Garmin: More Attractive Than Before But Still Not Dirt Cheap

Summary

• Garmin's share price has dipped below $90 again.
• The adjusted free cash flow is slightly outpacing the normalized net income, giving Garmin a 5.5% free cash flow yield.
• The 2.8% dividend is very safe, and the debt-free balance sheet with $2.2B in cash and securities will act as a buffer.
• Garmin isn't cheap but increased option premiums could be used to an investor's advantage.
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Introduction

As the market has slipped into correction territory it’s always interesting to have another look at companies with low debt piles and strong cash flows to see how they are weathering the storm. Garmin (NYSE:GRMN) has had a good run in the past two years but slipped back below $100 due to coronavirus issues. Back in November, I claimed the company was approaching fair value but an additional quarter of free cash flow has now hit the books and the share price is trading approximately 10% lower. A good moment to have another look.

Data by YCharts

Strong cash flows in 2019…

And Garmin clearly ended the year on a strong note: Its Q4 revenue increased by 18% which is a clear acceleration compared to the 12% revenue growth over the entire financial year. Hardly a surprise as Q4 generally is a "gift" season: there’s Thanksgiving, Christmas and New Year's as traditional gift-giving holidays.

Source: Company presentation

The total revenue in FY 2019 came in at $3.76B while the gross profit increased to $2.23B and the operating income showed a 22% increase to $946M. And that’s excellent as despite the 12% revenue increase, Garmin was able to keep a lid on its expenses: Advertising expenses increased by just 6%, SG&A expenses increased by less than 9% and although Garmin is now spending almost 20% more on R&D expenses compared to 2017 and boosted it by an additional 8% compared to last year, the operating margin has increased from 23.24% in FY 2018 to almost 25.2% last year. And that makes the strong share price performance in 2019 very understandable.

Source: SEC filings

The bottom line showed a net income of $952M (compared to $694M in FY 2018) but this was fueled by a non-recurring deferred tax benefit of $88M, so on a normalized basis, the net income would have been approximately $860-865M which would still be more than 20% higher than the $694.1M net income in FY 2018. The adjusted EPS would have been just over $4.50, which means Garmin is still trading at almost 20 times its earnings.

This could be justified if the free cash flow result would be higher than the net income, so I had a good look at the cash flow statements as well.

Source: SEC filings

Garmin reported an operating cash flow of $699M which is substantially lower than the $920M in FY 2018 but this difference was caused by Garmin’s working capital as approximately $300M of cash got locked up in receivables and inventory boosts. On an adjusted basis, the operating cash flow in FY 2019 was $1.02B while the capex was just $120M resulting in a free cash flow of around $882M. Divided by the net share count of 190.8M shares results in a free cash flow of $4.62/share. Slightly higher than the adjusted net income per share but not an impressive difference.

But the uncertainty for 2020 makes it a questionable investment

Trading at a free cash flow yield of approximately 5.5% could make Garmin interesting in the current low-interest rate climate, but there are a few caveats.

The inventory build-up is interesting but given the expected slowdown in Q1 due to the coronavirus it remains to be seen how much of the inventory can be monetized and at what price. As of the end of December the total value of the inventory levels reached $753M which is just 2.5 months of revenue, so that clearly isn’t an alarming level, but it will be interesting to see if there is an additional buildup of inventory in Q1 2020.

Secondly, Garmin reported its financial results right before the panic on the financial markets started. So perhaps the company will have to reduce its guidance again. It's aiming to generate $4B in revenue this year (another argument why the inventory buildup isn’t an issue in a normalized situation) with an operating margin of around 23.5% and an EPS of $4.60. Additionally, Garmin confirmed its plans to pay four quarterly dividends of $0.61 each for a full-year dividend of $2.44 or around 2.8% given the current share price.

Source: press release

While Garmin may have to walk back on this guidance should the virus continue to spread at an accelerated pace, the company’s balance sheet clearly is strong enough to withstand a few weaker years. As of the end of December, Garmin had $1.03B in cash and $1.2B in marketable securities and no debt (other than lease liabilities) so the $2.23B in cash and securities should provide a very comfortable cushion.

Investment thesis

Although Garmin’s share price has dipped below $100 again I don’t think the company is sufficiently cheap again given the current market circumstances. Yes, Garmin is attractively valued at a normalized free cash flow yield of in excess of 5.5%, but now the general markets have sold off Garmin isn’t ranked high on my priority list.

That being said, the recent volatility on the markets had a positive impact on the option premiums which makes it more interesting to write put options on Garmin. A Put 80 expiring in January 2021 for instance has an option premium of $7.80 and would result in an effective purchase price of just over $72. And if you are even more optimistic about Garmin, writing an in-the-money put also could be an interesting strategy as the option premium for a P100 on the same date is just over $19.

So while Garmin isn’t extraordinarily cheap right now, interested investors could use options to initiate a position.

Analyst’s 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.

Comments

[LOLeverage]

@mmoy most of their avionics goes into private aircraft. I doubt anyone who is flying private cares about a few bucks more than their life/safety.

Garmin is upscale... and no one rich will be drastically changing their lifestyle/purchasing habits due to an economic blip

[mybestshot]

LL- agreed and I would expect greater use of private aircraft to avoid mass transit, trains and airlines.

[mybestshot]

I am impressed by all the new products Garmin is able to bring to the market on almost a weekly occurrence. They know what consumers want and deliver a superior product before anyone else.
Also these two new product developments may be a barn burner.

Garmin joins BMW AG as a tier-one infotainment supplier
Mercedes-Benz and Garmin to partner for navigation
Chrysler already uses Garmin maps in its models
Garmin has signed a 4-year deal with Mercedes

[mmoy]

Issues I have are the decrease in travel, potentially hitting their avionics sales and lower economic activity globally which may lead to people not being able to afford Garmin's devices. I would expect them to discount their fitness and outdoor products.

I do have my eye on a Fenix 6X with titanium band though.