Our first drive-by Euro company

BMW. We like to drive you, but do we want to invest in you? Let's find out.

BMW presents a super compelling investment case: It is a 50B EURO company with a strong brand, positive net profits, solid balance sheet, and a 7.52% div yield. The doozie? It is trading at a mere 2.58 PE. Lets investigate.

About

Bayerische Motoren Werke AG, commonly referred to as BMW, is a German multinational manufacturer of luxury vehicles and motorcycles. Interestingly enough, when the company was founded in 1916, developing cars was not their original business. BMW started by developing engines for aircrafts in World War I. Thereafter, they developed engines for motorcycles, before transitioning into the development of engines for cars. 

Today, BMW Is one of the most recognised brands in the world. The Group has roughly 120 000 employees, operates 31 production and assembly facilities in 15 countries and has a global sales network in more than 140 countries. 

BMW currently holds a 12.5% global market share in the premium car segment, with above-average results in the UK (31%) and Germany (29%). In South Africa, BMW represents roughly 9% of the market.

Business

BMW has three main branches: Automotive, Motorcycle, and Financial Services. 

Automotive division: Automobiles are marketed under the brands BMW, Mini and Rolls-Royce. The automotive segment is the largest of the three, representing roughly 73% of the revenue generated in 2021. The company delivered 2.52 million vehicles in 2021, constituting 87.8% BMW, 12.0% Mini, and 0.2% Rolls-Royce.

Motorcycle: Motorcycles are marketed under the brand BMW Motorrad. This segment represents roughly 2% of the total revenue, with a total of 187 000 deliveries in 2021.

Financial Services: The financial segment offers credit financing and leasing of vehicles to customers. The share of new vehicles either leased or financed by the Financial Services segment stood at 50.5% in 2021, emphasising the integral role of this segment in the companys business model. Overall, the financial segment contributed roughly 25% to the groups total revenue in 2021. 

In order to understand the importance of BMW's financial services, it is important to be aware of how leasing works.

BMW Leasing

To start off the process, the produced vehicle is sold by the automotive division to the financial services division. At this stage, there is still no purchase from a customer. The sale however is registered at a normal retail price internally within the Group.

The financing service division becomes the lessor and leases the vehicle to a customer who pays a monthly fee to use the car while avoiding the total cost of ownership. BMW earns interest on the payment. 

Once the lease is over, the customer either has the possibility to buy the car for its residual value (trade-in value) or return it to the lessor and start a new lease.

In a low-rate environment, credit is cheap and easy to acquire, and this led to many customers opting to lease a car instead of buying one in 2021. The natural consequence was that the financial services provided BMW with outstanding results. Earnings before tax of the segment almost doubled from 2 billion to 3.75 billion.

Technical Analysis

Market structure: The 5-year share price movement for BMW is -1.1%. It did, however, have a nice little 2-year Covid run until Feb 2022 where it failed to hold support and dropped back down to around 70 Euro.

Current levels: After dropping from its recent high at around 100 Euro, the share price is currently at one of its long-time support levels.

Momentum indicators: The RSI and MACD indicators are heading towards oversold territory, suggesting a potential trend reversal in the coming weeks. This coincides with the horizontal support at current share price levels. 

Financials

After the companys latest positive results, the 5-year CAGR (compound annual growth rate) was still only 2.5%. Before the 2021 results, the 2020 revenue was equal to the 2017 revenue, which means zero growth in the four years leading up to 2021. (This might be our first clue as to why the share price is so stagnant). 

The 2021 financial year, however, delivered revenue growth of 12%, whilst only increasing cost of sales by 4,5%. This improved efficiency led to a growth in gross profit from 14% in 2020 to 20% in 2021, and a net profit increase from 3.8% to 11.1%. 

The question is, how did this happen? Was it company-specific or industry-specific? Overall, 2021 produced stellar returns for the automotive industry in general. 

The supply chain issues most notably, a global shortage of semiconductor chips  led to historically low vehicle inventories but also record pricing and profits amid resilient consumer demand.

Overall, the balance sheet looks solid. The current ratio and debt coverage ratios are intact, indicating that the company has sufficient current assets to cover current its liabilities.

Key variables to consider

Prior performance: Though 2021 produces above-average returns, BMW has struggled to increase their revenue on a year-to-year basis in the last 5 years. Vehicles delivered, group revenue, EBIT, and profit after tax have all remained constant or decreased over the last 5 years.

Interest rates effect on leasing: With global interest rates rising as central banks attempt to restrict inflation, customers may just decide to pay directly for their new vehicle without choosing to pay high interest on leases. This will have a significant impact on BMWs revenue, as more than half of their sales came as a result of leasing.

Move to EVs: The world is moving towards sustainability. In the automotive industry, this means EVs. Its the race for innovation, infrastructure, and mass production. BMW has targeted 30% of electrified cars in total deliveries by 2025. Though they have increased their EV output in 2021, they still have a long way to go.

Competition: BMW faces tough competition from companies like Porsche, Audi, and Mercedes in the luxury vehicle industry. They also compete against traditional automakers, such as Toyota, General Motors, and Ford. Finally, they are competing against EV companies such as Tesla and Nio, which will undoubtedly gain market share as the market shifts away from the traditional combustion engine model.   

Recent share price action: Even after its recent fall, BMWs share price has almost doubled in the last two years. Of course, it can continue to build momentum to the upside, but the strong recent correction might suggest that it has run out of gas in the short-medium term.

Valuation

While I see a potential upside, we are wary of the impact that future economic conditions may have on BMWs revenue and free cash flows. A looming recession, together with decreasing profit metrics prior to 2021, makes it hard to commit to BMW as an investment. Even though BMW operates at a 2.2 PE, our DCF calculations puts it more or less at fair value. 

Just a friendly reminder - This is not financial advice. Always do your own research before taking a position. Content is for informational and educational purposes only.