CarMax Trading at a Premium
CarMax Inc. (KMX) move into new markets and growth within existing markets will continue to strengthen volumes. The company continues to face a difficult used vehicle environment, largely due to aggressive incentives from new vehicle manufacturers. The value of used cars is declining due to the ongoing weakness in the overall economy. Thus, we rate the stock a Hold.
Improved market conditions, strong fundamentals and geographical expansion are reasons why we believe the stock has potential. Sales are improving across geographical regions and store formats, which is an encouraging indication. CarMax is gaining share in the used-car category, as the company grows at 6 percent compared to a decline of 3 percent in the industry. Furthermore, the company is among the strongest operators in its peer group, with leading liquidity and profitability ratios.
CarMax Auto Finance (CAF), the finance arm of the company, which generates about 25 percent of the company's total earnings, is expected to report higher funding cost. This is likely to impact earnings in fiscal 2009. CarMax's utilization of CAF to keep funding retail sales in a deteriorating credit environment adds further uncertainty to this stream of earnings, which is still material to the company.
Currently, shares of CarMax, Inc. are trading at 20.5x our fiscal 2009 EPS estimate of $0.85, which is at a significant premium to the industry median of 10.5x. Our FY2009 estimated EPS and a P/E of 21.1x give us a target price of approximately $18.
ArvinMeritor Upgraded to Buy
We upgrade global automotive parts supplier ArvinMeritor, Inc. (ARM) to Buy from Hold. Presently, the company is planning to split itself into two. It is undergoing dramatic cost reductions as well as implementing an impressive global growth strategy.
ARM also focuses on Asian original equipment manufacturers (OEMs). The company won three major awards from Hyundai in the first quarter of 2008. In the light vehicle segment, ARM will supply more than 4 million window regulator motors beginning in 2010. In 2008, the company expects sales to rise to $750 million, up 32%. ARM plans to set up a new production facility in Monterrey, Mexico, which is expected to reduce costs and provide flexibility to meet higher demand anticipated in North America in 2009.
It plans to shut down operations at several global locations. This in turn is likely to bring annual run rate savings of $130-$140 million by 2012. ARM has introduced a new profit improvement initiative, 'Performance Plus,' to improve its cash flow, increase bottom line and enhance shareholder value. Savings are expected to be $75 million in 2008 and $150 million by 2009.
On May 28, 2008, ARM updated its guidance. Sales are expected to be $7.1-7.3 billion in 2008, and EPS is expected to be $1.40-1.60 per share in 2008. Currently, ARM's shares are trading at approximately 11.2x our 2008 EPS estimate of $1.42. Our six-month target price is $20.00, which is based on 14.1x our 2008 EPS estimate of $1.42.
Avnet Caught Inside Price War
Avnet, Inc. (AVT) reported revenues of $4.42 billion in Q3 of fiscal 2008, up 23.2% year-over-year but down 20.7% quarter-over-quarter and fell short of our estimate of $4.4 billion. The decline in revenues was primarily due to weakness in enterprise servers in the Technology Solutions department; in particular, EMEA [Europe, Middle East & Africa] was significantly down.
