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Elevator Pitch
I have a Buy rating for Panasonic Holdings Corporation’s (OTCPK:PCRFY) [6752:JP] stock.
With my earlier article for Panasonic published on October 1, 2021, I reviewed the company’s Q1 FY 2022 (YE March 31) financial performance and evaluated changes to its corporate structure. In this latest write-up, I focus specifically on two of Panasonic’s key businesses which management has highlighted at its most recent quarterly results call.
I decided to maintain my Buy rating for Panasonic. My view is that the company’s European market expansion potential for its HVAC business and the Energy business’ tax credit don’t appear to be factored into Panasonic’s current valuations. I believe that Panasonic’s shares can re-rate to 1 times P/B or even higher in time to come.
Panasonic’s shares are listed in both Japan and the OTC market. The trading liquidity of Panasonic’s OTC shares with the PCRFY ticker is pretty liquid with an average daily trading value of close to $2 million in the last three months. Investors who require greater trading liquidity can also consider Panasonic’s shares traded on the Tokyo Stock Exchange, which boast a three-month average daily trading value in excess of $70 million. A number of US brokerages, including Interactive Brokers, offer trading access for the Japanese market.
Energy Business Is A Beneficiary Of The Inflation Reduction Act
At the company’s most recent Q2 FY 2023 earnings call on October 31, 2022, Panasonic specifically mentioned that it will “aim for sales growth mainly in Energy and Heating & Ventilation A/C” (or HVAC) businesses in the near future. I will touch on these two key businesses in my current article, starting with the Energy business in this section.
Panasonic’s Energy business, which includes the manufacturing of lithium-ion batteries for Electric Vehicles or EVs, accounted for around 10% of the company’s top line for fiscal 2022, as disclosed in the company’s 2022 Investor Day presentation slides.
The company’s management expects the revenue for its Energy business to increase by +26% from JPY773 billion for fiscal 2022 to JPY970 billion in FY 2025. Panasonic also guides for a +25% growth in its Energy business’ EBITDA from JPY121 billion to JPY150 billion in the same time frame. These are pretty decent numbers, which do not even account for the effects of the Inflation Reduction Act or IRA.
The IRA was passed into law in August last year, and this is expected to be a tailwind for Panasonic’s Energy business. Panasonic had acknowledged at its Q2 FY 2023 results briefing that the IRA will have a “positive impact” on its Energy business.
According to legal firm Orrick’s analysis presented in a November 17, 2022 article, battery makers such as Panasonic could potentially earn “a tax credit of up to $2,625 ($35 per kWh)” for every “75kWh battery pack” as part of the IRA. Australian bank Macquarie (OTCPK:MCQEF) published a research report (not publicly available) titled “LiB (Lithium-Ion Battery) Business Is Likely Undervalued” on January 25, 2023 which outlined its estimate of “$3 billion” (or close to JPY 400 billion) in total IRA tax credits for Panasonic.
As per S&P Capital IQ’s financial data, Panasonic generated EBITDA and net profit of JPY705 billion and JPY209 billion, respectively for the trailing twelve months’ period. As such, the tax credit (estimated to be JPY400 billion by Macquarie) relating to IRA is most probably going to have a very substantial impact on the earnings of the Energy business and the company as a whole.
HVAC Business Has Significant Growth Opportunities In Europe
The other business, which Panasonic singled out as a key growth driver for the company at its Q2 FY 2023 investor briefing, is its HVAC business.
In its November 22, 2022 investor briefing, Panasonic disclosed its goal of registering JPY1 trillion in revenue and a 10% EBITDA margin for the company’s HVAC business in fiscal 2026. In contrast, Panasonic’s HVAC business reported a much lower top line of JPY681 billion and an EBITDA margin of approximately 5% in the most recent FY 2022 period.
The key driver of the HVAC business’ top line expansion and profitability improvement is the increase in revenue generated from the European market. Panasonic targets to increase Europe’s sales contribution of the HVAC business from 12% for FY 2022 to 20% in FY 2026.
Panasonic’s HVAC business is a market leader in a number of European countries for specific product segments, and benefits from policy tailwinds. This explains why I am confident that Panasonic can meet or even exceed its growth targets for the HVAC business.
A November 30, 2022 article published by International Energy Agency or IEA highlighted that European countries’ “emissions reduction and energy security goals” could potentially drive a big jump in yearly “sales of heat pumps” from two million for 2021 to seven million by the end of the current decade.
Notably, Panasonic boasts a market share in excess of 25% for air-to-water heat pumps in Denmark, Lithuania, and Poland. In the first half of fiscal 2023, Panasonic’s revenue derived from air-to-water heat pumps in Europe expanded by 2.3 times, which is superior to the industry’s 1.5 times growth rate.
In other words, Panasonic’s HVAC business is the market leader in the European air-to-water heat pump segment and it continues to gain market share as evidenced by its above-industry growth metrics. The company has been expanding its distribution network in Europe, and this appears to have paid off.
Valuations And Medium-Term Outlook
Panasonic is currently valued by the market at a 24% discount to the company’s book value according to S&P Capital IQ’s valuation data. I think that this is a reflection of investors’ skepticism about Panasonic’s growth outlook.
The company is targeting to generate JPY2 trillion of operating cash flow for the FY 2023-2025 period and register a 10% ROE for fiscal 2025. In comparison, the current sell-side analysts’ consensus numbers (source: S&P Capital IQ) point to an 8.5% FY 2025 ROE estimate and a three-year forward operating cash flow forecast of JPY1.75 trillion.
In my view, I think that Panasonic can surprise the market in a positive manner by delivering financial results in line with its mid-term goals. As discussed in this article, there are positives relating to Panasonic’s HVAC business and Energy business, and these don’t seem to be fully appreciated by the market considering Panasonic’s P/B valuation and consensus projections.
Closing Thoughts
Panasonic’s shares are rated as a Buy. In my opinion, Panasonic’s current P/B ratio of 0.76 times hasn’t factored in the positives associated with the company’s Energy and HVAC businesses.
Editor’s Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.
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