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Let a thousand engines vroom

3 November 2015 By Olaf Storbeck

BMW’s surprisingly strong third-quarter results add weight to a much contested thesis: that regional diversity may make the auto industry less cyclical. Healthy sales growth in the Americas and Europe offset lacklustre demand in China. BMW’s pre-tax profit from January to September rose 4.3 percent to an all-time record of 7.1 billion euros.

Automotive groups and cycles go way back. If the economy turns sour, drivers can easily postpone the purchase of a new car. Moreover, as fixed costs for carmakers are high, small falls in demand dent profitability heavily.

BMW has diversified supply chains and markets massively in an attempt to reduce the swings. It sells 55 percent of its vehicles outside Europe, compared to 40 percent a decade ago. And 30 percent of all cars are built overseas, compared to 20 percent in 2004.

This improves resilience. When U.S. and European demand collapsed in 2008 and 2009, strong growth in China kept BMW on track. Now the picture has reversed. And the higher share of overseas production also works as a natural hedge against potentially harmful foreign exchange swings.

So has BMW beaten the cycle? It may have just been lucky. With tighter economic and financial links between Europe, the United States and China, economic cycles may converge over time. The carmaker’s financial services units, which generate a fifth of overall group operating profit, also help even out revenue streams.

If BMW can sustainably smooth the peaks and troughs, it deserves a rerating. The shares currently trade on 10 times the next 12 months’ expected earnings, roughly at par with its 10-year historical median of 10.1, Thomson Reuters data shows. Engineering giant Siemens, which analysts expect to earn an operating profit margin comparable to BMW’s in coming years, trades almost 40 percent higher.

Closing half of this gap could move BMW shares from 93.50 to 112 euros. Many engines are better than just one.

 

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