Auto Suppliers: Mixed Fortunes in the Current Market

Rather than focus once again on the large-cap automakers, we sat down with Zacks senior auto industry analyst Paul Raman, CFA to talk a little bit about auto suppliers and retailers. We were able to fill out our view of the sector as a whole, and even got a Buy recommendation out of it, as well.

Have you issued any recent reports on suppliers to the auto industry?

Yes, we just finished a small-cap report on Cooper Tire & Rubber Company (CTB), which specializes in the manufacture and marketing of automotive products. A challenging North American auto environment makes us rate the stock a Sell with a six-month target price of $7.00.

The company has 67 manufacturing, sales, distribution, technical and design facilities located around the world. Cooper is the fifth-largest tire manufacturer in North America and the ninth-largest tire company in the world, with a 7% and 2% market share, respectively. The company has a 15% market share in the light-vehicle replacement tire market in the U.S.

Would it be correct to say that CTB is feeling the pressures of a tough sector, presently?

Well, a challenging North American industry environment and lower shipments are continuing to take their toll on Cooper's results. High gasoline prices and concern for the slowing economy have resulted in lower consumer demand for replacement tires.

Also, about 50-55% of costs are raw material costs, which have been increasing due to higher oil prices. Natural and synthetic rubber are about half of raw material costs and are showing a rising trend.

What other types of companies are being affected by the sluggish auto industry?

Sonic Automotive (SAH) is a large automotive retailer that is heavily exposed to an industry experiencing increasing competition and lower car sales. Thus, we rate the stock a Sell with a six-month target price of $13.00.

High SG&A expenses are also affecting margins, although they are showing some improvement. However, there is a limit as to how far employee costs can be reduced, as employee turnover remains a problem for the company.

Can you tell us of any auto suppliers with some recent good news?

ArvinMeritor (ARM) has developed a leading position in most of the markets it serves. Presently, the company is planning to split itself into two pieces. The company is undergoing dramatic cost reductions as well as implementing an impressive global growth strategy. The company is also expanding geographically and outsourcing to low-cost countries. This leads us to rate the shares a Buy with a target price of $20.00.

Headquartered in Troy, MI, ArvinMeritor is a global automotive parts supplier to various customers in North America, Europe, and in other parts of the world. ArvinMeritor is a worldwide supplier of a broad range of integrated systems, modules and components for use in commercial, specialty and light vehicles worldwide.

How do you arrive at your Buy recommendation for this company?

Currently, ARM's shares are trading at approximately 11.2x our 2008 EPS estimate of $1.42. The company's new profit improvement initiative Performance Plus to improve earnings is expected to deliver benefits in the near future, as well as the eventual split-up of the company.

ArvinMeritor is also expanding its base to low-cost countries in Asia and South America. Our $20.00 price target is based on 14.1x our 2008 EPS estimate of $1.42.

Paul Raman, CFA is a senior analyst covering the automotive industry for Zacks Equity Research.