Ferrari and the Fiat Stub — RACE

Warning: Automobile sector definitely does not fall into our circle of competence.

  • Ferrari listed in NYSE and finished on 23rd Oct with a market cap of $10.7B
  • Absolute top class luxury brand with an earnings of ~$300M in 2014
  • Works out to an earnings yield of 3% and a PE of almost 35
  • We feel that Mr. Market is valuing the brand of Ferrari very highly. In our opinion, this is counted twice as the earnings already has the pricing power of the brand factored into it
  • Even if the company increased the production from 6K pcs to 9K pcs, the earnings yield will still be hovering around the 5% mark.
  • It is a low return on capital and low asset turnover business
  • Two positives abound the stock; supply is constrained and revenue and earnings stability will last longer than a normal automobile company
  • It looks as though Mr. Market is pricing RACE much ahead of its earnings potential

On the other hand, Fiat is trading with a market cap of $19.9B and if Mr. Market is pricing Ferrari at $10.7B and is right about it and Fiat owns 80% of Ferrari, then the rest of Fiat must be ~$11B. The last ten years average profit margins of Fiat is 1.7% which would result in a normalized earnings of $1.7B (excluding $300M of Ferrari earnings) valuing Fiat at 6.5 times earnings or an earnings yield of 15%. If one wants the Fiat stub ex-Ferrari, one can go long Fiat and short Ferrari to get exposure to only the Fiat piece of the stock.

We will be watching and learning in this case and not investing / speculating as this does not fall into our circle of competence but to our limited knowledge RACE looks overvalued and since we are not familiar with the cycles of the auto industry, we have no real comment on the cheapness of the Fiat stub.

Note: We are not comfortable with the interest coverage of FIAT for the debt it holds at the consolidated level. It makes us feel that the low margins are levered returns and the underlying returns could be far worse.


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