Introduction
The valuation of an automobile manufacturer implies both a deep knowledge of the company and the industry, the product mix, revenue and cost divers and the regulations that cover the sector. For a manufacturer or an investor in the industry it is relevant to value the mix of products sold against the trends in the market, foresee future market tendencies, design changes, technology improvements and the geographic characteristics.
- Cost of capital
A key element of a valuation through the FCFF method is the weighted average cost of capital, used in discounting the cash flow available for debt and equity holders, this is also a measure of risk as it states the rate of return investors require to invest in the company
Capital Structure
As we have seen, KTM operates with high debt ratios. Between 2003 and 2007 KTM’s Debt – to – Total Assets has remained steady around 88.9%, presenting with a CAGR of -0.87%. KTM’s 2007 annual report is remiss to whether or not this capital structure should remain steady or not. For lack of information and taking into account the last 5 years it was assumed that the 2007’s capital structure should remain stable in the foreseeable future. For the purpose of the estimation of WACC, equity was considered at the market value of equity as at December, 31st 2007, according to S&P Capital IQ and debt was considered on a net debt basis as estimated
Weighted Average Cost of Capital (WACC)
KTM’s WACC
WACC | |
Cost of Equity | 10.44% |
After tax cost of debt | 2.77% |
E/E+D | 29.66% |
D/E+D | 70.34% |
Tax rate | 20.81% |
1 – Tax rate | 79.19% |
US long time inflation | 2.32% |
Adjustment for weighted average
inflation |
2.68% |
WACC local currency | 5.00% |
Based on the aforementioned assumptions, taking into account an effective tax rate of 20.81%, the longtime inflation for the USD and a weighted average inflation estimated based on KTM´s revenue per region and on the forecasted inflation per region, the discount rate totals 5.00%.
The rationale behind taking them into account of the USD inflation expectations and the World’s expected inflations is as follows: i) growth expectations, that influence cash flow, take into account the forecasted inflation KTM’s main operating regions, ii) KTM’s stock trades in USD in the United States and iii) KTM has operations and or generates revenue in all continents and as such its risk is linked to currency and inflation risks around the globe.
Hypothesis:
H0: Recommend a “HOLD” on the share, 29% recommending “buy” and 3 out of 24 analysts covering the stock recommended “sell”.
H1: Not to recommend a “HOLD” on the share, 29% recommending “buy” and 3 out of 24 analysts covering the stock recommended “sell”.
Discounted Cash Flow Valuation
Based on the company’s outlook per region and the forecasted GDP growth, the real growth rate on sales was projected. Furthermore the inflation rates, estimated by the IMF, per region were added to the real growth rates, to project revenue.
Historical and forecasted gross profit
Currency: $ 000 | FY03 | FY104 | FY05 | FY06 | FY07 |
Auto revenue | 140,566 | 141,546 | 143,878 | 149,351 | 155,142 |
% change | 3.5% | 0.7% | 1.6% | 3.8% | 3.9% |
Financial revenue | 8,992 | 10,253 | 10,150 | 10,242 | 10,329 |
% change | 8.4% | 14.0% | -1.0% | 0.9% | 0.8% |
Total revenue | 149,558 | 151,799 | 154,028 | 159,593 | 165,470 |
% change | 3.8% | 1.5% | 1.5% | 3.6% | 3.7% |
COGS | (127,748) | (131,132) | (133,675) | (137,566) | (141,338) |
% change | 0.0% | 2.6% | 1.9% | 2.9% | 2.7% |
Gross profit | 21,810 | 20,668 | 20,353 | 22,027 | 24,133 |
% change | 33.4% | -5.2% | -1.5% | 8.2% | 9.6% |
Source: Author’s estimates
Figure 30 Historical and forecasted operational results
Currency: $ 000 | FY03 | FY104 | FY05 | FY06 | FY07 |
EBITDA | 16,017 | 13,304 | 8,687 | 10,057 | 11,834 |
% change | 106.5% | -16.9% | -34.7% | 15.8% | 17.7% |
D&A | (3,661) | (4,356) | (4,201) | (4,594) | (5,017) |
% change | 18.2% | 19.0% | -3.6% | 9.4% | 9.2% |
EBIT | 7,647 | 4,116 | 4,486 | 5,463 | 6,817 |
% change | 2,303% | -46.2% | 9.0% | 21.8% | 24.8% |
NOPLAT | n.a. | n.a. | 3,552 | 4,326 | 5,399 |
% change | n.a. | n.a. | n.a. | 21.8% | 24.8% |
Source: Author’s estimates
KTM’s discounted cash flow
Currency: $ m | FY05 | FY06 | FY07 | Cruise Year | |
EBITDA | 8,687 | 10,057 | 11,834 | 14,288 | |
(-) D&A | (4,201) | (4,594) | (5,017) | (5,645) | |
EBIT | 4,486 | 5,463 | 6,817 | 8,643 | |
Operating taxes | (933) | (1,137) | (1,418) | (1,798) | |
NOPLAT | 3,552 | 4,326 | 5,399 | 6,844 | |
(+) D&A | 4,201 | 4,594 | 5,017 | 5,645 | |
Change in NWC | 10,794 | (1,105) | (1,221) | (1,269) | |
Operating CF | 18,547 | 7,816 | 9,195 | 11,221 | |
Capex | (6,260) | (6,727) | (7,229) | (8,005) | |
FCF | 12,287 | 1,089 | 1,966 | 3,215 | |
WACC | 5.00% | 5.00% | 5.00% | 5.00% | |
Prepetual growth rate | n.a. | n.a. | n.a. | 3.2% | |
Discount factor | 0.98 | 0.93 | 0.89 | ||
Discounted FCF | 11,991 | 1,012 | 1,740 | ||
Σ Discounted FCF | 17,370 | ||||
Discounted TV | 148,617 | ||||
KTM Enterprise Value | 165,988 | ||||
Net Debt | (115,398) | ||||
Non operating assets | 1,516 | ||||
KTM Equity Value | 52,105 | ||||
KTM share price | 13.11 |
Source: Author’s estimates
Figure 32 Recommendation
Currency: $ |
Central
scenario |
Price target | 13.11 |
KTM’s share price @ 31/12/2007 | 12.37 |
Upside potential $ | 0.74 |
Upside potential % | 6.0% |
Recommendation | Hold |
Deal Structure
As a result of the valuation performed under the DCF methodology, it is possible to conclude that KTM’s Enterprise value has a minimum value of $111,203m and a maximum value of $353,724m with a central value of $165,988m.
Enterprise value’s sensitivity analysis
Source: Author’s estimates
To study the impact that a +/- 0.5 pp change in the long-term growth rate and in the discount factor (WACC) has on KTM’s enterprise value a sensitivity analysis was performed on these factor.
As a result it is possible to observe that a +/- 0.5 pp increase/decrease in the long term growth rate will result in $57,158m/$-32,560m increase/decrease in the company’s enterprise value. Furthermore, a +/- 0.5pp increase/decrease in the WACC is expected to result in a $59,687m/$-34,001m decrease/increase in KTM’s enterprise value.
- Scenario analysis
Following the study of KTM’s equity value, a scenario analysis was performed, in order to measure how certain variations in key assumptions would result in deviations from a central scenario and from KTM’s share price as at Dec104.
The assumptions being changed consisted of; (i) the real growth rates for the auto business and financial business per geography and (ii) the percentage of cost of sales over revenue used to project gross margin in the forecasted period.
Real growth rates per scenario
Bear scenario | Central scenario | Bull scenario | ||||||||
Key Assumptions | FY05 | FY06 | FY07 | FY05 | FY06 | FY07 | FY20F | FY05 | FY06 | FY07 |
Real sales growth | ||||||||||
North America | -1.3% | 0.6% | 0.7% | 1.0% | 0,9% | 1.0% | 1.0% | -0.7% | 1.2% | 1.3% |
Europe | -1.3% | 0.7% | 0.8% | 1.0% | 1.0% | 1.1% | 1.1% | -0.7% | 1.3% | 1.4% |
South America | 2.5% | 1.6% | 0.9% | 2.8% | 1.9% | 1.2% | 0.8% | 3.1% | 2.2% | 1.5% |
Asia and Pacific | 5.2% | 3.2% | 2.2% | 5.5% | 3.5% | 2.5% | 1.8% | 1,3% | 1,1% | 1,0% |
Middle East and Africa |
3.0% |
1.6% |
0.6% |
3.3% |
1.9% |
0.9% |
0,8% |
3.6% |
2.2% |
1.2% |
Financial | -1.3% | 0,6% | 0.6% | -1.0% | 0.9% | 0,9% | 0,9% | -0.7% | 1.2% | 1.2% |
Source: Author’s estimates
- Bear scenario
In a bear scenario KTM’s revenue per vehicle growth is limited to the inflation estimations for each geography and real revenue growth, which is used to forecast sales in quantity, would be less 0.5pp than in the central scenario. Furthermore, in the bear scenario, a 0.5% deterioration of the forecasted central gross margin is estimated to occur every year in homologous terms. This deterioration is estimated both for the automobile and financial businesses.
KTM’s DCF valuation, bear scenario
Currency: $ m | FY05 | FY06 | FY07 | FY20F | Cruise Year | |
EBITDA | 8,618 | 9,921 | 11,612 | 13,525 | 13,955 | |
(-) D&A | (4,201) | (4,594) | (5,016) | (5,469) | (5,643) | |
EBIT | 4,417 | 5,327 | 6,596 | 8,057 | 8,313 | |
Operating taxes | (919) | (1,108) | (1,372) | (1,676) | (1,730) | |
NOPLAT | 3,498 | 4,218 | 5,224 | 6,380 | 6,583 | |
(+) D&A | 4,201 | 4,594 | 5,016 | 5,469 | 5,643 | |
Change in NWC | 10,872 | (1,023) | (1,131) | (1,132) | (1,168) | |
Operating CF | 18,571 | 7,789 | 9,109 | 10,717 | 11,058 | |
Capex | (6,253) | (6,714) | (7,208) | (7,729) | (7,975) | |
FCF | 12,317 | 1,075 | 1,901 | 2,988 | 3,083 | |
WACC | 5.00% | 5.00% | 5.00% | 5.00% | 5.00% | |
Prepetual growth rate | n.a. | n.a. | n.a. | n.a. | 3.2% | |
Discount factor | 0.98 | 0.93 | 0.89 | 0.84 | ||
Discounted FCF | 12020 | 999 | 1683 | 2518 | ||
Σ Discounted FCF | 17,220 | |||||
Discounted TV | 142,480 | |||||
KTM Enterprise Value | 159,701 | |||||
Net Debt | (115,398) | |||||
Non operating assets | 1,516 | |||||
KTM Equity Value | 45,818 | |||||
KTM share price | 11.53 |
Source: Author’s estimates
By reducing the real growth rates per geography and by projecting a higher percentage of cost of sales over revenue, KTM’s enterprise value registers a decline of $-6,287m (3.8%) against the central scenario. Furthermore, KTM’s price target observed a decrease of $1.6 per share (12.1%).
Recommendation @ bear scenario
Currency: $ | Bear scenario |
Price target | 11.5 |
KTM’s share price @ 31/12/2007 | 12.4 |
Upside potential $ | (0.84) |
Upside potential % | -6.8% |
Recommendation | Sell |
Source: Author’s estimates
- Bull scenario
In a bull scenario KTM’s revenue per vehicle growth consists of the inflation estimations for each geography and a real revenue growth with a 0.3pp markup on the central scenario. Furthermore, in the bull scenario, a 0.5% improvement of the forecasted central gross margin is estimated to occur every year in homologous terms. This improvement is estimated both for the automobile and financial businesses.
KTM’s DCF valuation, bull scenario
Currency: $ m | FY05 | FY06 | FY07 | Cruise Year | |
EBITDA | 8,756 | 10,195 | 12,058 | 14,623 | |
(-) D&A | (4,201) | (4,595) | (5,018) | (5,648) | |
EBIT | 4,555 | 5,600 | 7,040 | 8,975 | |
Operating taxes | (948) | (1,165) | (1,465) | (1,868) | |
NOPLAT | 3,607 | 4,435 | 5,575 | 7,108 | |
(+) D&A | 4,201 | 4,595 | 5,018 | 5,648 | |
Change in NWC | 10,716 | (1,187) | (1,312) | (1,371) | |
Operating CF | 18,524 | 7,842 | 9,281 | 11,385 | |
Capex | (6,266) | (6,740) | (7,250) | (8,036) | |
FCF | 12,258 | 1,102 | 2,032 | 3,349 | |
WACC | 5.00% | 5.00% | 5.00% | 5.00% | |
Prepetual growth rate | n.a. | n.a. | n.a. | 3.2% | |
Discount factor | 0.98 | 0.93 | 0.89 | ||
Discounted FCF | 11962 | 1024 | 1798 | ||
Σ Discounted FCF | 17,520 | ||||
Discounted TV | 154,779 | ||||
KTM Enterprise Value | 172,299 | ||||
Net Debt | (115,398) | ||||
Non operating assets | 1,516 | ||||
KTM Equity Value | 58,417 | ||||
KTM share price | 14.70 |
Source: Author’s estimates
By increasing the real growth rates per geography and by projecting a lower percentage of cost of sales over revenue, KTM’s enterprise value registers an increase of $6,312m (3.8%) against the central scenario. Furthermore, KTM’s price target observed a decrease of $1.6 per share (12.1%).
Figure 39 Recommendation @ bull scenario
Currency: $ | Bull scenario |
Price target | 14.7 |
KTM’s share price @ 31/12/2007 | 12.4 |
Upside potential $ | 2.3 |
Upside potential % | 18.8% |
Recommendation | Buy |
As described before, the valuation of a company through multiples can be a useful tool, as it is simpler than most methods and delivers a relative valuation in opposition to an absolute one. This allows for the confirmation of the results achieved with other methodologies.
The following multiples analysis was based on the auto industry main players in the North America.
Equity Multiples
Industry players |
P/E ratio | P/BV
ratio |
Diluted EPS |
KTM | 10.2 | 1.6 | 1.15 |
GM | 5.9 | 1.2 | 6.00 |
Chrysler | 8.7 | 0.8 | 1.18 |
Daimler | 9.1 | 1.3 | 8.58 |
Honda | 14.5 | 0.8 | 2.14 |
Toyota | 10.1 | 1.1 | 5.45 |
BMW | 8.1 | 1.2 | 11.24 |
Main players mean | 9.5 | 1.1 | 5.1 |
Source: (S&P Capital IQ, 2017)
Regarding the price earnings ratio, the average of the players researched find their shares trading at 9.5x P/E, whereas KTM’s shares trade at 10.2x P/E, meaning that KTM’s shares are slightly more expensive that those of most of its main competitors, as willing investors have to pay $10.2 for each revenue unit.
KTM’s shares trade at a 1.6x P/BV ratio, above the 1.1x P/BV of the average researched players. This means that the market could be over pricing KTM’s shares, an indicator that investors are pricing in an improvement in KTMs outlook.
Enterprise Multiples
Industry players |
Enterprise
value |
EV/Revenue |
EY/EBITDA |
EV/EBIT |
KTM | 162,033 | 1.10 | 10.80 | 25.60 |
GM | 116,504 | 0.70 | 5.30 | 9.60 |
Fiat Chrysler | 22,442 | 0.2 | 2.2 | 3.9 |
Daimler | 191,559 | 1.2 | 10.3 | 13.5 |
Honda Motor Co | 104,531 | 0.8 | 9.2 | 15.2 |
Toyota Motor Co | 297,756 | 1.2 | 8.3 | 13.6 |
BMW | 148,447 | 1.5 | 10.4 | 14.3 |
Main players mean | 149,039 | 1.0 | 8.1 | 13.7 |
KTM’s enterprise value is above the average of the considered peer group and it ranks third in the seven considered players, making it one of the most valuable enterprises in the industry.
Looking at the enterprise multiples KTM appears to be overvalued, presenting with ratios above industry average, however the EV/EBITDA and EV/EBIT ratios above industry average can hint that investors are pricing in an improvement in operational results. The gap between EV/EBITDA and EV/EBIT reveals that, as it could be perceived, depreciations and amortizations, are a key characteristic of KTM’s business. The valuation results are confirmed but the multiples analysis.
Recommendations
KTM’s future outlook presents with both opportunities and risks, as the industry in which the company operates is facing changes and challenges. The general outlook for the auto industry remains favorable, with global sales of light vehicles hitting new highs of 93.5 million units in 2007 according to (focus2move, 2017), with the first 2 months of 2017 presenting a 4.1% increase from the same period of 2007.
In 2007, KTM kept the third place in the top 50 best car selling brands, with about 6.2 million units sold, trailing Volkswagen by about 300 thousand vehicles. KTM’s 2007 sales constitute an increase of 2.3% from 2015 and place the North American manufacturer with a 6.8% market share, below Volkswagen’s 7.1% and Toyota’s 9.2%.
Conclusions
The present is a report on the automobile industry and a proposed fundamental valuation on KTM, with the intent to present a recommendation based on an estimated price target. As a result of this report’s scope, it constitutes an addition to existing literature on the automobile industry and on a specific player in this industry. Through the application of the discounted cash-flow methodology, KTM’s 12 month price target amounts to $13.11 per share, a $0.28 (2.19%) above against the 12 month consensus price target of $12.83 ,according to (Parker, Market Realist, 2017). According to the same source, citing Reuters, 58% recommended a “HOLD” on the share, 29% recommending “buy” and 3 out of 24 analysts covering the stock recommended “sell”. As a result of the comparison between the stock’s close price as at December 30th 2007 of $12.13 and this report’s price target estimation of $13.11, the resulting recommendation is to hold KTM’s shares.
References
Easton, M., & Sommers, Z. (2018). Financial Statement Analysis & Valuation, 5e.
Mun, J., Housel, T., & Majchrzak, L. (2017). Business Case Valuation of Strategic Flexibility in Shipbuilding: Justifying and Assessing the Value of Flexible Ships Design Features in New Navy Ship Concepts.
Ray, D. E., Ray, D. E., Allen, T., Bakker, A., Baldwin, H., Barnier, B., … & Amami, M. (2018). 2016 Cost of Data Breach Study: Global Analysis. In Valuing Data: An Open Framework (Vol. 3, No. 1, pp. 1-8). Bradley Beach, NJ: Ponemon Institute LLC.