Shares of Dana Incorporated (NYSE:DAN) are currently trading above intrinsic value, which makes further upside questionable. There are two essential factors that make me feel skeptical: overstretched EV/EBITDA of 9.1x and the equity value per share that I calculated using the DCF methodology. I am by no means trying to undermine Dana’s advantages, which are numerous, including its exposure to the booming electric vehicles industry, but I believe all its recovery prospects have already been priced in, thus leaving the meager-to-zero upside in the near term. At the same time, the stock price will likely be exceedingly sensitive to meaningful downside catalysts, if they emerge, inclusive of those that are related to a possible delay in the rollout of the COVID-19 vaccines and the economic wounds inflicted by the pandemic.
Now, let me proceed to the analysis and discuss my take in greater depth.
Ford Bronco toy car. Source: Pixabay.
The pandemic crimped the growth story, but the nadir is behind
The coronavirus and its ripple effects have sent Dana’s sales plunging this year, with the Light Vehicle segment bearing the brunt. The second quarter was utterly calamitous, as revenues plunged by 53.3%. But in Q3, clear signs of recuperation emerged, as sales were down by only 7.9%, while the sequential improvement amounted to 85%. This implies the company is past the worst and is due to consistently recover with the overall automotive industry in 2021. Analysts are expecting next-year sales to rebound steeply, touching ~$8.22 billion, which implies a close to 20% growth rate YoY.
Another positive is that Dana decided to acquire the portion of the light-vehicle thermal-management business of Modine Manufacturing (MOD). The deal is anticipated to bring ~$300 million in revenues (based on 2019 results), or ~4.3% of Dana’s LTM sales and ~3.5% of the 2019 sales, while also bolstering its electrification strategy with EV thermal technologies, which it considers “a key source of market growth.”
DCF analysis results: Dana is trading above intrinsic value
In order to check if Dana’s EV/EBITDA is justified, I performed a quick DCF analysis, which illustrated DAN is likely trading above its intrinsic value.
I used the simplified DCF methodology I typically apply to save time when I research a few stocks simultaneously. The essential difference of the model from the traditional one used in the equity research is that I bypass EBITDA/NOPAT/Net income and working capital estimates and use the margins approach to compute net CFFO and levered FCF (the net CFFO less capex).
I started with the Wall Street pundits’ revenue forecasts that were compiled by Seeking Alpha. As I said above, the Street is expecting the firm to deliver a ~19.6% revenue growth in 2021 after a more than 20% plunge in 2020. The issue is that the forecasts are only available for 2020-2022 (analysts are anticipating a 6.7% growth in 2022), and I had to figure out by myself what growth pace is plausible for 2023-2030. DAN is a mature company, thus I do not expect bumper growth, like above 20% in the 2020s, except for the case it acquires a business with hefty sales, which is unlikely and barely predictable. I assumed the EV market momentum and the subsequent buoyant demand will prop up its sales going forward and factored in a 5% growth rate for the rest of the 2020s in the base case.
Then, I took DAN’s cash flow data for 2010-LTM and calculated its median net cash flow margin, which amounted to 7%. Next, my 4% assumption for the capital intensity was based on the median Capex/Sales ratio for the same historical period. For a broader context, the capital intensity nadir was touched in 2010, when Dana reinvested only 2% into PP&E, while the 2010s high was achieved in 2016-2017 when capex required 5.5% of revenues.
For the discount rate (in this case, cost of equity), I used a 2% risk-free rate and a 6.5% equity risk premium. The issue is that the DAN price was too volatile in the past, so its 24-month beta equals 1.79. If factored in, it propels the discount rate to 13.64%, which is too high in my view. I assumed that the stock will become less volatile in the future and scaled it down to 1.3, which resulted in the DR of 10.45%.
After applying necessary discount factors and a 1.9% perpetuity growth rate, I arrived at the equity value of $2.46 billion, or $17 per share, which implies ~12% downside. In the bear case, assuming a 3% revenue growth and a 4.5% capital intensity, the intrinsic value per share goes down to only $13.
The silver lining: there is a possibility of dividend reinstatement in 2021
My analysis illustrated that, if the company achieves over 19% revenue growth in 2021, with the 7% net CFFO margin, and the 4% capital intensity, it might reinstate the dividend that was suspended in April, as FCF will allow it to do so. Dana’s historical median dividends paid/FCF ratio is ~23.9%. In the base case, it might pay ~$58.9 million, which implies ~2.1% yield.
The market shrugged off the Ford Bronco delay, for now
On December 4, it was announced that Ford Motor Company (F) would be delaying the launch of the Bronco SUV model from spring to summer 2021 due to supply chain issues precipitated by the pandemic. Thus, there will be no customer reservation orders until at least mid-January.
On December 4, the market paid no attention, but after the weekend, on December 7, F price dropped by ~2%. Since then, the price has slightly recovered but still remained ~1.2% lower if compared to the level before the Bronco issue was announced.
Of course, Ford did not clarify what stakeholder in the supply chain was responsible for the delay. But, according to Joe McCabe, CEO of AutoForecast Solutions, who was interviewed by the Detroit Free Press, tops made outside the U.S. are the culprit.
Why this news is important for Dana? Because it is one of F’s essential suppliers. The company itself acknowledged that Ford is its largest customer with a 20% contribution to the total sales in 2019 (see Form 10-K, page 3). From DAN’s Q2 presentation, we know that it supplies axles for the Bronco family (2-door, 4-door, and Sport). Moreover, as CEO Jim Kamsickas said during the Q2 earnings call, “Dana’s involvement with the Bronco program dates back to its initial launch in 1966.” The market likely understands that perfectly, as, on December 7, DAN price fell by ~3.4%. This, however, did not trigger a sharp correction during the days that followed.
I reckon the changed manufacturing schedule will likely impact the timing of Dana’s quarterly revenues in 2021, but given the scarcity of information, it is impossible to quantify the impact precisely. Also, it is worth remarking that the Bronco Sport SUV launch will not be delayed: as it was mentioned in the CNN article, the vehicles are currently arriving in dealerships.
Final thoughts
Dana Incorporated is nicely positioned to recover in 2021 and grow at a conservative pace in the 2020s. But the issue is that the price is too high, which implies the upside is limited. In this sense, I maintain my neutral rating.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
