2023-04-29 05:19:55 ET
Summary
- Magna pays out a solid dividend and maintains performance with the S&P 500.
- The company's CapEX strategy into electric vehicles enables them to generate stronger free cash flows and differentiate from competitors.
- After completing a DCF valuation, I can conclude that the company is undervalued, and so I'm giving it a buy rating.
Magna International (MGA) has exemplified strong growth until this past year when shares took a rather large pullback. With the integration of electric vehicle parts into their core business model along with strategic partnerships, I rate the stock a buy due to being undervalued and poised for growth in the long term.
Business Overview
Magna International is a global automotive supplier that offers a range of products and services to the automotive industry. The company operates through four segments: Body Exteriors & Structures, Power & Vision, Seating Systems, and Complete Vehicles.
The Body Exteriors & Structures segment provides body systems, chassis systems, exterior systems, roof systems, and active aerodynamics. The Power & Vision segment offers powertrain systems, electronics systems, mirrors and lighting systems, and mechatronics. The Seating Systems segment provides seat structures, mechanisms and hardware, foam and trim products, and seat engineering and development. The Complete Vehicles segment designs, engineers, manufactures, tests, validates, and assembles vehicles for original equipment manufacturers (OEMs).
Magna International has a diversified customer base that includes major OEMs such as BMW (BMWYY), Ford (F), General Motors (GM), Honda (HMC), Mercedes-Benz (MBGAF), Tesla (TSLA), Toyota (TM), and Volkswagen (VWAGY). The company has a global presence with 343 manufacturing operations and 84 product development, engineering, and sales centers in 29 countries across North America, Europe, and Asia. The company employs approximately 168,000 people and generated sales of $37.8 billion in 2022
Magna International's current market capitalization stands at $20.63 billion, accompanied by a ROIC of 6.34%, a 52-week high of $91.74, and a low of $63.55. The company's stock is currently priced at $70.62 with a P/E ratio of 27.05. This indicates that the stock price falls within the range of their 200-day moving average and reflects Magna's competitive edge in the market.
In addition, Magna offers a dividend yield of 3.51%, with a payout ratio of 88.88%, indicating the company's commitment to providing shareholders with steady returns from their free cash flows. Moreover, the company has repurchased a limited number of shares producing further shareholder wealth.
With Q4 2022 results missing expectations with a 15.84% miss on earnings per share ($1.08 compared to $0.91) and a 0.65% beat on revenue ($9.57 billion compared to $9.51 billion), the company is displaying struggles in regards to profitability in times of microchip shortages and other pressing macroeconomic headwinds such as high-interest rates. Magna provided in-line revenue guidance for full-year 2023 between $39.6 billion to $41.2 billion versus $39.93 billion. It also targets 2025 revenues between $44.7 billion to $47.2 billion. Adjusted EBIT margin is expected between 6.7% to 7.8%.
Historical Performance Compared to the Broader Market
Magna has retained the ability to perform in line with the broader market when adjusting for dividends historically but has recently underperformed in due to poor earnings last quarter. I believe that this underperformance will be adjusted in the long term and remain in line with the S&P once macroeconomic conditions improve and the company can accelerate growth.
Magna Performance Compared to S&P (Created by author using Bar Charts)
New CapEX Avenues Fostering Differentiated Revenue Segments
Throughout its history, Magna International has demonstrated an impressive ability to incorporate new product segments into its core business model. By doing so, the company has managed to both scale its operations and improve its profit margins, which has had a positive impact on its free cash flow. This increase in FCF has given Magna the flexibility to invest in new avenues and leverage rapid technological advancements to its advantage.
One of the most noteworthy improvements that Magna has made in recent years has been its integration of electric vehicle components into its core business model. For instance, the company has developed expertise in producing battery enclosures, which has created new opportunities for long-term growth. This expansion will enable Magna to compound its growth at faster rates and diversify its business model into both the gasoline and electric markets. This means that the company will be well-positioned to sell new and existing products to upcoming electric vehicle lines, giving it a significant advantage over competitors.
Magna's success in this area has been further bolstered by its existing relationships with major automakers, such as General Motors. In February 2023, Magna secured a battery enclosures supply deal from General Motors, which is a testament to the company's reputation for quality and innovation. To produce complex parts for electric vehicles, Magna has also partnered with LG Magna e-Powertrain, a leading provider of electrical components and devices. This deal has enabled Magna to expand its expertise and capabilities in the electronics industry, which will allow it to meet the needs of vehicle companies in need of parts.
Magna Future Growth Avenues (Investor Presentation)
Analyst Consensus
Analyst consensus rates Magna International as a "buy". The stock displays great returns even with poor earnings, with an average price target of $83.56 presenting an 18.14% upside.
Valuation
I will begin my analysis of Magna by calculating the Cost of Equity and WACC using the Capital Asset Pricing Model, before making any assumptions and performing my DCF analysis. After factoring in a risk-free rate of 3.52%, I arrived at the conclusion that the Cost of Equity for Magna is 8.25%, as shown below.
Created by author using Alpha Spread
Assuming this Cost of Equity value, I was able to calculate the WACC to be 7.36% as shown below, which is under the industry average of 10.09%.
Created by author using Alpha Spread
By employing an Equity Model DCF analysis using FCFE, I have ascertained that Magna International is presently undervalued by 20% when considering a fair value of $88.89. To arrive at this figure, I utilized a discount rate of 9.08% for a 5-year duration. My reasoning behind adding almost a 2% risk premium to adjust for the fact that future cash flows are uncertain and there is a risk that they may not materialize as expected. As an auto part manufacturer with variable sales in macroeconomic troubles, adding such a discount can create a margin of safety for potential investors. Furthermore, I predicted that the company will continue enhancing its innovations which will lower its costs and result in a gradually increasing operating margin over time, as illustrated in my DCF analysis.
Magna DCF Analysis Using Margin of Safety (Created by author using Alpha Spread) Magna Capital Structure (Created by author using Alpha Spread)
Risks
Economic Cyclicality: The global automotive industry is known for its economic cyclicality, which can vary in timing across different regions. During typical industry cycles, a decrease in consumer confidence often results in lower vehicle sales and production volumes. Factors such as deteriorating economic and political conditions, military conflicts, rising fuel and energy prices, and increasing interest rates often lead to reduced consumer confidence. If vehicle production volumes decline significantly from the levels anticipated in our business plan, it could have a significant negative impact on our financial condition and profitability.
Semiconductor Shortages: The global shortage of semiconductor chips used in the automotive industry has had a significant negative impact on global production volumes since 2020, and is expected to continue affecting volumes and chip pricing in 2023. To cope with the shortage, OEMs have taken actions such as unplanned shutdowns, production reductions, and changes to their product mix. This can result in lower sales and production inefficiencies for Tier 1 suppliers like Magna, including higher inventory levels and premium freight costs. A worsening or prolongation of the shortage could have a material adverse effect on our operations, sales, and profitability.
Conclusion
To summarize, I believe that Magna International is a buy as the company is demonstrating a successful transition towards upcoming trends such as electric vehicles while also partnering with large firms to reassure expertise. Magna also pays a strong dividend which creates a stable flow of income for investors on top of share appreciation along with an undervalued price for the long term.
For further details see:
Magna International: An Undervalued Stock With Strong Growth Prospects