Tenneco Downgraded to Sell
Tenneco Inc. (TEN) is suffering from elevated commodity costs, oil prices and sizeable production cuts at General Motors (GM) and Ford (F). This leads us to rate the stock a Sell with a six-month target price of $13.
Raw material prices for steel have been high due to strong demand from China, coupled with little new steel capacity. Since this is a major raw material for the company, any rise in steel prices constrains earnings.
Sales and pricing to automotive retailers like AutoZone Inc. (AZO) and Advanced Auto Parts, Inc. (AAP) have been soft as the auto distributors have been consolidating and forcing pricing concessions on suppliers such as Tenneco. The top 10 aftermarket customers account for 6.7% of sales. Due to demand for concessions from original equipment manufacturers (OEM), margins are under pressure.
Our outlook for the Auto and Auto Parts Sector industry is Negative. Tenneco is considered a Tier 1 automotive supplier. The industry has consolidated, which has allowed companies to produce at cheaper points on their average cost curve, due to the economies of scale that have been achieved. Tenneco has a competitive position, due to a strong brand name and reputation, which the company continues to leverage.
Hewlett-Packard No Longer a Buy
Although we expect Hewlett-Packard Company (HPQ) to post Q3 results that meet or exceed expectations, we are concerned that several factors will cause revenue to slow in the future.
First, HPQ's acquisition of EDS should close shortly, and adds a slower growth company to its revenue base. Next, although HPQ has benefitted from 65% of its revenue coming internationally as the global economy has outgrown the US. We expect this trend to reverse itself, meaning that companies with greater domestic exposure will perform better. We therefore downgrade HPQ shares to Hold with a $48 price target.
American Axle Needs Realignment
Weak SUV demand is greatly affecting American Axle & Manufacturing Holdings, Inc.?s (AXL) sales. Furthermore, high commodity costs and pricing pressure as well as production cuts by original equipment manufacturers (OEM) such as General Motors (GM) remain causes for concern. Thus, we rate the stock a Sell and set a six-month target price of $4.
The present North American automotive industry conditions characterized by slow car sales, production cuts, excessive inventories, rising commodity costs, and market share losses of leading U.S. automakers, are affecting the company negatively.
Despite the company?s attempts to diversify its customer base, GM still accounts for about 70% of current sales, and is constantly implementing production cuts. To make matters worse for AXL, it is exposed to platforms that have faced the maximum cuts. AXL?s largest vehicle programs -- the GMT800, the GMT360/370, and the Chrysler Group?s Dodge Ram heavy-duty pick-up account for nearly 70% of the company's total revenues.
Meanwhile, AXL is adversely impacted by rising commodity costs, as it does not have the opportunity to pass them on to OEM customers. This is negatively affecting earnings by at least $20 million annually. In fact, GM and other OEM customers are constantly demanding concessions from suppliers in the form of lower prices.
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To add to that, the realignment of manufacturing facilities and the recently ratified four-year agreement with United Auto Workers (UAW) are expected to cost $400-$450 million to the company. Moreover, the company expects the prolonged strike in the near past will lower 2008 sales by $370 million with resulting revenue of $2.5 billion $2.6 billion.
AmBev Balances BUD, Headwinds
We are keeping our Hold recommendation on Companhia de Bebidas das Americas, or AmBev (ABV). The company posted slightly positive results for the second quarter of 2008 with excellent results in Brazil and in Argentina.
However, consolidated net income declined due to continued appreciation of the Brazilian real against the U.S. dollar. Nevertheless, parent company InBev's desire to acquire Anheuser-Busch Companies, Inc. (BUD) appears to be positive for the company.
However, the tighter monetary policy in Brazil, growing inflation in Argentina, the strength of the Brazilian real and its effect on the company's international sales, weak results in Central America, commodity costs and the difficult economic environment in the U.S. are matters of high concern.
We believe AmBev's strategy to focus on a few premium brands with higher quality and higher margins is already delivering strong results and will continue to boost revenues and earnings. This strategy enabled the company to deliver strong organic growth during the first half of 2008.
