We maintain our price target of €74 on Daimler but change our stance from BUY to HOLD. The reasons for the change in stance is as follows:
• After the recent report that Daimler is facing scrutiny after US investigators reportedly found that it installed software to cheat diesel emissions tests on cars, we expect to see higher volatility in the shares
• Company guidance anticipates flat earnings in 2018
• We expect to see higher costs due to an increase in spending on Research and Development as the Group invests more in new technology to compete with companies like Tesla
• The uncertainties surrounding the future of diesel, which accounts for around 53% of Mercedes Passenger Car sales in Europe, the threat of diesel bans in a number of European cities, including Mercedes’ hometown of Stuttgart, and inevitable fears over diesel residual values have not helped sentiment
• The Group could be more efficient if it didn’t have to guarantee jobs in Germany till 2029
However, we are also seeing positive improvements from the Group. This is why we recommend a HOLD recommendation on the stock. These being:
• Management is actively exploring ways of enhancing both the core operations and the value of the entire corporate structure
• The Group continues to strengthen its free cash flow making its 40% dividend pay-out ratio supportive
• Mercedes’ average Euro 6 diesel fleet emissions of 149mg NOx/km across the 21 vehicles it tested were well within the WLTP/RDE real driving emissions limit set to the 2020 equivalent of 168mg NOx/km
• The problems and pitfalls that Tesla is currently very publicly facing as it tries to transition from manufacturing 100,000 units a year, as it did in 2017, to a targeted volume of 500,000 units – a process that Tesla CEO Elon Musk has memorably called “production hell”
• Daimler’s Truck operations are showing signs of turning around. Trucks Division CEO Martin Daum impressed us when he ran Daimler Trucks’ NAFTA operations, achieving high market share along with double-digit EBIT margins
• The Group is seeing strong growth coming from China
• The Truck division is doing exceptionally well, in fact management is looking at the possibility of spinning off divisions within the Group which are highly undervalued, such as the Truck Division
• Benefitting from a lower corporate tax rate in the US
Outlook
The fact that the Group is under investigation creates uneasiness amongst shareholders that will create volatility in the shares. Since profitability is not expected to improve in 2018, this makes Daimler less attractive from a risk/reward perspective than some of its other competitors.
Having said that, if the Group is cleared from the allegations, we expect to see a large positive movement in the share price. Also, the fact that the shares are trading on a P/E of 7x, an expected gross dividend yield greater than 5% and a forecasted earnings yield of 14.5% (2019 earnings) makes it a HOLD in a well-diversified portfolio.
This article was issued by Kristian Camenzuli, Investment Manager at Calamatta Cuschieri. For more information visit, www.cc.com.mt. The information, view and opinions provided in this article is being provided solely for educational and informational purposes and should not be construed as investment advice, advice concerning particular investments or investment decisions, or tax or legal advice.