It's been a rough road for Commercial Vehicle Group (CVGI) in recent years, but even as commercial vehicle production wobbled in late 2011, this parts and components company has been making solid strides. Not only has CVGI made real progress with its margin structure and balance sheet, but the company has taken meaningful strides to expand its emerging markets business and attach itself to strong names like Cummins (CMI) and Deere (DE).
Surprising Strength In Q4
At $226 million in revenue, CVGI exceeded analyst expectations. While "analyst expectations" is all of two analysts in this case, 43% year-on-year and 4% sequential growth is a solid result all the same - particularly given underlying unit volume in commercial trucks and off-road vehicles.
Where CVGI did even better was with its margins. Gross margin improved by two points, while operating income virtually tripled. Here, then, is the good news/bad news of the CVGI situation - there's a pretty sharp point where fixed costs are concerned and the company can show pretty dramatic operating leverage once that's covered. All in all, CVGI exceeded analyst operating expectations by about 20% and the EPS beat was pretty substantial.
Sussing Out 2012
Right now the outlook for truck demand in 2012 is looking like a riddle, wrapped in an enigma, and buried in a mud pit. Parts and component companies like Cummins, Eaton (ETN), and BorgWarner (BWA) have been relatively optimistic, as have the actual truck builders in North America like Navistar (NAV) and PACCAR (PCAR).
On the flip side, European truck companies MAN and Daimler have been a little more cautious lately, particularly as it pertains to Europe and Latin America. Here too, there's more to consider - CVGI's mix is such that it's really not very vulnerable to weakness in on-the-road demand in Europe, and Scania recently told the market that it is fairly confident that the truck market has bottomed.
Construction is still looking pretty healthy and this is an under-appreciated part of CVGI's current business and growth opportunity. Caterpillar (CAT), Deere and Manitowoc (MTW) have all been talking about improving conditions for construction equipment (especially in emerging markets) and CVGI has solid relationships with Deere and Caterpillar.
Also keep in mind that CVGI has been growing its aftermarket business - insulating it to some extent from new-build trends.
Growing China With Cummins
Alongside earnings, CVGI announced a new agreement where it will supply wire harnesses to Cummins' Emission Solutions business for on-the-road trucks. This agreement not only covers North America (where the NA Class 8 truck business is already about 40% of CVGI's business), but China as well - one of the major growth targets for most large vehicle component companies. Although this agreement is going to take time to bear fruit, it's notable to me that both Cummins and Deere are looking to work with CVGI more in China.
The Bottom Line
CVGI has perhaps been the most frustrating and maddening stock I presently own. With a lot of leverage on the balance sheet and a tenuous margin situation, the stock whips around with investor worries and enthusiasm about commercial vehicle production rates. That said, the company can go further in terms of both sales and margin improvement.
For investors who want to sleep a little better at night, Cummins, Caterpillar, and BorgWarner are definitely names to consider first in the commercial vehicle space. For investors willing to take on more risk and volatility, CVGI shares look undervalued relative to the potential free cash flow in the company's future. Admittedly "potential" is a very dangerous word, but management at Commercial Vehicle Group has done a good job of managing through recent difficulties and I would not underestimate this company's ability to drive even better performance from its target markets.