Bright Prospects Ahead As Toyota Leaves Yesteryear Woes Behind
Toyota Motor is currently the world's largest automaker in terms of sales volumes as well as market capitalisation. The automaker enjoys a staggering market capitalisation of JPY19trn (US$194bn). Toyota sold over 9.75mn vehicles in 2012, a sharp increase of 23.4% from 2011, when Japanese automakers' production was hobbled by the earthquake in Japan as well as the Thailand floods. Were it not for the Sino-Japan dispute, which erupted in late 2012 (see our online service, September 28 2012, 'Japanese Autos: Outlining The Bear Case Alternatives'), 2012 sales would have seen even more impressive growth.
|Toyota Group - Global Sales Volumes (mn units)|
Since the yen began weakening against most currencies in late 2012, Japanese automakers have enjoyed a nice tailwind to their operations in areas such as exports as well as profit remittance from overseas subsidiaries. Given that BMI expects medium-term yen weakness, we believe this will be the year when Japanese automakers bounce back as they put their recent problems behind them and look to capitalise on their currency advantage (see 'Autos: Japan Over Korea In 2013', January 31). Indeed, the recent concerns of South Korean and American carmakers over the rapidly depreciating yen attests to the fear among competitors of the erosion in market share which they are facing.
Furthermore, shares in each of the J3 automakers (Honda, Nissan and Toyota) have rallied massively since September 2012, outpacing the 26% decline in the yen. While we see all J3 automakers benefitting from the weaker yen, we especially like Toyota given that 50% of its global production capacity still remains in Japan, the highest proportion among the three firms. This makes the company's global exports highly leveraged to the weaker currency. The firm's shares have rallied 74% since September 2012, the most among the J3. We continue to hold a constructive view on Toyota's stock, having placed it in our equity strategy watchlist since January 2013.
|Toyota: Industry Bellweather|
|J3 Automakers and JPY/US$ - Total Return Since September 2012|
Toyota will release its full FY2012-13 (April-March) results in May 2013. Although the yen began to weaken in October 2012, most Japanese manufacturers have yet to see a strong pick-up in their exports, given the lagged effect of yen depreciation on exports. While the firm forecasts a strong FY2012-13 finish with revenues and net profit of JPY21.8trn (US$222bn) and JPY860bn (US$8.78bn) respectively, we believe FY2013-14 will be an even stronger year as Toyota begins to significantly increase its Japanese capacity utilisation and exports on the back of the weakening yen.
|Best Is Yet To Be|
|Toyota - Vehicle Exports From Japan, '000 units (LHS); Revenues And Profits, JPY (RHS)|
Toyota's public image was badly hurt in 2009-2010 when it was criticised over the slow handling of its US recalls of vehicles, which suffered from unintended acceleration issues. This was partly due to a management structure which impeded quick decision-making, as ultimate authority still resided in Japan.
However, there is cause for optimism following the carmaker's management overhaul in March 2013. According to senior vice president of Toyota Motor Sales, Bob Carter, Toyota's US management now has more autonomy to design cars and trucks aimed specifically for US consumers. We believe this is crucial to the firm's success as it ensures that it is attuned to the local needs of customers.
Also, Toyota appointed former General Motors Company (GM) executive, Mark Hogan, to its board recently. Hogan is only the second non-Japanese citizen to ever serve in this position. A greater diversity in its management team will give the carmaker global perspectives on its business model. We see the management revamp as a bold sign of the company shedding its inward-looking past and embracing a modern culture in order to improve the efficiency of its subsidiaries and the organisation as a whole.
Focus On Profitability, Not Sales Volumes
Toyota has indicated that while it is the world's largest automaker by sales, volume expansion is not going to be the focus of the company going forward. Instead, the firm is looking at building a sustainable business. We believe this is a sensible move from the management and see return on equity (ROE) and other profitability ratios improving in the coming quarters as some mean reversion takes place.
Learning from its mistake of rapidly increasing capacity before the global financial crisis, which resulted in overcapacity in the face of rapidly declining demand, Toyota has recently pledged to refrain from any new factory investments for the next three years. We believe this is a prudent move given that the firm enjoys spare capacity. Toyota has already announced small upward revisions in Japanese production this year on the back of rising export demand, and we believe the firm has the scope to do likewise in its other production bases worldwide.
Push Into Hydrogen
Toyota has long believed that it will be difficult for the world to migrate straight to pure electric vehicles (EVs), and has chosen to avoid putting all of its resources into the technology. It is that belief which pushed the firm to embark on the development of a hybrid car, culminating in the marketing of the Toyota Prius in 1997, in Japan.
Currently, Toyota is actively researching other alternative technologies such as hydrogen powered cars. While the firm already has a partnership with BMW to jointly develop lithium-ion batteries since December 2011, the two companies recently signed agreements aimed at long-term collaboration for hydrogen fuel cell systems development. Both these firms believe that fuel cell technology is one of the solutions necessary to achieve zero emissions. Toyota joined the London Hydrogen Partnership in March 2013 and has stated its aim of selling fuel cell vehicles in European and American markets by 2015. Toyota's strategy of diversifying its risk among alternative propulsion technologies chimes with BMI's view that EVs face many challenges to mass adoption (see, 'Pure EVs Will Not Become Mainstream Anytime Soon', March 11).
Production Process Revamp
While Toyota has always championed the lean production line approach, which has improved its efficiency, its new 'Toyota New Global Architecture' plan is a partial departure from its coordinated development method. The new modular approach will allow a variety of vehicles to be developed simultaneously through the sharing of parts, which will in turn increase market responsiveness and reduce operating costs. This follows in the recent steps of other automakers who have announced similar moves (see 'Nissan Announces Shared Vehicle Platform', March 27).
We see the experimentation of a new manufacturing approach as a positive given that the carmaker is unafraid to move away from tried and tested methods, to keep abreast with new market realities.
|Good Execution And Earnings Growth Will Be Needed To Sustain Rally|
|Toyota Share Price (JPY)|
While Toyota's share price has enjoyed an impressive run-up on the back of the weakening yen, as well as the recent monetary easing announcement by the new Bank of Japan (BoJ) governor, Haruhiko Kuroda, we believe good execution in its strong growth markets such as Indonesia and the US will be necessary to provide the earnings growth needed to sustain the rally in its share price. The firm has already committed to a bigger bonus payout for its workers for FY2013-14 in anticipation of rising profits (due to the weaker yen), and it can ill-afford any missteps in its strategy, which would dent its earnings projections.
While the recent airbag recall by Toyota and some other automakers was largely due to manufacturing flaws by their Japanese supplier, Takata Corp, it is a warning of the type of things that can go wrong for Toyota and throw its strategy off-course. Another mass recall due to a crucial flaw would see Toyota's reputation take a major hit.
Although we maintain a favourable medium-term outlook on the automaker, we do not believe its equity valuations are compelling at the moment, due to the strong recent run-up. We will look for a pullback in the share price before considering an initiation of a long position.