Adient: An Undervalued Niche Growth Opportunity

Adient is the largest global automotive seating supplier, supplying seating globally to all the major automakers. The company has a 34% market share of the global automotive seating market and a 45% market share in China through its strategic joint ventures in the region. Adient is the market leader across all major seating components and systems including:

  • Complete Seating
  • Trim: Cut & Sew
  • Trim: Fabric
  • Metals & Mechanisms
  • Seating Foam
  • Headrests/Armrests

The company’s $17 billion in revenue is highly diversified by both manufacturer and geography. The following are the firm’s largest clients:

Manufacturer % of Revenue
Ford 14%
Volkswagen 10%
Chrysler 10%
General Motors 8%
Toyota 8%
Nissan 8%
Mercedes 7%

While Adient’s geographical breakdown is as follows:

Region % of Revenue
Europe/Africa 35%
China 30%
Americas 29%
Asia/Pacific 8%

There are three factors that are likely to generate significant shareholder value over the next 2-3 years.

1. Growth in China

Adient has a dominate positon in the Chinese market with a c. 45% market share and Joint-Venture revenue of $6.6 billion. The company was an early market entrant into China successfully adopting a strategic partnership approach.

Adient is now the largest supplier of just-in-time seating in China, operating 17 joint ventures and 60 manufacturing locations across 32 cities. It partners with all the major auto groups in China, resulting in broad market penetration relative to its seating competitors.

The Chinese automotive market is forecasted to grow more rapidly than developed markets at 4.2% per annum to 2020 and 3%-5% for the next decade. Adient plans to leverage its market leading position in China to outpace market growth and continue to increase market share. The company aims to increase market share to c. 55% in China by 2021. In addition, China provides a platform for further growth in Asia including India, Thailand and Indonesia.

The Chinese business has been extremely profitable for Adient. Since 1997 they have invested $150m in China and received dividends back in excess of $1 billion.

2. Margin Expansion

Adient believes it can achieve a 2% improvement in operating margin in the mid-term by

Operating a leaner cost structure particularly with regard to SG&A costs. The company’s average SG&A costs over the last three years have made up c. 5.2% of sales whereas Adient’s main competitor, Lear, has had average SG&A costs of 3.1% of sales. Adient believes it can reduce SG&A costs as a % of sales by 2% which will be partially offset by a 0.5% increase in SG&A in China as a % of Sales resulting in a net 1.5% improvement.
Adient has also identified an opportunity to consolidate its Metals operating units to reduce costs by 1%-2% as a % of sales. This improvement will be partly offset by an increase of 0.5%-1.5% in innovation investments. The net cost reduction is therefore forecasted at 0.5%.

The above optimizations will result in increased earnings in the short to medium term continuing the firm’s upward trend in profitability.

3. Deleveraging

The company is forecasted to generate substantial earnings and free cash flow in the near term that will be used to pay down debt thereby further increasing earnings and transitioning the company from being highly levered to investment grade.

Adient has total debt of c. $3,592m generating interest expense at c. 3.5% per annum. The debt is medium to long dated and can be broken down as follows:

Debt Due Amount ($) Coupon
Term Loan 2021 $1,500m LIBOR + 1.75%
Senior Unsecured Notes 2024 $1,100m 3.5%
Senior Unsecured Notes 2026 $900m 4.875%

The company has cash of $643m resulting in Net Debt of $2,949m. Leverage is forecasted to decline materially in the next 2-3 years reducing interest expenses and increasing earnings, return on capital and ultimately shareholder returns.

Financial Forecasts

The below table forecasts improvements in the firm’s operating performance based on sales growth of 3.1% and 1.2% respectively in 2017 and 2018, a slight uplift in Operating Margins from 4.8% in 2016 to 5.4% by 2018 and total debt reduction of c. $790m alongside the resulting drop in annual interest expense.

In addition, I have estimated income of $300m, $380m and $350m in 2016, 2017 and 2018 respectively from Joint Ventures in China. Finally, Adient will benefit from a reduced tax rate of c. 10%-12% as a result of being newly domiciled in Ireland.

2016 (e) 2017(e) 2018(e)
Sales $16,300m $16,800m $17,000m
Operating Profit $783m $770m $915m
Operating Margin 4.80% 4.58% 5.38%
Joint Venture Income $300m $380m $350m
Adjusted Net Income* $830m $914m $1,027m
Adjusted EPS $8.16 $9.01 $10.17
Total Debt $3,592m $3,200m $2,800m

*Net Income has been adjusted to exclude restructuring costs and net income attributed to non-controlling interests.

Company Valuation

Assuming Adjusted EPS growth of c. 10% in 2017 and 2018, a conservative P/E of 14x forecasted Adjusted EPS for 2016 would provide an attractive entry point below $114.25. The current share price is $46.58 providing a margin of safety of c. 60%.

Legal Information and Disclosures

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