--> The Bottom Line
Shares of the Canadian auto-parts maker could provide a total return of nearly 30% if investors accord it a multiple in line with the industry or the Standard & Poor's 500.
Why Magna Still Has Another Gear
Powered by the resurgent U.S. auto market, Canada's giant vehicle-parts supplier has been growing steadily.
The cars, pickups, and SUVs roaring off auto dealers' lots these days may bear the name of Ford, Buick, or Chevrolet, but their guts are made by a lesser-known, Canadian outfit, Magna International . The sales have boosted Magna's profit growth, but its shares are almost as overlooked as its brand.
Based in Aurora, just outside of Toronto, Magna (ticker: MGA) is North America's largest auto supplier by revenue. It controls 11.3% of the fragmented U.S. auto-parts industry, according to researchers at IBISWorld. It sells nearly every part of a vehicle, from chassis to seats to electronic systems, and has counted every major auto maker as a client. With U.S. new-vehicle sales rising at solid, high single-digit rates, what Magna could most use right now is a similar bounce in Europe, which could shift the company into a higher gear.
Magna's stock is cheap. It trades at 10.6 times 2014 earnings expectations, well below the industry's 14.9 average multiple and the Standard & Poor's 500's 15.7 times. A debt-free balance sheet, ample cash, and a robust stock-buyback plan give the shares an even nicer shine.
A more appropriate valuation of 14 times his firm's estimate of $7.60 a share in 2014 puts the shares at about $106, up from a recent $82.87, notes Scott Black of Delphi Management, which owns Magna stock. Add the company's dividend, now yielding 1.5%, and the total return could approach 30%. "This is selling at a huge discount," Black says. "At some point, the gap gets closed."
MAGNA WAS FOUNDED IN 1961, and grew by building relationships with the world's car companies. Magna makes 52% of its sales in North America and 40% in Europe, with the rest spread around the globe. Magna capitalized on Detroit's preference for outsourcing production of its car parts in the 1990s, but suffered when the Big Three nearly collapsed during the financial crisis. Sales fell 33% from 2007 to 2009.
However, the parts maker has thrived with the U.S. rebound. Sales have doubled since 2009. Once final numbers are tallied, Magna is expected to have earned $6.40 per share on $34.5 billion in sales for 2013, up from $5.74 and $30.8 billion a year earlier. In 2014, consensus earnings are projected to rise 22%, to $7.82, on $36.1 billion in sales.
Some of the gains are reflected in the stock price, which rose 64% in 2013, on top of 2012's 50% jump. But there are several reasons why it should climb further.
Europe's weakness has forced Magna to accelerate while driving uphill. European car registrations, a proxy for sales, fell from 16 million in 2007 to 12.5 million in 2012, and are on track to drop in 2013, according to the European Automobile Manufacturers' Association. Magna has closed plants in Europe and expects $100 million in restructuring charges there in 2013, about 6% of net income.
But there are signs that the Continent's car sales could turn higher next year. Registrations rose three months in a row through November. December results will be released this week, but industry data suggest a 9.4% gain in registrations in France, 18.2% in Spain, and 12.3% in Belgium. Auto sales should rise about 3% in 2014 and 4% in 2015, according to Deutsche Bank.
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"Any type of growth in Europe will be a benefit to them," Wells Fargo Securities analyst Richard Kwas says of Magna. Margin growth could also help—Magna's European margins rose to 2.5% in the first nine months of 2013, up a percentage point from the year before. Within two to three years, CEO Don Walker expects them to top 4%. The company's margins are closer to 9% in North America.
If Magna's margins in Europe were to hit 4.2% by 2016, and the region's auto production rises to 20.1 million from 18.9 million in 2013, it would add roughly a buck to Magna's earnings per share, says RBC Capital Markets. That's a hefty boost for a company now making less than $7 a share.
The stock market is factoring in very little auto-sales growth in the U.S. and a total stall in Europe, says Kwas. In 2013, new-vehicle sales rose 7.6%, to 15.6 million, in the U.S. Auto researcher Kelley Blue Book sees sales hitting 16.3 million in 2014, the highest total since 2006.
Even if the pie doesn't grow much, Magna should grab a bigger slice as auto makers use more common parts in different vehicles. That should also help Magna's earnings grow by about 17% long term, faster than the industry and in line with large-cap competitors like Johnson Controls (JCI), which trades at 15.8 times expected 2014 earnings.
Another plus for outside investors: Magna has revamped its ownership structure since 2010. For most of its history, it had two share classes, and Chairman Frank Stronach's family controlled the voting shares, despite owning a small stake. Shareholders had little say when Stronach made unusual decisions, like buying a California racetrack. But Stronach accepted a big buyout for his controlling shares, with the deal's final phase slated to be completed after 2014, when he gets 2% of pretax income.
A clean balance sheet—$96 million in debt and over $1 billion in cash at the third quarter's end—gives Magna other ways to reward shareholders via buybacks (it repurchased 12 million shares from November 2012 to November 2013), and dividend hikes.
It has been about seven years since the U.S. and European auto markets were humming along in sync. That may not happen again for another year or so. But with Magna shares so cheap, it is, as they say, a great time to buy.