Toyota: Undeniably Cheap Despite Industry Slump

The latest developments in the automotive industry continue to be disastrous. As most are now aware, American automakers will receive a bailout even though Congress was unable to reach agreement on the matter. However, it is not just American automakers that are dealing with the fallout of collapsing worldwide demand. U.S. sales data for the auto industry were released Monday with cumulative sales plunging 36% in December. The results were abysmal across the board: General Motors (GM) down 31%, Ford (F) down 32%, Honda (HMC) down 35% and Toyota (TM) off 37%. These figures are compared to sales from a year ago and in that time the deterioration in both consumer spending and confidence has been drastic. For the entire year, Toyota’s sales slumped 16%.

Now, Toyota is expecting its first operating loss in its 70 year history. This is certainly not an easy operating environment for automakers, including the world’s largest. As Toyota’s newly-resigned President Katsuaki Watanabe said, “It’s a kind of emergency that we’ve never experienced before. The environment surrounding us is extremely harsh.”

In response to weakening demand in Toyota’s hugely important U.S. market—as well as other markets such as Asia—the company is being forced to tighten its belt. Tuesday, TM came forward with a plan to shut down production for 11 days in February and March for all of its factories in Japan. This is in addition to the three day suspension of operations in January already announced. Clearly, we underestimated the impact that the dramatic dive in demand would have on Toyota–especially in the Asian markets–when we wrote in our July piece that TM would stand to benefit from weakened competitors and gain market share worldwide (Kicking the Tires of Toyota Motors). At that time, gas prices were sky high and we believed that Toyota might have a leg up with its largely fuel efficient lineup.

An interesting piece in the Wall Street Journal by Paul Ingrassia illuminates some of the difficulties facing Toyota. One of the biggest problems facing TM is that they underwent an aggressive expansion a few years back. In retrospect, the timing of this massive expansion was dreadful. Ingrassia points to greater quality control problems as a symptom of a company expanding too fast and losing focus on its products. We agree with Ingrassia that Toyota now faces a period of substantially scaling back its operations and some plants may be shuttered as others will simply ratchet down production.

Although the company and the industry as a whole (see industry 52-week chart) have fallen on hard times, there is little doubt that Toyota will manage through this slowdown. People will resume buying cars again once the economy improves and Toyota will remain a leader in many classes. Toyota seems to us one of the best-run companies in the auto industry and will continue to be one of the strongest global competitors.

As for our Ockham valuation, we continue to rate TM as undervalued because based on historical norms, the stock is undeniably cheap. Even as sales have slackened, Toyota’s price-to-sales is currently .40x versus its historically normal range of price-to-sales of .58x to .90x. Likewise, now that TM’s price is $66.37 and its price-to-cash earnings ratio is 3.03 (as of last reporting), we are very positive on its outlook from the cash earnings perspective. In fact, TM is now trading a full 51% below its average historical price-to-cash earnings ratio at these profit per share levels. Of course, we are concerned about the company’s impending slip into negative earnings, but if we are near the bottom in car sales, the stock could rebound nicely in the year ahead.

Comments

[prudentinve...:]

Toyota would be cheap at $40.

Jan 07 09:43 AM

[2222:]

Maybe these jokers aren't as smart as our media make them out to be. Expanding at the wrong time. All their growth from SUVs (Sequoa) and Pick Ups (Tundra) over the past 3 years wasn't too bright. Gas prices are back down and Prius sales dried up. quality taking a big hit as they get too big and now loosing money. What their gov't can't manipulate the Yen fast enough? Can't layoff their contract workers in Japan fast enough? When are Americans going to learn to stop sending our monry over there? I just hope that someday we all open our eyes to their un-honorable business practices and stop investing in them. They are unethical and not the saints you make them out to be. I would never buy their stock.......

Jan 07 10:28 AM

[Craigla1:]

This is a superficial analysis, with an emphasis on valuing TM based on earnings and sales multiples. The problem TM faces is the fact they - over the years - have taken on a ton of debt. With over $100 billion in debt, TM has an enterprise value of $213 billion. Before they announced their latest guidance of a loss for this year, they forecast a profit of $12 billion (this a couple of months ago, at prevailing exchange rates).

A company in a very challenged, cyclical and capital intensive industry with an enterprise value of $213 billion, relative to this level of profits, is extremely over-valued.

Jan 07 11:08 AM

[Jonas:]

Stock will likely first go to 35$ and come back by the end of 2010 to 75. As they budgetted record sales for 2008 and where faced with declined sales of -15%, their spending was through the roof. With ratings down from AAA to AA, lending money is more expensive for them. If sales for january will also be low, concerns will rise and a step back will be necessary.
We will soon hear more bad news from them. Stock will stay in the green till friday as pension funds and live funds keep bying to fill their portfolios. After that, we will see decline in stock. Lets not forget that Toyota will never get help, and the help that is given to GM en Chrysler and Ford is actually working against them. These kind of articles are typical before stock is going down. I sold my stock yesterday as risk is to high.

Jan 08 04:18 AM

[dgdatta:]

Toyota is very high inflated stock..when the past glory wud return ..we are not sure..exchange is working against it as also all countries lending rate are lowered so Toyota or Japanese has lost the edge..There are cheaper stocks of good reputation of world class like JNJ Mcdonald..etc.

Jan 08 08:57 AM

[auto44:]

It is very presumptuous of YOU to challenge the intelligence of Toyota's management. At this point their cars are the standard by which all other cars in their class are judged by. Your hindsight may be twenty twenty but product decisions are made far in advance and can be waylaid by unforseen circumstances.
Americans will gladly stop buying foreign when domestic production presents a better value. If you are a car salesman i suggest you get a job with the best selling car company. if you invest in car companies i suggest you go to the same place.


On Jan 07 10:28 AM 2222 wrote:

> Maybe these jokers aren't as smart as our media make them out to
> be. Expanding at the wrong time. All their growth from SUVs (Sequoa)
> and Pick Ups (Tundra) over the past 3 years wasn't too bright. Gas
> prices are back down and Prius sales dried up. quality taking a big
> hit as they get too big and now loosing money. What their gov't can't
> manipulate the Yen fast enough? Can't layoff their contract workers
> in Japan fast enough? When are Americans going to learn to stop sending
> our monry over there? I just hope that someday we all open our eyes
> to their un-honorable business practices and stop investing in them.
> They are unethical and not the saints you make them out to be. I
> would never buy their stock.......

Jan 08 09:38 PM