I covered automobiles before, with the intention to add exposure into this beaten down sector. Gentex (GNTX) and Magna (MGA) were two companies on my list. Both companies traded at attractive valuations and made products which kept them relevant for the future of the automobiles industry with self-driving cars and electric vehicles. Today, I add BMW (OTCPK:BMWYY) to that list.
Trading at 9.9x PE and a forward based on my estimates of 6.8x PE, I find BMW a great company to own because the company has 3 world renown brands BMW, MINI and Rolls Royce. While I am short discretionary spending companies like Tiffany & Co (TIF) because it trades at 22x forward PE, I like BMW as a brand to own for the long term, a reasonable valuation (relative to car manufacturers, this will not be the cheapest), dividend yield at 4.9% and most importantly BMW’s push to have an all fully electric portfolio across its brands.
To further enhance the yield in this investment, BMW has a preferred share that trades at a roughly 15% discount to the ordinary share. The preferred share trades on the ticker BMW3:GR on Bloomberg. This brings the dividend yield to 5.5%.
The problem with a consumer cyclical stock such as BMW is the potential for large losses during a downturn. To illustrate this point, in 2009 worldwide passenger cars and light commercial vehicles sales fell by 5.7%. BMW sales fell 10.4% to 1,286,310 vehicles. BMW’s brands are luxury brands that would be greatly impacted as can be seen in Rolls Royce’s -17% decline. By brand, deliveries for BMW dropped 11.1%, MINI dropped 6.8% and Rolls Royce dropped 17.3%. Net profit after tax was EUR210 million versus 2008 of EUR330 million. The saving grace was BMW managed to maintain a profit.
However, as investors in BMW at this point, we are 10 years from the last economic crisis and the automobile industry had already been facing headwinds in recent years.
Hence it is important to understand BMW’s financial situation in terms of balance sheet and P&L.
Source: Balance Sheet from BMW 2018 Annual Report
BMW’s ordinary share trades at 0.8x PB (net assets of EUR58.1 billion) and 1.0x price-to-tangible book value. At current low interest rate environment, the risk may not be high but during an economic downturn, current ratio of 1.18x may not be sufficient when 46% of the current assets are receivables from sales financing. The worry is whether there will be liquidity issues during a crisis, and thankfully BMW had navigated through the last crisis without large impact on the receivables in its financing business.
During 2008 and 2009 write down on receivables from sales financing was EUR52 million in 2009 and EUR 58 million in 2008. Impairment allowance was 3.3% and EUR1,356 million in 2009 (out of EUR40,594 million receivables balance) and EUR 1,053 million in 2008 (out of EUR38,063 million receivables balance). This amount is similar to 2018 impairment allowance of EUR1,032m out of total amount of EUR86,783 (1.2% impairment). While impairment may potential have to triple in a crisis situation, the balance sheet remains strong enough to weather the storm.
BMW also has EUR38.8 billion in short term borrowings or financial liabilities compared to EUR83.5 billion in current assets, which includes EUR38.7 billion in receivables from the financing business. I believe this is a manageable situation in terms of near term dividend yield.
In terms of profit and loss, BMW’s 2018 results have been ugly. Sales have stagnated, and profits significantly reduced. As a result, dividends have also been cut.
BMW Preferred Stock Dividend History.
The risk in this investment is BMW’s cyclical business. Hence some yield has to be sacrificed for protecting the investment. One way of doing so is basically to have a stop loss just under 5% on the share value.
Another, is to actively monitor and fund the cost of put options through taking a cut in the dividend yield, and also in writing call options. The dividend received assuming it is EUR3.52, added with EUR3.53 from the sale of call option at a 10% higher strike price totals EUR7.05 while the cost of the put option is EUR4.75. The net proceed would be EUR2.30 (yield of 3.7% on the BMW3 preferred stock) if the price remains the same after a year.
Source: Author’s brokerage account
I would recommend protecting against the downside for such a stock and to earn cash flows from this company, while sacrificing some of the dividend yield. However, I do like BMW for the brands it owns, and would certainly like to add this to my long term retirement portfolio. There is potential over the long term, that only strong car brands survive and those who do, actually thrive. Management has pivoted and the company spends heavily on R&D to remain relevant in the industry. Hence, I believe BMW to be a good bet to survive through the impending disruptions in technology.
Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in BMWYY over 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.