Nissan: Two More Years Before Growth Mode (OTCMKTS:NSANF)

jetcityimageThis year the stock market is up, but there are a few industries that are not doing well. Curiously, they belong to two opposite industries, whose multiples are quite distant from the other: luxury goods and automotive. Among automakers, General Motors (GM) seems the only one going countertrend, while Stellantis (STLA) – which up until this March had crushed the market – has been severely punished by investors and is probably set to move further south (its technicals, at the moment, are bearish). However, before investors started worrying after most automakers reported inventory build and soft sales amid a Chinese market that doesn’t look favorable to non-Chinese manufacturers, there was another car company whose prospects I was bearish on. I am talking about Nissan (OTCPK:NSANF, OTCPK:NSANY). Since my last article, there has been no update on Seeking Alpha and I would like to share another piece of research to see Nissan’s situation after the company reported its Q4 2023 earnings in May. In particular, while I think the company is healthy overall, I argued there was a high opportunity cost for those invested in Nissan and not in better stocks. In fact, while Nissan’s revenue and profits did indeed grow, the challenges it was facing in China were so meaningful that investors couldn’t simply overlook them. Moreover, the stock was trading at higher multiples compared to its peers, even though Nissan’s profitability was lower compared to other legacy automakers. Nissan’s Q4 and FY 2024 Earnings First of all, Nissan is in the midst of a transformation plan aimed at rationalizing the company’s product portfolio and production capacity. This means fewer vehicles. The reason is simple: China is a woe. As many other automakers are repeating this year, Nissan also targets “value over volume”. I have repeatedly said that these words are unrealistic. Auto manufacturing is a capital-intensive business and volumes are extremely important because they help reduce the impact of fixed costs. The more vehicles are sold, the less fixed costs impact the final price, freeing up space for margins. Value over volume is a strategy only one company can afford: Ferrari. For the others, reality is much harsher and different: volumes matter. Of course, not at all costs. But sometimes, especially when consumers cut on big-ticket discretionary spending, it is reasonable to sell at lower margins to save volumes, which means market share. Cars, just like many other industrial products, generate revenues not only at the time of sale but also through their lifecycle thanks to financing and maintenance. A car sold at break-even today, will in any case generate profits for the company down the road. As a result, I am not a fan of the “value over volume” thesis. Now, let’s take a quick look at the numbers Nissan reported. For simplicity’s sake, I will report Nissan’s financials in USD and not in JPY and I will use the current conversion rate of 1JPY=0,0062USD. First of all, Nissan’s net revenue increased 20% YoY, to $83.8 billion. Operating profit rose 51% to $3.76 billion, representing what Nissan called a “solid operating margin of 4.5%”. As far as I am concerned, this is no solid margin, especially at the end of three strong and profitable years for the industry. Solid automotive margins are low-double-digits. A 4.5% margin is too low to safely protect the company’s income statement if competition becomes fierce and margins feel further pressure due to pricing wars. Net income increased 92% YoY to $2.82 billion. These are great numbers. But we also have to consider that FY2022 was particularly challenging for Nissan. In truth, it was so hard that S&P came to downgrade Nissan below investment grade. S&P slashed the rating in March 2023, and it has not yet upgraded it, even after the great comeback Nissan reported. Let’s look at the regional breakdown. In Japan, yearly sales increased 6.5%, with a 52% electrification ratio and +12% in net revenue per unit. North America saw higher volumes – up 23% – but weaker pricing with net revenue per unit down 8% YoY. Europe performed well: retail sales were up 17%, but net revenue per unit was up only 4%. Electrification is strong here too, with a 47% electrification ratio. However, in China, retail sales fell by 24% to 794k vehicles. The same pattern was seen in global production. Overall, it rose by 1.5% to 3.43 million vehicles, but this is the combination of a decrease of 26% in China and an output increase of 14% outside of China. However, in Q4, sales in China increased by 19.1% and production increased by 33% and this was a surprise. Nonetheless, the outlook for China, as we will see, seems a bit bleak with the best forecasts expecting Nissan to be flat YoY. Nissan FY 2024 Outlook At the end of its presentation, Nissan released its FY2024 outlook. Volumes are expected to grow, with China up 0.8% and North America expected to reach 1.43 million units, increasing 13.3% YoY. Nissan Q4 2023 Earnings PresentationNet revenue is expected to be around $84.6 billion and the operating margin should be lower by 0.1 bps to 4.4%. Net income is predicted to be around $2.36 billion. These expectations can surely bolster investors. But it was a bit difficult to understand their grounding. In fact, during the last earnings call, several pieces of information came out that seem to collide with this outlook. For example, while Nissan started by highlighting its value over volume strategy, we heard several times that in FY 2024 Nissan “would like to boost the basic volume of affordable models” while more profitable models will come out only in 2025 and 2026. So, Nissan’s strategy seems to be different: the company needs volumes and it will seek them through affordable models. But then we heard Makoto Uchida, the CEO, say that Nissan is “not going to spend a big amount of incentives. Rather, we would like the customers to appreciate the value and be ready to pay for it”. Once again, this appears to go against what we hear about the strategy to increase volumes. No one wants to sell at a discount, but if the target is the customer seeking affordable vehicles, a company has to know this type of customer belongs to a very price-sensitive cohort that will rarely pay a premium for a brand, in particular, if this brand is Nissan which, with all due respect, is no premium brand. Nissan’s CFO Stephan Ma then said that “this year and next year will be sort of transition period until we get back to growth mode again”. So, we once again hear some confusing information. On one side, Nissan wants to grow, on the other it seems to be preparing investors for disappointment, explaining that the real growth is postponed two years from now. Another issue for Nissan is its volume mix. While Nissan has indeed increased volume, the problem is that the mix it is currently selling and that it will sell this year is made up of an increasing number of EVs which, as Mr. Ma said during the earnings call, “are not so profitable as the ICE”. From these inputs, I gather that Nissan is at a difficult crossroads. On one side, it doesn’t want to put its profitability at risk and shows no willingness to cut prices. On the other, it knows it has only one card to play right now: increasing affordable vehicle volumes. It is not exactly a nice spot to be in when consumers are more careful in their car purchases and are willing to pay a premium only for top-end brands. Shareholder Distribution A positive note comes from shareholder distributions. Surely, Nissan’s depressed share price combined with its healthy free cash flow generation looks promising when we consider its dividends and share repurchases. For FY2024 the company expects to pay a dividend of at least $0.16 per share. However, Nissan pays in Japanese Yen and there is a currency risk associated with this. In FY 2023, combining dividends and buybacks, the company returned a staggering 46.2%. And yet, this wasn’t enough to support the stock’s price. In FY 2024, the company expects a total return ratio above 30%. Nissan Q4 2023 Earnings PresentationAnd yet, even though this return policy is sustainable, it is not able to keep investors interested in Nissan, up to the point the shares have started dropping long before the whole industry has. Nissan’s Valuation Nissan’s fwd PE is currently a 5.6. Its fwd P/FCF is 3.7. While Nissan is cheaper than Toyota (TM), it is more expensive than General Motors (fwd PE of 4.9) and Stellantis (fwd PE of 3.4). At the same time, it is less profitable than these, whose EBIT margins are 6.14% for GM and 12.12% for Stellantis. Both have higher volumes which is an advantage considering the need to compete on pricing this year. And yet, Nissan’s growth grade is a B and its metrics expect Nissan’s growth to pick up speed soon. However, what we have seen from the last earnings call makes me doubt we should see sustained growth in FY2024. As a result, I still believe Nissan is overvalued compared to the industry and keep rating it as a sell until two conditions improve: convincing signs of a market recovery and S&P upgrading its Nissan rating to investment grade. Editor’s Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.

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