Summary
- Garmin has been underperforming in the past two years, with shares down over 40% from its highs.
- The electronics company is facing strong headwinds from the deteriorating macroeconomy.
- Its fourth quarter earnings result demonstrated the impact, with revenue and EPS both down.
- Current valuation is reasonable, but I don't see much upside potential.
- I rate the company as a hold.
Investment Thesis
Garmin ( GRMN ) is a Switzerland-based electronics company that specializes in GPS-enabled products and smartwatches. The company has a strong presence in multiple areas including fitness, outdoor, aviation, marine, and automotive.
The company's performance has been lackluster in the past two years, with shares down over 40% from its all-time high. It is approaching the buy zone, but I think we are still not there yet.
The fundamentals remain solid and its branding still provides a strong moat. However, it is not immune to the macro environment and its latest earnings result was very weak as demand remains soft. Financials should continue to be under pressure until the macro environment improves.
The current valuation is discounted on a historical basis, but when considering the growth rate, it does not appear to be too attractive. I think the downside should be limited as a lot of pessimism has been priced in. However, the upside should also be muted until the company can start to show meaningful growth again. I don't think the risk-to-reward ratio is too compelling right now, therefore, I rate the company as a hold.
Q4 Earnings
Garmin recently announced its fourth-quarter earnings and the results are very weak, as the macro environment continues to be a strong headwind. The company reported revenue of $1.31 billion, down 6% YoY (year over year) compared to $1.39 billion. The decline is mainly caused by the weakness in the fitness and automotive segment.
Fitness revenue decreased 28% YoY from $470.1 million to $336.6 million, as demand for fitness wearables dropped. This segment is the most exposed to the macroeconomy as it relies heavily on consumer spending. Auto revenue fell 14% YoY from $169.2 million to $145.7 million as sales for consumer products decreased. This was partially offset by solid auto OEM demand from large customers such as Ford ( F ) and BMW ( BMWYY ).
The aviation segment was the strongest with revenue up 27% YoY from $178 million to $225 million, as most of its sales come from OEMs and aftermarkets. The outdoor and marine segments also showed some relative strength, with revenue up 3% and 7% to $388 million and $211 million respectively.
Overall costs of sales declined 9.4% YoY from $619.5 million to $561.4 million, as shipping costs plummeted significantly throughout the year. This resulted in the gross margin improving from 55.5% to 57%. However, operating expenses increased 4.6% from $457 million to $477.6 million despite revenue dropping. This was attributed to higher personnel-related expenses and R&D expenses, partially offset by lower marketing spending. This caused operating income to decline 15.2% from $315.1 million to $267.2 million. The operating margin contracted 210 basis points from 22.6% to 20.5%. Pro forma diluted EPS was $1.35 compared to $1.55, down 13% YoY.
The company also initiated guidance for FY23 which forecasts revenue and EPS to be $5 billion and $5.15, which translates to a growth of approximately 3% and 0.4% respectively. The balance sheet remains very strong, with $1.45 billion in cash and only $114.5 million in debt.
Macro Headwinds
As indicated in the earnings above, Garmin stock is very exposed to the macroeconomy. While the company does have a diverse product portfolio, the majority of its revenue still comes from consumer products such as smartwatches. For instance, the fitness segment which only comprises consumer products accounts for 25.8% of total revenue.
I believe macro headwinds should last for a while, which will continue to put pressure on the company. The CPI (consumer price index) came down in the past few months but still remains at highly elevated levels, currently at 6.4%. This is bad for the company, as higher inflation reduces consumers' purchasing power, which results in lower spending on discretionary products. It will probably take some time for inflation to come down, and it may even require a recession to do so, as the unemployment rate remains low. The volatility and uncertainty will likely continue to weigh on growth.
Valuation
During the 2021 pandemic bull run, Garmin's valuation got very elevated, as you can see in the chart below. After the substantial pullback, the valuation finally looks much more reasonable. The company is currently trading at a PE ratio of 19.88x. This represents a discount of 4.2% compared to its own 5-year average of 20.76x. However, it is not as cheap as it looks when you factor in its growth rates. The company expects EPS and revenue growth to be only 0.4% and 3.3% respectively this year, which is significantly lower than its 5-year average of 10.2% and 10.7%. I do not think there is much potential opportunity for multiple expansions when the company is forecasted to show almost zero growth for the bottom line.
Investors Takeaway
Garmin is a solid company, but I don't see much value in it at the moment. The company is very exposed to the macroeconomy due to its product nature, which should weigh on growth for a while. The latest earnings result continues to be weak as demand dampens, while guidance for the coming year is also soft. Its valuation finally dropped back below the historical average, but I don't think there will be much upside considering its forward growth rate. Therefore, I rate the company as a hold.
For further details see:
Garmin Q4 Earnings: Not Attractive Enough