KNNGF - KION - Plenty Of Upside For The Long Term

2023-04-20 05:58:07 ET

Summary

• I've been looking at KION for a number of years now and increased my pace of buying as the company has been declining further and further.
• While there are reasons to consider some of the risks for the company at this time, there are more reasons, as I see it, to consider the upside.
• KION remains very undervalued - and the upside here is no joke. Do you want triple digits? KION may deliver.
• Let's look at why KION is still a "BUY" here.

Dear readers/subscribers,

In this article, I'm going to provide an update on KION ( OTCPK:KNNGF ). I've been writing about this company a few times over the past year and more, and I've been adding more and more over time as the company has troughed. For the time being, I'm actually positive. Take a look at the RoR for the company since my mid-November article.

Granted, this was a well-timed article. Overall, I'm actually mostly flat on the position given how I've spread out my buys over the past couple of months/three-quarter year.

Let's re-review KION and see what we have going for us here as we go into 2Q23 and the second half of the year (soon enough, at least).

KION - You want this market leader on your side

KION is a market leader in most segments where it operates. Its offering focuses on Industrial truck solutions, automated warehousing, and services to the aforementioned segments. Despite a troubled overall macro, the company still has a market-leading or excellent order intake and sales for the past year.

However, as you can see, profit crashed as a result of the trends during the year, and we're at a sub-3% EBIT margin. This hasn't impacted what I view as the most important thing for this company - it's market-leading position.

But why, aside from this, would you want to invest in KION?

Well, a few reasons.

• The company operates globally, in attractive markets characterized by need for innovative intralogistics solutions. These demands will only increase as time goes on.
• The company is already a global leader in most of its key segments.
• The margin upside potential in the case of normalization is nothing short of absolutely amazing here.
• The company has an extremely sustainable, and outside of current trends, resilient business model.
• The company is already present in 100+ countries, with 1,700,000+ trucks operating in the field.
• While Toyota is the leader in industrial trucks, KION leads well ahead of Honeywell ( HON ) in Automation systems.
• The recent downturn is, as I see it, really only temporary.

In its sector, which broadly encompasses other constructors of machinery, trucks, and the like, KION has as of 2022 obviously significantly worsened its profitability in terms of both its history and the broader sector. 2022 margins and trends mean that KION can be considered "average" here, and many of its financial strength/fundamental indicators have been dropping as well. These awful profitability trends have also resulted in valuation-related metrics not showing that much of an overall upside. Despite trading extremely low, the 2022A P/E is quite high here. Only if we normalize the earnings somewhat, do we see a sudden and significant upside for the company.

Revenue did not decline in 2022 - it grew.

But as you can see, these relatively low margins are nothing new for this company. It's been this way for some time, and I don't view it likely to change in the near term either. The company's ROIC next to its actual cost of capital has, at best, been breakeven since 2013, and this recent year really saw it drop significantly. The combination of the company also taking on more debt is not necessarily a positive one in context, with interest rates rising, and with company results not exactly being conducive to endearing oneself to a bank for a good interest rate.

The company has pushed forward its new strategy until 2027, currently encompassing the following.

It also includes new goals for multi-branding go-to-market approaches, and region-specific growth plans including a large expansion of the CN/USA sales network, more capacity in China, and product expansions. The focus here is CN/USA, not Europe. Also, KION is going deeper into EV technology, which will also include fuel cell pushes, as well as more automation, cloud, and AI push. All of this of course sounds excellent but essentially amounts to similar things done by many other companies here. Also, the question is what exactly this sort of ambition will consume in terms of CapEx.

It's very obvious that KION has had a bad year in 2022. Whenever you see a company in its reporting and earnings call to focus on things like sustainability, equality, health & safety, and sales as opposed to revenues, you know something is up. Mind you, I am not saying that these things are unimportant. But whenever profitability is something a company can boast of - they typically will do so above other things.

There are still good things to say though - such as the company's electrified portfolio and how it's moving forward.

The company's risks and troubles are, to someone analyzing the company as often as I do, easily understood. It can all be summarized into the simple fact that the company needs to adjust pricing for already-ordered/pay-for products while managing a myriad of inflationary and SCM-related challenges, none of which is easy. A quick glance at the revenue and profit flows for the company, easily illustrated in something like this tells us that "too little" of incoming sales revenue turns into bottom-line net revenue.

How can it be otherwise when you can only boast a 0.9% net margin? This puts a high focus on what the company is expected to do going forward. There is no argument that the company, on the whole of it, had a very bad 2022. However, I will also make the argument with you that there was very little KION could have done to prevent this. Most of it was macro, and as much as the company spends on R&D and other positive things, it cannot stop the world from turning. The way its contracts and sales are structured, it takes time for sales price differences to trickle down to the bottom line and to contracts. You might think that KION has failed to push sales price increases to customers - it's not that simple.

The full impact of price increases won't be seen for another quarter or four. The company's EBIT margin is expected to normalize in the next few quarters - not to pre-pandemic but to a workable margin for a world leader in automation. For KION, this means a 2023E improvement, as well as an improvement in the years following. Here are the company's EBIT forecasts, EBITDA forecasts, and Net forecasts, as expected by S&P Global.

On the whole of it, I believe the trajectory and overall expectations are more or less correct. 2022 won't be a level we'll be at for long - but KION will face some issues in getting the margins to normalize higher in an ever-more competitive world. I do not believe we'll see the positive margins of 2017-2018, but I do forecast that based on efficiencies of scale and its market leadership position, the company will see a decent profit again going forward. That will be enough for me, and that will, as I expect it, also be enough for the share price to somewhat normalize.

And there is plenty in that share price to normalize. Let me show you the valuation as it currently stands.

KION's valuation - it's significantly attractive here

So, from some ways of viewing KION, it could be justified to call it a "value trap" here. The company has a profitability problem, it cut the dividend to €0.19, which is a low given that 2021 was €1.5. It comes to around 0.5%, which may be temporary for this year, but is still a terrible income for your invested capital when any savings account will more or less give you 2-3% today.

However, the upside potential is massive. KION currently trades at a 5-10 year normalized P/E of no more than 10-11x, which is well below its typical 12-year premium of around 22x. There is plenty of volatility - both on the up and the downside to this company, likely owing to its market-leading position and the tendency to quite literally "JoJo" its earnings. 2019 was up 30%, -20 was down 59%, and 2021 was up 145%. For 2022, adjusted EPS fell by over 80%.

However, it's expected to rise back up - and by no small amounts either.

When it comes to KION, forget having to forecast it at a premium. Forget even forecasting it at 15x. Heck, you can even ignore the lowest possible P/E forecast in context here, and give it a custom of 10x P/E, which is well below any conservative valuation we've seen for the company long-term.

And you'd still come out with double digits.

Again, plenty to like here - even if we're currently at what can be called a "trough" for the company. S&P Global gives KION a set of targets ranging from €20 on the low side to €55 on the high side. That's down from a high of €140 less than a year ago, I'll have you know. 18 analysts follow KION, and out of those 18, 14 are at a "BUY" or equivalent rating. Plenty of analysts besides me see the upside in the company, and the current average for KION is about €41/share.

For my DCF, I now employ a 10.2% WACC with a 5% risk-free rate and a 7% market risk premium with a beta of around 1.3. Based on that, and expecting sales growth around 2.5-3.5% and EBIT growth around 6-7% based on strong normalization, we reach an implied EV value of close to €14B, which net of debt comes to a fair-value share price of around €75 - now impaired by about 20% by me as of this article.

Even impairing it like we're doing, the upside here is absolutely high. My thesis that I've been pushing for the past 6 months still remains - and I consider KION to have an absolutely solid upside here.

That is if you're willing to wait for the turnaround. If you want to own KION, I'd say you need to consider this a 3-5 year investment. At that time, I believe your chances of doubling your money are in no way poor or low.

That is why I am investing in KION. I expect a triple-digit return in a timeframe of 3-5 years.

Based on this, here is my thesis for KION as of April 2023.

Thesis

My thesis on KION is as follows:

• KION Group is an attractive capital goods play with an emphasis on intralogistics solutions, automation, and warehouse technologies - things like forklifts, to put it simply.
• The company is undervalued and forecasts imply a significant upside over the coming 5 years, with an upside of over 100%.
• KION is a "BUY" with a price target of €75/share. My lowering of the share price comes due to the temporary cut of the dividend.

Remember, I'm all about:

1. Buying undervalued - even if that undervaluation is slight, and not mind-numbingly massive - companies at a discount, allowing them to normalize over time and harvesting capital gains and some dividends in the meantime.

2. If the company goes well beyond normalization and goes into overvaluation, I harvest gains and rotate my position into other undervalued stocks, repeating #1.

3. If the company doesn't go into overvaluation, but hovers within a fair value, or goes back down to undervaluation, I buy more as time allows.

4. I reinvest proceeds from dividends, savings from work, or other cash inflows as specified in #1.

Here are my criteria and how the company fulfills them ( Italicized ).

• This company is overall qualitative.

• This company is fundamentally safe/conservative & well-run.

• This company pays a well-covered dividend.

• This company is currently cheap.

• This company has a realistic upside based on earnings growth or multiple expansion/reversion.

That means that the company currently fulfills all of my criteria for attractive valuation-oriented investing.

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