U.S. - Canada trade fears have created a great value opportunity for this Detroit supplier

September 6, 2018

U.S. – Canada trade fears have created a great value opportunity for this Detroit supplier

Last week the Trump administration announced it had made a deal with Mexico to rework the two countries’ two-and-a-half decades long trade agreement. There is a third party in that agreement, of course, since NAFTA originally included the U.S., Mexico and Canada. The move has clearly put more pressure on the Canadian government to compromise, although to this point it doesn’t appear much more progress on that front has been made.

Tensions between the U.S. and Canada have revolved primarily around tariffs on autos, although other goods have been involved as well. Concern around trade issues between the two countries have weighed on Canadian stocks that rely heavily on partnerships with U.S. business. Magna International (MGA) is a good example; since late May, when the stock hit an all-time high at around $67.50, the stock has lost about 25% of its value. Trade issues between the U.S. and Canada aren’t over, and that means that momentum for stocks like MGA could continue to be mostly bearish; at the very least, investors who are interested in this stock should expect to see plenty of volatility in the weeks and months ahead as the market decides what direction the stock should follow.



Over the last month alone, the stock has dropped about 10%, after the company missed estimates in its latest earnings report. That pushed the stock into an even more decidedly bearish near-term profile, as the stock crossed below its 200-day moving average line. This moving average acts as an important visual indicator of a stock’s long-term trend for most technicians, and so a move below that line is usually taken as a clear sign the stock’s current trend is going to keep moving down. Over the last couple of weeks, however, the stock has shown some interesting resilience, finding support around $52 per share. Despite the market’s reaction to their latest report, the truth is that the earnings picture is actually pretty good for MGA, and the overall fundamentals for this company remain quite good. 

The company’s earnings report did include tariffs as a risk element in the third and fourth quarters of the year, and that is probably another big reason the stock has continued to drop. I think it’s worth pointing out, however that the U.S. – Mexico announcement took the market by surprise and wasn’t expected; to me that means that for all the posturing that has gone on (and continues) between the countries involved, it’s really all about what happens behind closed doors. I think Canada it’s ultimately going to be in the best interest of both the U.S. and Canada to bring all three American trading partners back together again, and so most of the bearish sentiment around stocks like MGA is really just creating good opportunities to pick up some great companies at very nice valuation levels.



Fundamental and Value Profile

Magna International Inc. (Magna) is a global automotive supplier. The Company’s segments are North America, Europe, Asia, Rest of World, and Corporate and Other. The Company’s product capabilities include producing body, chassis, exterior, seating, powertrain, electronic, active driver assistance, vision, closure, and roof systems and modules, as well as vehicle engineering and contract manufacturing. The Company has over 320 manufacturing operations and approximately 100 product development, engineering and sales centers in over 30 countries. It provides a range of body, chassis and engineering solutions to its original equipment manufacturer (OEM) customers. It has capabilities in powertrain design, development, testing and manufacturing. It offers bumper fascia systems, exterior trim and modular systems. It offers exterior and interior mirror systems. It offers sealing, trim, engineered glass and module systems. It offers softtops, retractable hardtops, modular tops and hardtops. MGA has a current market cap of about $18.2 billion.

  • Earnings and Sales Growth: Over the last twelve months, earnings grew almost 13%, while Revenues grew a little over 6%. Growing earnings faster than sales is hard to do, and generally isn’t sustainable in the long term; however it is also a positive mark of management’s ability to maximize a company’s business operations. In the last quarter, the picture turned negative, with earnings decreasing a little over 9% and sales declining almost 5%. That could be a first, early indication of impact from tariffs on costs, both for MGA as well as for its customers.
  • Free Cash Flow: MGA’s free cash flow is healthy, at a little more than $1.9 billion. This number has been somewhat cyclic from one quarter to the next, but has shown a general, upward stair-step pattern of growth going back to the last quarter of 2016.
  • Dividend: MGA pays an annual dividend of $1.32 per share, which translate to an annual yield of 2.48% at the stock’s current price. 
  • Return on Equity/Return on Assets: These numbers are very strong. ROE is 19.72 and ROA is 8.94.
  • Price/Book Ratio: there are a lot of ways to measure how much a stock should be worth; but one of the simplest methods that I like uses the stock’s Book Value, which for MGA is $33.97 and translates to a Price/Book ratio of 1.56 at the stock’s current price. The stock’s historical average Price/Book ratio is 1.94, suggesting the stock is nicely undervalued by about 24%; at par with its average, the stock should be trading at about $66 per share. Working with $66 as a long-term target is even more justified by looking at the stock Price/Cash Flow ratio, which is currently 30% below its historical average. That would put the stock in range to test its all-time highs and in position to start making new ones.



Technical Profile

Here’s a look at the stock’s latest technical chart.

 

  • Current Price Action/Trends and Pivots: After following a nice upward trend until May, the stock peaked at around $67.50 before dropping back its current level. The gap you see in early August came in conjunction with the company’s last earnings report, and in fact that gap is providing resistance right now against any further movement upward for the stock. I already alluded to its 200-day moving average (not shown); the stock is about $5 per share below that line, and would need to break above it to stage any kind of new upward trend. A drop below $52 per share would mark a break below the stock’s long-term support level and could provide bearish momentum for a continued decline to as low as $45 in fairly short order.
  • Near-term Keys: The stock’s most current resistance is at around $56, from a pivot high just about a week ago; if the stock can break that level, there could be a good short-term opportunity to buy the stock or work with call options. If you like the stock’s value potential right now, and don’t mind dealing with what I think will be quite a bit of volatility for the time being, this could be a great time to go ahead and take a position with a long-term time frame in mind. If you prefer to work with the bearish side of the market right now, wait to see if the stock drops below $52; if it does, consider shorting the stock or working with put options.