VC - Visteon: Strong Execution And Exciting Product Route Maps

2023-03-17 06:57:47 ET

Summary

• The SmartCore platform is entering its third generation and has the potential to grow at nearly 30% CAGR over the next four years.
• I believe VC is set up for success in the years to come, with plenty of opportunities for growth.
• VC's superior execution history and guidance for increasing EBITDA margins should give investors confidence in its future prospects.

Thesis

Visteon ( VC ) is unique in that it is a pure play on the rise of cockpit electronics in vehicles. SmartCore should gain market share as these systems continue to merge, and as fewer and fewer electronic control units are required. At their Investor Day in 2023 , VC gave a first look at their 2026 financial goals as well as detailed presentations on their current and future products, operations, and supply chain. I like how VC is well positioned for major developments in the automotive industry and has been one of the best suppliers in this sector in terms of execution over recent history. Also, the investor day presentation has clearly helped shape my expectations for the business future growth and margin. Overall, I think a buy rating is warranted due to its growth trajectory and promising margin expansion.

SmartCore

VC's SmartCore platform has entered its third generation and is now available to OEMs as a proven software solution for cockpit domain controllers. This platform is designed to meet time-to-market requirements and can support different silicon solutions without being dependent on specific hardware. Future enhancements to SmartCore's feature set, such as layering in a service oriented architecture and, eventually, L1/L2 ADAS driver policy software, will unquestionably strengthen the offering. Moreover, as the secular trend toward greater connectivity in the light vehicle industry gains momentum, I anticipate that increased demand for SmartCore will also be fueled by the widespread adoption of software-defined vehicles.

In-Cabin displays and Electrification

Opportunities for expansion in the in-cabin displays sector range from the introduction of ultra-wide pillar-to-pillar displays in the high-end market to the penetration of multidisplay modules into the entry-level and mass-market tiers. Regardless, I think VC's display portfolio is set up for success in the years to come, and there should be no issues with hitting management target of 20% CAGR for revenue between FY22 and FY26. It's encouraging that VC has to confidence to showcase their engineering prowess is across their product line during the presentation. To give some highlights, I would say that VC innovative products are designed to address issues specific to the automotive industry, such as poor display quality, inefficient use of power, and distraction for drivers. Overall, I expect a demand boost from widespread adoption across all price points of automobiles as in-car entertainment systems become the norm for buyers.

VC's electrification product suite also now includes a bidirectional power conversion box and a smart junction box, which I believe offers OEMs differentiated product offerings with improved performance and packaging.

Execution

In my opinion, VC has demonstrated superior execution compared to other automotive tier 1 suppliers in recent years, particularly in its ability to adapt quickly to chip shortages and production volatility. I believe this is due in large part to its adoption of factory automation, which has resulted in less stranded workers during shifts in auto OEM production schedules brought on by chip shortages. VC is also making headway in qualifying alternative chip sources, which it anticipates will aid in its supply chain situation in 2H23.

Financials

SmartCore

With my expectation that demand for connected vehicles will continue to rise, coupled with VC exciting product route map, and importantly current booked business, I anticipate robust growth from FY22 through FY26. Keep in mind that this implies SmartCore will grow at nearly 30% CAGR over the next four years, based on guidance from management for FY26.

Electrification

Higher EV penetration rates around the world, in my opinion, can drive Electrification sales from less than $50 million in 2022 to $600 million in 2026. Management (and I) agree that VC's battery management systems [BMS] will be a driving force behind the expansion of electrification sales, as they present an opportunity for content per vehicle to the tune of $350 to $500. As the next generation of electric vehicles is expected to run on higher voltage electrical systems, I believe that their introduction by OEM customers will be a significant tailwind for BMS products. If we consider the full range of Visteon's electrification offerings, we can extrapolate that the total content per vehicle opportunity for EVs could easily reach between much higher than the $350 to $500 cited above.

Multi-Display modules

As I mentioned before, rising demand for Multi-Display modules in all price points of light vehicles is what I anticipate will drive Advanced Display Solutions' sales from $500 million in 2022 to over $1 billion in 2026. More and more multi-display modules are being installed in vehicles of all price points, which should boost demand for advanced display solutions as in-car entertainment systems become the norm. Particularly, I anticipate that demand for premium OLED displays from luxury automakers will increase over the coming years, and that this will present a significant opportunity for the growth of display content per vehicle in luxury vehicles. Management has stated explicitly that they expect the penetration of OLED displays in the Luxury segment to grow from 5% in 2022 to 45% by 2026 and beyond, underpinning the content opportunity for luxury vehicles.

Margin

Management has stated their target of increasing adj EBITDA margins to 13.5% in FY26, which, I believe, will be supported by the strong growth momentum in end markets. Increased margins should also be supported VC's ability to scale its current manufacturing footprint, thereby resulting in huge operating leverage. As a result of rising EBITDA, I would also expect VC to generate much more FCF, which makes the announced share buyback program a lot more credible. Because of the strong execution history, I believe VC guidance is highly credible which I believe the market likes it. On top of that, the share repurchase program is also a message to investors that VC capital allocation policies are shareholder friendly.

Risk and valuation

The ability of the VC to capitalize on the secular shift to EVs and AVs depends, in my opinion, on its ability to successfully execute its strategy. Poor execution (after necessary investments have been made) will result in weaker margins due to lower sales volume. In addition to these factors, the macro environment is an unknown, especially when it comes to the auto cycle.

Suppose VC can hit its 2026 sales target of $5.5 billion sales and margins can hit at least the height of its past few years at ~6% net margin, that would translate to $330 million in earnings or $11.7 EPS. If VC trades at the same multiple of 20x on $11.7 EPS, that equates to a share price of $234 or near 50% upside.

Conclusion

VC appears to be well positioned to benefit from the major developments in the automotive industry, particularly in the rise of cockpit electronics in vehicles. With its SmartCore platform and innovative display products, I believe VC is set up for robust growth in the coming years, especially with the widespread adoption of software-defined vehicles and multi-display modules across all price points of automobiles. Moreover, VC's superior execution history and guidance for increasing EBITDA margins should give investors' confidence in its future prospects. Overall, I believe VC deserves a buy rating due to its growth trajectory and promising margin expansion.

For further details see: