My Worst Investment Ever Podcast
Business:Investing
ICE vehicles are not going away, providing ongoing revenue support
Toyota is the world’s largest car manufacturer, ranked by a composite of market cap, revenue, and employees. The company has been a leader in alternative energy solutions such as hybrids and hydrogen-powered vehicles. The prior president has said that the company will “not simply repeat the approach of other companies” when it comes to electric vehicles (EV). Toyota points out the limited battery range, scarcity of lithium resources, lack of a charging network, and consumer preferences towards internal combustion engines (ICE). And developing markets in South America, Asia, and Africa could be decades away from having the infrastructure to implement a massive EV rollout; Toyota is well positioned to grow with these markets. Over the next five years, we expect Toyota to return to its pre-pandemic average growth level and achieve a CAGR of 6.9%.
Hybrid and Hydrogen leadership and more EVs coming could prove critics wrong
Toyota is a pioneer in the mass production of hybrid technology, having rolled out its hybrid “Prius” model in 1997, since selling more than 5m. Currently, hybrids account for about 27% of total vehicle sales. Toyota is pushing ahead with hydrogen-powered cars, currently selling its “Mirai” model. The beaten-down share price is some evidence that observers expect the company’s hydrogen offerings will eventually fail. But there is promise to the technology, and an investor could consider Toyota’s hydrogen to have an option value. Of course, Toyota has not turned its back on EVs; recently, announcing plans to invest US$70bn in electrifying part of its fleet by 2030. We appreciate Toyota’s diversified approach to transition to more carbon-neutral cars and expect total CAPEX spending of about JPY12trn over the next few years.
Negative sentiment pressuring price; but at 1x PB, it might be the time to BUY
The sector is unfavorable given recession fears, as well, investors doubts Toyota’s unconventional EV policies and its ability to defend its position as the world’s largest carmaker. The company’s price-to-book ratio (PB) dropped below 1x, which is 1x std dev below its long-term average. With an average net margin of 7.8% over the past 5 years, Toyota is among the most profitable automobile companies in the world. We believe negative sentiment has been too punishing, and the stock deserves a re-rating.
FY3Q23 saw strong revenue growthFailure to adapt to the industry trends
We built our forecast around the fact that Toyota’s decision to delay the full shift to EVs is a wise decision and also around the fact that it would be successful in its endeavors toward hybrids, electric, and hydrogen fuel cars. Any sudden change in consumer preferences would hurt the company’s short-term results. Also, any failure in the production of its new hybrid, electric, or hydrogen fuel cars would hurt the automaker’s long-term results. Toyota recently offered to buy back its new electric SUV (BZ4X) from its owners because of a severe problem: the wheels could fall off while driving even after just a short time on the road! Anything like that would drag down our target price and affect the company’s position in the market.
Soaring raw material prices
Prices of raw materials such as cobalt, lithium, and nickel have surged. In May 2022, lithium prices were over seven times higher than at the start of 2021. Unprecedented battery demand and a lack of structural investment in new supply capacity are key factors. Russia’s invasion of Ukraine has created further pressure since Russia supplies 20% of global high-purity nickel. Also, China produces three-quarters of all lithium-ion batteries and is home to 70% of the production capacity for cathodes and 85% of the production capacity for anodes (both are key components of batteries), so if geopolitical tensions lasted long it would cause huge drops in the company’s margins and disruptions in its supply chain.
Concentration of suppliers
Automakers must rely on suppliers of cheaper raw materials to succeed in the automotive industry. But, Toyota depends on a limited number of suppliers, whose replacement with others may be difficult, exposing the company to a wide range of risks. Any loss of an important supplier or inability to obtain materials in a timely and cost-effective manner could lead to increased costs or delays in Toyota’s production and deliveries, which would hurt the company’s revenues and margins. Nonetheless, Toyota has managed to build great relationships with its suppliers which reduces the risk of losing them.
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