LEAR CORP. : (LEA)
This week's Focus Stock of the Week is Lear Corp. (LEA: $97.96) which carries S&P Capital IQ's highest investment recommendation of 5-STARS, or Strong Buy. Lear is a leading supplier of automotive seating and electric power management systems for global vehicle manufacturers. We expect that the company will generate about $17.8 billion in revenues in 2014 and $18.9 billion in 2015. Our recommendation is based on our expectations that Lear will benefit from rising global vehicle demand, led by growth in the U.S., China, and improvement in Europe, while maintaining a supportive balance sheet. Overall, we believe Lear's stock has attractive total return potential.
Lear is among the world's largest suppliers of automotive components to global vehicle manufacturers. The company is primarily a Tier-1 supplier. The company has two operating segments: seating and electrical power management systems (EPMS).
The seating segment includes seat system and related components, such as seat frames, recline mechanisms, seat tracks, seat trim covers, headrests and seat foam. The EPMS segment includes electrical distribution systems for traditional powertrain vehicles, as well as for hybrid and electric vehicles.
Lear's three largest customers, General Motors, Ford and BMW, accounted for 54% of 2013 revenues. Sales in North America accounted for 38% of 2013 revenues, with Europe and Africa providing 38%, Asia 18%, and South America 6%.
S&P Capital IQ Equity Research recently increased its U.S. new light vehicle sales volume forecast and believes it will rise 4.9% to 16.3 million units in 2014. J.D. Power & Associates (which, like S&P Capital IQ, is owned by McGraw Hill Financial), projects global new light vehicle sales volume will increase 3.5% in 2014 to 87.4 million units.
We estimate a 9% to 10%% increase in Lear's overall revenues for 2014. We expect revenues to benefit from higher U.S and European demand, but project a contraction in parts of South America.
Seating segment margins were adversely impacted in 2013 by new and important product changeovers and launches, which typically start with lower margins until volume and manufacturing efficiencies are realized. Also, customer price concessions hurt margins, but we believe margins should improve in the second half of 2014. Electronic power management systems should see wider margins through 2014, as the segment benefits from restructuring actions and enhanced focus. We also expect greater profit contributions from joint ventures.
While we use an effective tax rate of about 30% for 2014, cash taxes however, should be closer to 20%. Our EPS estimate for 2014 is $7.90, up from 2013's reported $4.99. We see 17% EPS growth to $9.25 in 2015. These projections are supported by executed and expected stock repurchases. Lear is using its cash on hand to fund material share repurchase transactions, as well as modest, strategic, non-transformational acquisitions to enhance its growth. The company's bankruptcy reorganization left it in an improved financial position, in our view. We expect continued return of capital to shareholders including a dividend increase. At June 30, 2014 the company had automotive cash and marketable securities of $865 million.
The company's has beaten our estimates in each of the past two quarters and Lear raised its financial (sales, profit and EPS) guidance in both July and April, compared to its January outlook for 2014 performance.
Our 12-month target price is $130, based on historical and peer P/E analysis. We apply a multiple of 14X to our 2015 EPS estimate of $9.25. Our target multiple is in the upper portion of the recent historical range, but in line with the peer average. Lear's revenues are growing faster than the industry. The $0.80 annual cash dividend adds to total return potential.
With our target price of $130, and a recent 0.8% dividend yield, we see approximately a 32% total return potential.
Risks to our recommendation and target price include lower-than-expected demand for vehicles and Lear parts due to cyclical economic fluctuations and economic challenges in Europe. Unfavorable exchange rate fluctuations could also hurt sales and profits. A decline in the discount rate could cause pension expense to be higher than we project.
S&P Capital IQ's views on stocks are constantly re-evaluated. Please refer to our most recent publication on this stock to see our current view.