the Argentine peso, contributed to a net full-year currency headwind of JPY 50 billion. A favorable mix shift to light trucks globally (especially in North America), more targeted incentive spending in the U.S. only on vehicles that need it, and cost reductions helped the company grow operating income 2.8%.

With unrealized gains and losses on Toyota's securities portfolio required to be booked on the income statement under ASU 2016-01, we consider operating income a more relevant metric for investors because it excludes this accounting rule. This accounting treatment meant a JPY 341.1 billion unrealized loss on Toyota's securities portfolio in fiscal 2019 due to the global equities sell-off in fiscal third quarter, which, along with a 23.4% decline in equity income due to weakness in Japanese investments, led to full-year net income falling by 24.5%. The delta was only about negative 3% excluding the impact of U.S. tax reform in fiscal 2018 and the loss from ASU 2016-01. Management will hold the dividend flat year over year at JPY 220 per share, which keeps the normalized payout ratio flat at about 29%, but we think the payout could have risen given Toyota's automotive cash hoard of about JPY 3.9 trillion. We expect buybacks to continue in fiscal 2020 to complement the dividend.

Management gave no guidance for the fiscal 2020 dividend but did give guidance for company results. Operating income is guided to rise 3.3% despite an expected JPY 170 billion exchange headwind mostly from currencies other than the U.S. dollar and euro. Although more cost reductions (the CFO at a press conference even talked about using less pencils) are expected to contribute JPY 110 billion to growth, an accounting change to straight line depreciation from accelerated depreciation is the main reason for an expected profit increase. This change is guided to contribute JPY 150 billion. This fact is not an exciting investor story and says to us Toyota will be holding its ground in fiscal 2020 and trying to sell more light truck models in the U.S.

The guidance does not contain any forecast for unrealized gains or losses on securities, which we think is prudent, but does mean Toyota's net income forecast of a 19.5% rise to JPY 2.25 trillion is highly likely to change if securities markets experience significant up or down movements. Guidance also assumes exchange rates of JPY 110/dollar and JPY 125/euro compared with JPY 111 and JPY 128, respectively, in fiscal 2019. This means should the yen significantly weaken or strengthen, we'd expect guidance to change. The biggest swing factor on currency in our view is U.S. monetary policy. If the U.S. Federal Reserve changed rates, we think it would more likely lower them than raise them in calendar 2019, which could cause the yen to strengthen against the dollar and in our view Toyota would probably cut its guidance all else constant.