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Elevator Pitch
I have a Hold investment rating assigned to Lear Corporation’s (NYSE:LEA) stock.
I previewed LEA’s Q3 2022 earnings and evaluated the prospects of Lear Corporation’s E-Systems business segment with my earlier October 18, 2022 update.
With this latest write-up, I note the strong market share growth potential of Lear Corporation’s Seating business segment in the medium to long run, but I am still cautious about the company’s short-term financial outlook. Considering both long term market share growth potential and the risk of analyst downgrades in the short term, I deem a Hold rating to be appropriate for Lear Corporation.
Recent Acquisitions
Lear Corporation previously disclosed on November 18, 2022 that the company had bought over a company known as InTouch Automation. In the announcement, LEA highlighted that InTouch Automation manufactures “complex automated testing equipment critical in the production of automotive seats” which will boost “Lear’s automation and manufacturing flexibility.”
InTouch is the latest in a series of acquisitions that Lear Corporation has done in recent times to support the future growth of the company’s Seating business. The other M&A deals LEA completed in the prior year included “Kongsberg Automotive’s Interior Comfort Systems business” and “seating materials specialist Thagora.”
The addition of Thagora will allow LEA to be more efficient with the use of materials such as leather when it makes its products; while Kongsberg’s Interior Comfort Systems business to enter a large and fast-growing thermal comfort market. As a reference, Lear Corporation noted at the Goldman Sachs’ (GS) 14th Annual Global Automotive Conference on December 8, 2022 that the size of the global thermal comfort market is approximately “$2.5 billion to $3 billion” and expanding at a rate of around “2 points above vehicle production.”
Moving forward, Lear Corporation is well-positioned to continue executing on its inorganic growth strategy for the Seating segment. According to the Wall Street analysts’ consensus financial forecasts drawn from S&P Capital IQ, LEA is expected to generate substantial annual free cash flow in the $600-800 million range between 2023 and 2026. Also, Lear Corporation has no debt due for refinancing for the next four years as indicated in the company’s investor presentation slides. In other words, LEA has the financial capacity to engage in potential acquisitions for its Seating business when good opportunities emerge.
Products Leveraged To Sustainability Trend
LEA has different levers to drive the growth of the company’s Automotive business segment. One of them is acquisitions which I detailed in the prior section of the article; another lever is new product launches which meet clients’ needs and preferences.
Sustainability is a key issue that both consumers and corporates pay a lot of attention to nowadays, and this hasn’t gone unnoticed by Lear Corporation. Earlier in late-October 2022, LEA revealed that the company introduced a new “automotive textile that is fully recyclable” named ReNewKnit.
Notably, Lear Corporation hasn’t ignored important features like product appeal and cost efficiency when it came up with ReNewKnit to ride on the sustainability trend. LEA had stressed at the GS’ December 2022 14th Annual Global Automotive Conference that ReNewKnit is both “a suede product” and also “a better cost option.”
Market Share Target
As highlighted in the company’s investor presentation, Lear Corporation currently boasts a 25% share of the global automotive seating market. LEA is even more dominant in the luxury segment with a 45% market share.
Lear Corporation has the ambition to grab additional market share from its rivals in the intermediate term. Specifically, LEA’s target is to achieve a 28% market share in the worldwide auto seating industry in the next five years.
LEA’s market share expansion goal seems to be pretty realistic. The company previously highlighted at Goldman Sachs’ 14th Annual Global Automotive Conference that its share of the global auto seating market used to be much lower at just 18% a couple of years back. This implies that Lear Corporation has successfully taken market share away from its competitors in the past, and there are no reasons to suggest that LEA can’t do the same again going forward.
In the preceding sections of the current article, I discussed about acquisitions and new products leveraged to the sustainability trend, and these are some of the key drivers supporting LEA’s market share growth target.
There are also two other growth drivers for Lear Corporation’s Seating business. One of them is the structural trend of an increase in Content Per Vehicle or CPV. For example, there is rising demand for thermal comfort features in automotive seats, and LEA is in a good position to capitalize on this trend with the integration of Kongsberg’s Interior Comfort Systems business mentioned earlier. Another growth driver is conquest wins. At GS’ December 2022 14th Annual Global Automotive Conference, LEA indicated that “customers are coming to us, asking us to quote competitors’ business” due to the company’s superior “quality and operating performance.”
Risk Of Further Analyst Downgrades And Negative Earnings Surprises
The medium-to-long term growth prospects of Lear Corporation are decent as discussed in detail in the earlier sections of the article. But LEA’s near-term outlook is murky.
Seeking Alpha News recently reported on December 14, 2022 that Wells Fargo (WFC) reduced its rating for Lear Corporation from a Buy to a Hold, after WFC “lowered its (2023) light vehicle production growth forecast to just 1.8% from a prior 7.1%.”
In the past three months, the sell-side analysts have cut Lear Corporation’s fiscal 2023 top line and normalized earnings per share or EPS by -3.8% and -14.7%, respectively. I don’t think these cuts are sufficient, considering the bearish outlook for the global automotive industry next year as highlighted by Wells Fargo.
As such, I think there is a high probability that LEA will witness either further Wall Street analysts’ target price & financial estimate downgrades or earnings misses in the quarters ahead. This will potentially lead to a further derating of Lear Corporation’s stock price and valuations. It also doesn’t help that LEA’s valuations aren’t exactly cheap based on a historical comparison. Lear Corporation’s current consensus forward next twelve months’ EV/EBITDA multiple of 5.7 times (source: S&P Capital IQ) exceeds its 15-year average forward EV/EBITDA ratio of 5.3 times.
Concluding Thoughts
My Hold investment rating for Lear Corporation remains unchanged. I am bullish on the mid-to-long term growth prospects of LEA’s Seating business segment, but I have a negative view of the company’s near-term financial performance taking into account the overall auto industry outlook.
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