Selling fewer cars did not stop Toyota Motors (TM) from doubling its profits in the first quarter as net income soared to 562 billion yen (~$5.7 billion). Total revenues rose 13.7% to 6.25 trillion yen (~$63 billion) as overseas revenues translated to more yen. Shares of the company jumped 6% after the earnings. 
Toyota even raised its guidance and now expects net income of 1,480 billion yen (~$15 billion) for fiscal 2014, up from the previous estimate of 1,370 billion yen. However, this assumes an exchange rate of 92 yen per dollar. Given the range in which yen has traded in the last six months, it doesn’t look likely that the Japanese currency will go near the 92 level in the near term. Therefore, there could be some further upside to the automaker’s profit forecast. Currently, a dollar yields about 98 yen.
Toyota has been the biggest beneficiary of Shizo Abe’s policy of yen devaluation since it has the highest proportion of production at home among the Japanese autos. A greater proportion of production in Japan benefits the automaker’s margins now that the yen has depreciated against the dollar. The same amount of foreign currency will yield more yen while the costs remain more or less the same.
More Profits But More Risk
Although the current results beat the market expectations, they also highlight the company’s over dependency on a weak yen. Most of the incremental profits (about 84%) were attributable to the positive effects of currency fluctuation and only a tiny fraction to the cost cutting measures. Toyota’s profits would shrink if the yen were to regain some of the lost ground to the dollar. As a company, Toyota now entails greater risk.  What is worrisome is the automaker’s inability to sell more cars in some of its biggest markets either due to an increased competition or due to political factors over which it has little control over.
In North America, Toyota’s biggest market, unit sales could only grow by 4% as the automaker lost share to GM, Ford and Volkswagen. Till now, it has been a strong year for the overall automotive market with sales up 8.5% through July. Honda’s refurbished Civic now outsells the Corolla. On the brighter side, a refreshed Corolla might accelerate sales in the second half of the year.
Even Camry doesn’t command the same popularity as sales of the model are down 2.5% through June. The re-imaged Accord and the Fusion are registering a strong growth and eroding Camry’s sales.
The fact that most of the sales gains in the American automotive market are coming from light trucks and pickups, an area where Toyota has had a weak presence traditionally, could be a dampener for the automaker. The rebounding U.S. housing market is fueling the growth of pickups as they are used extensively in construction activities. The recently introduced Tundra 2014 could provide some upside to Toyota but since it such a small player in the pickup segment that even if the sales were to rise aggressively, the impact on the income statement would not be significant enough.
Besides North America, Toyota is struggling to sell cars in Japan and China as well. Tensions spiked between China and Japan in September last year over claims on the disputed islands, known as Senkaku in Japan and Diaoyu in China. The anti-Japanese sentiment still lingers among the general public in China and continues to impact the sales of Japanese car companies. Toyota’s sales in the world’s biggest automotive market are down 5.8% through June. The last couple of months have been better but not substantial enough to suggest that normalcy is restored.
Performance in Toyota’s home country, Japan, is likely to remain weak this year. Although Toyota’s unit sales were down 9% in the latest quarter, the automaker forecasts its sales to catch up in the subsequent quarters and match the level of the previous year. It is not just Toyota whose sales are suffering in Japan. In the first half of the year, the passenger car market is down 8.5%. Japan’s automobile market was artificially boosted in 2012 with the help of government subsidies. Now that the incentives have ended, the automobile market is expected to decline this year.
We have revised our price estimate for Toyota to$119. It is about 10% lower than the current market price.
Disclosure: No positions