Frank Voisin is the author of the popular value focused website Frankly Speaking, found at http://www.FrankVoisin.com
Superior Industries International Inc (NYSE:SUP) is a Van Nuys, California based manufacturer of aluminum road wheels for sale to OEMs. The company’s manufacturing operations are split between the United States and Mexico and consequently the bulk of its sales are to the American automotive manufacturers. Over the last three years, Ford, GM and Chrysler have averaged 34%, 32% and 12% of revenues, respectively. The remaining approximately 22% of sales are split among a number of foreign brands with manufacturing plants in North America.
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Given the context of the company’s major customers, one might expect SUP to have performed quite poorly over the last five years. While it is true that the company experienced losses in 2008 and 2009, these were largely non-cash and in fact the company generated positive free cash flows in each of the last five years, averaging $35.5 million. The more astonishing fact here is that the company trades for a market capitalization of $446 million, has zero debt and $198 million in cash, for an enterprise value of just $248 million. Thus, average free cash flows of $35.5 million appear quite strong, especially during an unusually weak climate for the company’s customers.
In the years leading up to 2008, around 15 million vehicles were sold in the United States. This number dropped to a low of 8.6 million units in 2009 and has been slowly recovering. Additionally, according to Polk Automotive Research, the average age of an automobile in the U.S. hit a new record of 10.8 years in 2011. Though the auto market may be weak for several more years, we’ve seen that the company has fared quite well despite the cyclical downturn. Ultimately though, demand should revert to the mean, at which point we should expect the company to perform much better, especially with its trimmed down cost structure:
We have taken significant steps in the past to reduce our overall costs, including rationalizing our production capacity in response to the late 2008 and 2009 industry recession and falloff in demand. In August 2008, we announced the planned closure of our wheel manufacturing facility located in Pittsburg, Kansas, and workforce reductions in our other North American plants, resulting in the layoff of approximately 665 employees and the elimination of 90 open positions. On January 13, 2009, we also announced the planned closure of our Van Nuys, California wheel manufacturing facility, thereby eliminating an additional 290 jobs. The Kansas and California facilities ceased operations in December 2008 and June 2009, respectively.
There are a few other things I really like about SUP. First, the company has been consistently paying dividends since 1990 and currently sports a 3.9% yield. Companies that pay out the bulk of their earnings tend to be more disciplined about acquisitions which is great from a shareholder’s perspective.
Another thing I like is the ownership structure. For one, insiders own 21.63% of the company according to the recent proxy statement, though I should caution that this ownership is not particularly broad based, and almost all of it is related to Steve J. Borick, the President, CEO and Chairman of the Board. Another positive is that renowned value investor Marty Whitman owns 8.9% through his firm, Third Avenue Management, and has increased his stake over the last year.
The biggest fear that I have about SUP goes back to the beginning of this article: its biggest customers are the American automotive manufacturers. While the company itself does not have the financial leverage of its major customers, this nevertheless poses a risk to the firm. This fear is mitigated by the fact that the United States government appears to have implicitly guaranteed support for these large employers (“too big to fail”). Regardless, customer concentration at these levels is always a concern even if the customers are financially secure; high reliance gives the customer undue influence in negotiations and works as a headwind to margin expansion.
Another concern is that the bulk (approximately 63%) of revenues are from the company’s Mexican operations, which are denominated in both US Dollars the Mexican Peso. When a company has operations that have a functional currency that differs from the reporting currency, this leads to foreign currency transaction gains and losses, which show up under “Comprehensive Income (loss)” under Shareholders’ Equity on the Balance Sheet. In most cases, the fluctuations in currency rates amount to noise that, over the long run, does not amount to much. This is not the case with the USDMXN exchange rate, which has persistently appreciated over the last decade, with the Mexican peso down 28.8% versus the greenback. Here’s the current cumulative tally of these losses (from the 10-K; emphasis mine):
Since 1990, the Mexican peso has experienced periods of relative stability followed by periods of major declines in value. The impact of this change in value relative to our Mexico operations has resulted in a cumulative unrealized translation loss at December 31, 2011 of $61.4 million.
This is an extremely large amount relative to the size of the company (recall, its EV is just $248 million!). Simply put, the company’s decision to not hedge against the decline in the Mexican peso has cost it dearly, yet it continues to avoid hedging.
Overall, I am impressed with SUP and think its strengths far outweigh its weaknesses. Insider incentives seem to support continued shareholder friendly management, and the company’s significant dividend ensures continued discipline. I find a more reasonable valuation for SUP would be in the low to mid $20 range.
What do you think of SUP?