Goldman Sachs reiterates TOYO TIRE Buy rating, saying the 1Q miss was mainly due to a one-off ERP system impact

Overview

This report is Goldman Sachs' company research on TOYO TIRE and reiteration of its rating. The report notes that TOYO TIRE's 1Q12/26 operating profit missed expectations mainly because the rollout issue in Japan's core ERP system caused about ¥4.0bn of one-off costs and affected shipments of roughly 850,000 tires. Goldman believes that excluding this factor, underlying operating profit was broadly in line with market expectations, and since the system issue has already been resolved, there is no need for undue concern; it therefore maintains its Buy rating.

Core views

The core view is that short-term earnings weakness does not change the medium-term investment thesis. 1Q operating profit came in at ¥20.6bn, below Goldman's forecast and IFIS consensus, but the company said profit was ¥1.5bn above its undisclosed internal plan. Goldman believes that from 2Q onward, sales growth should recover as the ERP system normalizes; FY12/26 sales are planned to grow 6% year on year. Although tensions in the Middle East are creating pressure on raw materials, shipping, and energy costs, the company is keeping its full-year guidance unchanged and hopes to offset the pressure through price pass-through.

Analysis framework

Goldman focuses the report on event decomposition, minor forecast revisions, and a review of the valuation methodology: first, separating the one-off ERP impact from underlying operating performance; second, assessing the effects of Middle East tensions, raw material prices, and sales recovery on FY12/26-FY12/28 profit forecasts; and finally, maintaining the 12-month target price using the P/B-ROE correlation based on the FY12/27 forecast.

Methodology notes

• Valuation methodsP/B-ROE correlation

  Determine the target price based on the P/B-ROE correlation using the FY12/27 forecast

  Goldman says TOYO TIRE's ¥5,000 12-month target price is based on the P/B-ROE correlation derived from its FY12/27 forecast.

• Factor analysisGS Factor Profile

  Comparison of growth, financial return, valuation multiples, and composite factors

  GS Factor Profile compares the stock's growth, financial return, valuation multiples, and composite indicators against Japanese coverage names and peers in the Japanese auto sector by percentile, providing investment context.

• M&A scenarioM&A Rank

  M&A target probability score

  Goldman discloses TOYO TIRE's M&A Rank as 3, indicating a low probability of becoming an acquisition target and that it is typically not included in the target price.

Asset mapping & comparison

Structured mapping from thesis to named assets (strengths, weaknesses, peers, risks).

• TOYO TIRE (5105.T) equity

  The research stock, with Goldman maintaining a Buy rating.

  Strengths

  A higher share of larger-diameter tires, proactive price increases in the core U.S. market, resilient U.S. WLTR orders, smooth startup at the new Serbia plant, and a valuation that remains attractive relative to domestic tire peers.

  Weaknesses

  1Q sales declined year on year, ERP system issues affected shipments in Japan, replacement tire sales in Europe fell sharply, and short-term profit was weighed down by one-off costs and higher raw material assumptions.

  Comparison

  Goldman believes TOYO TIRE's valuation multiples are attractive versus other Japanese domestic tire manufacturers; the report also compares it with Japanese coverage names and peers in the Japanese auto sector using GS Factor Profile.

  Risks

  An increase in passenger car tire imports into the U.S. from Asia could squeeze the competitive landscape and pricing room; higher gasoline prices could reduce mileage in North America and hurt tire demand; higher shipping, raw material, and energy costs could compress margins; yen appreciation could pressure earnings and valuation; and if capacity utilization deteriorates during the Serbia plant ramp-up, productivity improvements could be delayed.

Key data

• RatingBuyThe report reiterates a Buy rating.
• 12-month target price¥5,000Goldman leaves the target price unchanged.
• Current share price¥3,814Price shown on the report cover.
• Implied upside31.1%Based on the report cover's target price and current price.
• 1Q12/26 operating profit¥20.6bnBelow Goldman's prior forecast of ¥29.0bn and IFIS consensus of ¥25.4bn.
• One-off ERP system impact-¥4.0bnOne-off cost caused by issues in the rollout of the core system in Japan.
• Number of tires affectedapproximately 850,000ERP issues affected shipments in Japan.
• 1Q tire salesdown 11% year on yearNorth American replacement tire sales were down 6% year on year, and European replacement tire sales were down 52% year on year.
• FY12/26 sales plan+6% year on yearThe company is confident that sales will expand from 2Q onward as the ERP system normalizes.
• Full-year operating profit impact from Middle East tensions¥16.6bnIncluding ¥13.0bn for raw materials, ¥2.2bn for shipping, and ¥1.4bn for energy.
• Earnings forecast revisionFY12/26-FY12/28 operating profit cut by 3%/1%/1%Mainly because the natural rubber price assumption was raised from 200d/kg to 220d/kg.
• Market capitalization¥587.3bn / $3.7bnShown in the report's Key Data section.
• Enterprise value¥525.7bn / $3.3bnShown in the report's Key Data section.
• 3-month average daily trading value¥4.1bn / $25.9mnShown in the report's Key Data section.

Impact & implications

Goldman believes the market's initial reaction to the 1Q profit miss was somewhat negative, but underlying operations did not deviate materially from expectations. If shipments and sales improve from 2Q after the ERP system recovers, and if the company can pass through the cost pressure from Middle East tensions via price increases, the current valuation still looks attractive relative to domestic tire peers. The report's investment implication is positive overall, but it acknowledges that raw materials, foreign exchange, freight, and U.S. demand are the key variables for future earnings elasticity.

Risks

• Higher passenger car tire exports from Asia to the U.S. could compress competition and pricing power.
• Higher gasoline prices could reduce mileage in North America and affect tire demand.
• Rising shipping, raw material, and energy costs could compress margins.
• Yen appreciation could pressure earnings and valuation.
• If capacity utilization deteriorates during the new Serbia plant ramp-up, productivity improvements could be hurt.
• The company estimates that tensions in the Middle East will have a ¥16.6bn impact on full-year operating profit, and the effectiveness of future cost pass-through still needs to be monitored.

What to watch

• Whether shipments and sales actually recover from 2Q onward after the ERP system normalizes.
• Whether U.S. WLTR orders continue to grow year on year after the large-order effect.
• Whether the company can offset higher raw material, shipping, and energy costs through price pass-through.
• The impact of natural rubber and butadiene price trends on FY12/26-FY12/28 profit forecasts.
• U.S. market demand, gasoline prices, and changes in North American mileage.
• The capacity utilization and productivity improvement progress at the new Serbia plant.