Last week, Turnaround Letter-recommended automotive seating maker Adient (ADNT) pre-announced weak results for the quarter ending December 2019 (fiscal 1Q 2019). The company also provided some color in its January 16th presentation to investors at an investor conference during the North American International Auto Show in Detroit, the car industry’s biggest annual gathering.
The company said that its revenues would be about $4.2 billion, down about 1% compared to last year’s first quarter, while adjusted earnings before interest, taxes, depreciation and amortization (Adjusted EBITDA), would be about $175 million, or 35% below the year-ago result. The company will provide a full review on February 7th.
New CEO Doug Del Grosso (joined in October 2018) said he has completed his 100-day review. He described Adient’s strong position in the global automotive seating industry, yet also provided an unvarnished outline of its operational problems, particularly at the Seat Structures & Mechanisms (SS&M) and North American Seating segments. While the problems are complex, they appear to be fixable. Del Grosso said he believed the company can close the roughly 4 percentage point shortfall in margins compared to peers.
A clear positive: The swapping in of capable managers
Del Grosso has replaced eleven of the top nineteen leaders that were in place at the time of the spin-off. This confirms our view that much of the problem was created by inadequate management. Many of the replacements had previously worked with Del Grosso at prior turnarounds. The new CEO described how prior management was incentivized to boost revenue growth and backlog, which led to low-quality and low/negative-margin sales contracts while exacerbating its production scramble. Del Grosso is refocusing the mindset and management incentives toward profits and cash flow. Responsibility and accountability are being pushed out to the regions, a clear positive. The CEO appears unafraid of making aggressive changes. This bodes well for Adient’s turnaround.
The company outlined steps it’s taking to address the over-extended balance sheet. Adient fortunately has considerable ability to make improvements. Helping this is the large surplus of $1.2 billion in cash at its joint ventures, some of which it may get access to. Importantly, little debt is due for the next several years. This past November, Adient suspended its $0.275/share quarterly dividend, retaining the $103 million to bolster its finances.
Investors will need to have a long-term view and be patient
Our view is that this turnaround will work… but it will take a few years. In the interim, ADNT shares will be volatile in both directions. The pre-announcement of generally flat revenues but much lower profits reinforces the likelihood that the problems are more related to company operations rather than slowing industry demand or market share losses. Industry headwinds will remain challenging but, as long as vehicle demand doesn’t fall off sharply, we believe the company can reach our targets.
Adient’s shares were initially weak on the pre-announcement news, but have more than fully recovered from that decline. At 18.65 (today’s closing price), the stock trades at 4.6x estimated 2019 Adjusted EBITDA. This jittery market discounts a rather dire future for Adient, unwarranted in our view.
We continue to rate Adient (ADNT) shares a Buy up to 64.
Disclosure: An employee of the Publisher owns ADNT shares.