Not all misses are created equal, and a miss that is based largely on taxes and "other income" can be an opportunity for investors to pick up shares a little cheaper than otherwise. BorgWarner (NYSE:BWA) continues to offer a compelling story in the auto parts sector - not only as more manufacturers outsource parts, but as fuel efficiency and emissions become even more important.
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A Miss Isn't Always a Miss
BorgWarner reported revenue growth of nearly 11%, with constant currency growth on the order of 13%. Although the reported growth was nearly three times that of the estimated underlying industry growth, a few analysts carped about a revenue miss - a miss that amounted to about 2.5% of revenue.
Engine revenue rose 5% (or 8% on an organic basis), while drivetrain revenue increased 26% (24% organic).
Margin performance was also solid. Gross margin improved about a point from last year, while reported operating income rose nearly 26%. By segment, engine EBIT rose 13% and drivetrain rose 91%. Most of the company's miss versus consensus came below the operating lines, where taxes took a bigger bite.
Understanding The Income Statement
Europe Bites a Little More Than Expected
If there was a disappointment this quarter, perhaps it was in the fact that BorgWarner wasn't as secure in Europe as previously thought. The thinking had been that BorgWarner's high relative exposure to German OEMs like Volkswagen and Daimler would insulate the company, but the company did see some weakness with customers like Ford (NYSE:F) and Renault/Nissan (OTCBB:NSANY.PK). Still, a little perspective is in order and it looks like the company substantially beat the industry; it grew at a time when the industry contracted.
A Solid Market Opportunity
The engine supplier market is pretty limited, with Continental, Delphi, Denso, Mahle and BorgWarner making up a large share of it. What's interesting about this market is that many OEMs still handle it internally; suggesting an opportunity for greater outsourcing as companies like BorgWarner establish the cost-benefit of doing so.
More specific to the turbocharging market, BorgWarner and Honeywell (NYSE:HON) both have good growth prospects. Turbocharging is virtually a must-have for diesel passenger vehicles and consumers in North America seem to finally be waking up to what Europeans have known for a while - diesel vehicles are more efficient than even the much-lauded gasoline-electric hybrids. Looking even more broadly, BorgWarner has a good portfolio of products that help reduce emissions and improve performance and fuel efficiency - something that should appeal to economists as well as environmentalists.
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The Bottom Line
I love how BorgWarner has broadened its customer base over the past ten years, and I like the prospects of even further market penetration. As far as passenger vehicle parts companies, I think BorgWarner is probably my favorite.
Unfortunately, price/value is still a little bit of a problem. The stock does look undervalued today, but growth expectations are already elevated, and it seems a little dangerous to trust a high-growth auto parts story. This is a tough stock; I love the business and though the undervaluation is not huge, it's a very tempting trade right now.
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At the time of writing, Stephen D. Simpson did not own shares in any of the companies mentioned in this article.