BorgWarner Inc. (BWA) has been an extremely volatile stock this year. The stock started the year at $65 and climbed up to $87 by the middle of March; after that it plummeted, and never reached that level again. The stock did rise from $67 to $74 in the first week of September, when the company announced a sales growth rate of 4%-6% for the year. However, the rise did not last long, as the stock fell into the mid-60s range after deep concerns regarding the eurozone, from where the company gets 56% of its revenues.
The company is a leading supplier of highly engineered automotive systems and components, primarily for power train applications. The company has two prominent segments: Engine and DriveTrain. The Engine department manufactures turbochargers, emissions systems, thermal systems, diesel and gasoline ignition technology, and diesel cabin heaters. The DriveTrain segment is responsible for the production and transmission of components and systems.
The company's systems focus on improving the performance, fuel efficiency and stability of vehicles. The company serves both the light and the commercial/heavy duty vehicle market, from which it gets three quarters and one quarter of its revenues, respectively.
The company remains confident about its long-term growth prospects and its competitive positioning in the turbo technology and dual-clutch transmission systems. The key technologies are likely to bring around 8-10% top-line expansion, which can also lead to an expansion in its margins, in case the company is able to meet its target of introducing newer products.
The company remains focused on opportunities to merge with, or acquire, businesses that can help BWA improve its product suite and its technological capabilities. As of June 30 this year, the company had $481.9 million, which it plans to use in strategic acquisitions. The acquisition of Haldex Traction AB, the Swedish manufacturer of All-Wheel Drive Systems, is a classical example of that.
The company sees a 30-40% growth until 2017 in the global LV turbo market. Also, the company is bullish on its Ecoflash advanced gasoline ignition technology. It is important to note that the demand for the fuel-efficient engines of the company is expected to be high, after the government's increased focus on environment friendly regulations.
However, bears have another take on it which is also very plausible: there are certain macro factors and some stock specific issues that can hurt the stock in the future.
Firstly, the global auto industry is highly cyclical and is extremely vulnerable to sudden shifts in consumer sentiment, employment, interest rates and other economic indicators.
Parts suppliers in particular are exposed to pricing pressures, shifts in OEMs market shares and unforeseen changes in technology.
Among the stock-specific risks, one of the more significant ones is due to a change in customer preferences. BWA's DriveTrain segment supplies transfer cases for a majority of SUVs in the U.S. However, the current trend shows us that customer preferences are shifting towards cars from light duty trucks and SUVs, which will reduce the demand for BWA's products.
Currently, the most important concern is that a large portion of the company's revenues come from Europe.
BWA is heavily dependent on the European market, and a further slowdown in Europe can seriously hurt the company. The current auto sales in the region have reached a 17-year low. The region's slowdown is increasing. Even German automakers are cutting down production. French and Italian automakers have been doing it for a while. Ford (F), General Motors (GM), Peugeot (PEUGY.PK) and Renault (RNSDF.PK) have all raised their estimates for losses from European operations.
In addition, BWA gets 30% of its revenues from Germany. Germany, despite being the strongest economy in Europe at the moment, has also been faltering because it is providing assistance to other weak economies like France, Italy and Spain.
BWA's biggest customers by revenue are Volkswagen (VLKAF.PK) and Ford, who account for 19% and 12% of its revenues, respectively. VLKAF has been a growth story, with increasing market share in the U.S. The company's Audi brand has shown exceptional sales worldwide.
Although Ford saw flat sales in September in the U.S., its F-series is a hit in the U.S., and this is where most of the demand for BWA's products comes.
A Citi Group analyst recently upgraded the stock to buy, with the belief that the stock is expected to show secular growth at a reasonable price. Also, the analyst believes that the stock price already reflects the effects of a weak European economy, and therefore provides an appealing entry point. In addition to this, the stock has been underperforming the S&P for the last six months.
However, BWA CEO Tim Magnanello remains bearish on the company's performance in the fourth quarter based on his belief that European operations will not change course.
The company has positive cash flows and its margins are also solid. The current forward P/E of 11x is around the average mark for an industrial stock. However, European operations do not paint a good picture. A weakening German auto market was the last thing that the automakers wanted. Given the weak European conditions, the stock is recommended as a buy. The earnings release on 31st October will be an important catalyst for the stock.