FOCUS Equity Research 10 June 2020 European Autos & Auto Parts INDUSTRY UPDATE Driving ahead of itself? European Autos & Auto Parts We believe the worst is behind the sector. Newsflow has been incrementally positive NEUTRAL Unchanged since April across key regions, putting the sector back under the spotlight in the quarter to date (SXAP +36% vs. SXXP +17%). We underestimated how quickly the market would shift its focus to 2021 at such an early stage in 2020, but this also For a full list of our ratings, price target and earnings changes in this report, please see begs the question: is it now driving ahead of itself? We believe modestly so. 2020 table on page 2. still matters, and the sector is not completely out of the woods yet, even if it could also emerge nimbler in 2021, in our view. Unfortunately, such a positive outlook European Autos & Auto Parts already seems mostly priced in at current valuation levels, except for Valeo Erwann Dagorne (upgrading to OW, new PT €30) and Faurecia (OW, new PT €45). In our view, both +44 (0)20 3134 1491 remain compelling turnaround stories with significant upside risks to current [email protected] 2021/22E Bloomberg consensus earnings / cash flow forecasts. Barclays, UK The worst appears to be behind us…but what next? At this stage, we believe GLVP Arya Ghassemieh reached its trough in Q2, with a quarterly SAAR of ~45m units, but it is also fair to +44 (0)20 7773 3442 assume that nobody can be absolutely certain how H2-20 and 2021 market volumes [email protected] will develop. We, therefore, continue to look at two GLVP scenarios: a constructive Barclays, UK central case (H2-20: -9%e / 2021: +16%e) and a worst case (-16%e / +11%e). It is also difficult to completely ignore the potential threats re-emerging from the post-Brexit negotiations deadlock and trade tensions between the US and its main trading partners, which have significantly weighed on sector performance in the recent past. 2020 still matters, earnings / cash burn underestimated. Going into Q2 numbers, we are particularly concerned by an overly optimistic view taken on potential short-term working scheme savings and anticipated cash burn. We are now on average -25% below the latest BBG 2020 EBIT consensus and our worst-case scenario is -62% below. With sequential GLVP improvements, we still expect European suppliers progressively to restore profitability / FCF in H2 to limit their overall FY cash burn to Internal - manageable levels. That said, balance sheets will likely exit 2020 much heavier. Emerging nimbler in 2021? The Covid-19 crisis has temporarily put the industry on its knees but it has, in some way, allowed it to rethink internal processes through further Restricted Restricted complexity reduction and efficiency improvements. We also expect it to stay extremely conservative about turning costs back on, which could potentially pave the way for better returns / cash generation. Unfortunately, this seems to be mostly priced in at current valuation levels for 2021 at least, in our view. Valeo OW / Michelin EW. That said, Faurecia and Valeo remain, in our view, two compelling turnaround equity stories that still offer significant upside risks to 2021/22 consensus earnings / cash flow forecasts. We, therefore, upgrade Valeo to OW (from EW, new PT €30), and we also cut Michelin to EW (from OW, new PT €105) on what we see as limited upside potential. Continental (UW, new PT €90) / Gestamp (UW, new PT €2.8) still screen too expensive, in our view. Barclays Capital Inc. and/or one of its affiliates does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. This research report has been prepared in whole or in part by equity research analysts based outside the US who are not registered/qualified as research analysts with FINRA. PLEASE SEE ANALYST CERTIFICATION(S) AND IMPORTANT DISCLOSURES BEGINNING ON PAGE 35. Barclays | European Autos & Auto Parts Summary of our Ratings, Price Targets and Earnings Changes in this Report (all changes are shown in bold) Company Rating Price Price Target EPS FY1 (E) EPS FY2 (E) Old New 05-Jun-20 Old New %Chg Old New %Chg Old New %Chg European Autos & Auto Parts Neu Neu Continental (CON GY / CONG.DE) UW UW 98.64 55.00 90.00 64 5.17 0.20 -96 8.35 7.90 -5 Faurecia (EO FP / EPED.PA) OW OW 38.71 40.00 45.00 13 3.82 0.87 -77 5.64 5.20 -8 Gestamp (GEST SM / GEST.MC) UW UW 2.99 2.00 2.80 40 0.10 -0.06 -160 0.30 0.28 -7 Michelin (ML FP / MICP.PA) OW EW 101.80 90.00 105.00 17 8.05 4.95 -39 10.96 10.05 -8 Valeo (FR FP / VLOP.PA) EW OW 24.57 15.00 30.00 100 0.64 -0.44 -169 2.66 2.18 -18 Source: Barclays Research. Share prices and target prices are shown in the primary listing currency and EPS estimates are shown in the reporting currency. FY1(E): Current fiscal year estimates by Barclays Research. FY2(E): Next fiscal year estimates by Barclays Research. Stock Rating: OW: Overweight; EW: Equal Weight; UW: Underweight; RS: Rating Suspended Industry View: Pos: Positive; Neu: Neutral; Neg: Negative 10 June 2020 2 Barclays | European Autos & Auto Parts THE REPORT IN SIX CHARTS FIGURE 1 FIGURE 2 COVID-19 damage – Estimated LVP loss (in k units)… …by OEM * 3,000 1,200 2,500 1,000 800 2,000 600 1,500 400 1,000 200 500 - - North Europe China RoW America North America Europe China RoW Source: IHS Markit, Barclays Research / * As of June 5, 2020 Source: IHS Markit, Barclays Research / * As of June 5, 2020 FIGURE 3 FIGURE 4 Quarterly GLVP SAAR development (in m units) European suppliers’ share performance QTD (%) 100 Valeo 90 80 Continental 70 Faurecia 60 SXAP +36% 50 Gestamp 40 Michelin 30 SXXP +17% Central-case Worst-case - +10% +20% +30% +40% +50% +60% +70% Source: IHS Markit, Barclays Research estimates Source: Bloomberg (as of June 5th), Barclays Research FIGURE 5 FIGURE 6 Up-/Downside potential to price targets (%) * Up-/Downside potential to Bull/Bear case scenarios (%) * +25% +70% Bull-case Bear-case +60% +20% +50% +15% +40% +10% +30% +20% +5% +10% - - -10% -5% -20% -10% -30% -40% -15% FR FP EO FP ML FP GEST SM CON GR FR FP EO FP ML FP GEST SM CON GR (OW) (OW) (EW) (UW) (UW) (OW) (OW) (EW) (UW) (UW) Source: Barclays Research estimates, Bloomberg / * As of June 5, 2020 Source: Barclays Research estimates, Bloomberg / * As of June 5, 2020 10 June 2020 3 Barclays | European Autos & Auto Parts IS THE SECTOR DRIVING AHEAD OF ITSELF? From one of the worst in Q1 to best performer QTD… At the beginning of April, after a very poor Q1 performance (see Figure 7) and almost no visibility on how badly the Covid-19 crisis would impact the global economy and the car industry in particular, we were still expecting the sector to continue to underperform the broader European market (SXXP) through Q2 at least. We underestimated how swiftly the market would shift its focus to 2021 at such an early stage into 2020 (see Figure 8). FIGURE 7 FIGURE 8 Among the worst performers in Q1-20 (%)… …to the best performer QTD (%). HealthCare Auto&Parts +36% Utilities Trav&Leisr Technology BasicResou Per&HouGds InduGd&Ser Food&Bevrg Technology Top Top 5 outperformers Top Top 5 outperformers SXXP -23% SXXP +17% BasicResou Oil&Gas Oil&Gas Telcomm Auto&Parts -37% Utilities Banks HealthCare Trav&Leisr Food&Bevrg Top5 underperformers Top5 underperformers -50% -40% -30% -20% -10% 0% - +10% +20% +30% +40% Source: Bloomberg, Barclays Research Source: Bloomberg (as of June 5th), Barclays Research That being said, it is also worth noting that the newsflow has been incrementally positive since early April. China’s swift volume recovery to pre-crisis levels (on arguably easy comps), European economies progressively reopening up from late April, and stronger than expected retail car sales resilience in the US have been among the key sector catalysts in our view; these have been further boosted by the successive announcements of large-scale economic stimulus packages and automotive dedicated-support (albeit relatively limited in scope – mostly targeting xEVs) in Europe (at national and EU levels) as well as unprecedented liquidity injections into the system from the Fed and ECB in particular. How much is now left in the tank? Over the last few weeks, this has been the most recurring incoming question we have had. It is clear to us that the market seems to be paying little attention to 2020 and is fully focused on a potential 2021 recovery instead. We understand the thinking process even if we still believe that the damage caused by the Covid-19 pandemic this year still has a meaningful impact on how the industry will enter into 2021 and therefore the earnings expectations that support current valuation levels. In this regard, going into Q2/H1-20 numbers, we still have the impression that the Covid-19 impact is underestimated. We are now -25% below the latest Bloomberg FY 2020 consensus (Best Leading Estimates (28 Days) – Median) on average at the EBIT level and -62% in our worst-case scenario.