Rapid Growth Of The Active Safety Market Will Benefit Autoliv

| About: Autoliv Inc. (ALV)

Summary

ALV is the biggest producer of airbags in the U.S. and will benefit from the problems encountered by Takata. It also produces seat belts and active safety components.

The passive safety electronics market in cars will grow more than 5% annually, while the active safety market will grow at a rate of 21% by 2018.

The trend towards more active safety features and the autonomous cars will require the perfect quality. ALV will benefit from this trend.

In 2013, Japanese company Takata Corporation (OTCPK:TKTDY) shocked the world with the announcement that airbag inflators were not of the quality required. Later, the story developed further. The story is not finished yet, though it is clear that around 34 million cars of 16 different brands are affected by the recalls. Later, Honda (NYSE:HMC), Toyota (NYSE:TM), and Nissan (OTCPK:NSANY) ditched Takata as a key component provider for the airbags. Honda turned to Stockholm-based Autoliv Inc. (NYSE:ALV) to supply replacement parts for recalled vehicles. The story is not new, but it allowed me to look for other companies that would benefit from the fall of Takata and the damage to its reputation. Reputation is the biggest element in any safety system because the problems detected damage not only the reputation of the manufacturers (like Takata in this particular case) but also that of the auto manufacturer (like Honda or Nissan). Therefore, the manufacturer will become more selective in choosing the right auto part provider that has a good track record and an untarnished reputation. This time, I would like to look at Autoliv Inc. According to IBISWorld, this company is the biggest producer of the airbags in the U.S. and has a 42.2% market share, followed by TRW Automotive (NYSE:TRW) with a 15.7% market share. Takata Corporation's market share slipped to around 4% following the scandal. IBISWorld decided to remove it from the list of major players in the car airbag manufacturing industry. Autoliv is a US incorporated company that has its main headquarters in Sweden. It designs and manufactures automotive safety systems and operates in two operating segments:

  • Passive Safety Division (Security systems are primarily meant to improve vehicle safety and include modules and components for passenger and driver-side airbags, side-impact airbag protection systems, etc.)
  • Electronics Division (It incorporates all the passive and active safety systems, like Autonomous Emergency Braking, Traffic Sign Recognition, Road and Lane Departure Assist, Pedestrian Detection, and Autonomous Driving).

Autoliv has 78 production facilities in 27 countries and a headcount of approximately 64,000 people. In 2015, the company sold 140 million airbags, 145 million seat belts, and 8 million active safety systems. The revenue reached $9.17 billion, a net income of $457 million, and operating cash flow of $751 million.

The historical development of revenue and the net income are provided in the charts below. The net income was very flat, especially for the last 5 years.

ALV Net Income (Annual) Chart

ALV Net Income (Annual) data by YCharts

General Motors (NYSE:GM), Ford (NYSE:F), Renault/Nissan, Hyundai (OTC:HYMLF), and Volkswagen (OTCPK:VLKAY) were the top five customers, representing 52% of sales. Together with Fiat (NYSE:FCAU), Daimler (OTCPK:DDAIF), Honda, Toyota, and BMW (BAMXY), these ten companies represented 83% of sales. The geographic distribution of sales is spread between the US (35% of sales), Europe (31%), China (17%), and Japan (7%).

The active safety products had the highest organic sales growth of more than 30% (see chart below).

Autoliv expects that the passive safety electronics market will grow more than 5% annually, while the market for active safety systems (radar, night vision and front-view mono and stereo vision cameras) will be one of the fastest growing areas of vehicle equipment and is expected to grow at a rate of 21% by 2018. The company itself aims to reach $12 billion in sales, improve overall operating margins and grow earnings faster than the sales. Autoliv has more than 6,000 people, or 9% of all the staff, working in Research and Development.

Stock performance and valuation

Analyzing the stock performance since 2011, it should be noted that the stock price grew steadily from $77.46 on April 25, 2011 to $112.80 on April 22, 2016 at the compounded growth rate of 7.8%.

ALV Chart

ALV data by YCharts

The stock's attractiveness is evaluated using a simple method. The estimates for three future years are taken and then multiplied by the P/E ratio for the stock that it is believed to be in the market for the particular stock in question. To simplify the calculations, the P/E ratios of the past five years are used: the minimum and the average of the previous five years are compared with the average for the industry. Only if the estimated stock price implies the 15% annual return is the stock considered for investment.

According to the FactSet database, the estimated EPS for 2016-2018 as follows:

2015

2016

2017

2018

EPS estimate

6.65

6.81

7.52

8.45

EPS growth rate

2,4%

10,4%

12,4%

Stock price using min P/E of 5 years (6.6x)

44.95

49.63

55.77

Stock price using average P/E of 5 years (16.6x)

113.05

124.83

140.27

Implied return

0.34%

12.79%

27.59%

Click to enlarge

Conclusion

I started looking at Autoliv in the relation of problems for Takata. Yes, Autoliv is and probably will be the biggest producer of auto airbags unless it destroys itself in the same ways Takata did. The market for airbags and seat belts will grow together with the auto industry. In case the demand for cars rises, the demand for the seat belts and airbags will go up. Potentially, this market might outpace the auto industry only if, in countries like India and others, the demand for safer cars (with more airbags installed than it is now) goes up. However, the biggest potential lies with the active safety systems. The growth of 20%-plus in this sector might increase the Autoliv's active safety business from current 600 million to 1.5-1.7 billion by 2020.

Many people could argue that Alphabet (NASDAQ:GOOG) (NASDAQ:GOOGL) (and possibly others), with its autonomous cars, could change the landscape of the auto industry. Probably they will, but even autonomous cars will most likely have airbags, seat belts, and all the range of radars and other equipment to drive from one point to another. In my understanding, Alphabet will not build the factories to produce autonomous cars and all other necessary elements for the autonomous vehicles, as it does not do that with its smartphones, but it will make the "brain" of the autonomous cars and license it to car manufacturers. The same will happen with all the other equipment for the cars. Only those manufacturers that could assure the best quality (e.g. who wants to be in a car where radars and cameras suddenly stop working on the highway at 120 km/h with the passenger having a nap) will benefit from this trend, and Autoliv will be among them.

Regarding the valuation, I think that current stock price does not give a good entry point for 2016. Only those willing to keep stocks beyond 2018 might consider investing.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.