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Daimler, Despite 4th Quarter Hiccup, Expected To Gain Strength

Investors Expected Better Profits, But Trivial Factors Intervened
Profit Forecast Vague Enough To Forestall More Embarrassing Changes

“The truck business is what, in our view, distinguishes Daimler and makes it more attractive – and less vulnerable – than BMW,”

Daimler investors should be immune to surprises by now. After all, the company was forced to change its profit guidance for 2010 three times.

That lack of credibility would have spooked investors more if the company had erred on the negative side. In fact, Daimler consistently understated its likely profitability for the year, finally saying in November that EBIT (earnings before interest and tax) would exceed €7 billion, one billion more than it expected three months before and more than three times better than its first stab at a prediction for 2010.

In the event, Daimler reported EBIT of €7.27 billion for the year, and that’s good news right?

Wrong. Investors had done their sums privately and reckoned the company would report fourth quarter EBIT of at least €2 billion and Daimler reported “only” €1.56 billion and despite this being three times better than the same period last year, its stock price was punished.

Don’t forget that a year ago the company reported a fourth quarter net loss of €352 million, and for the full year 2009 red ink amounted to €2.6 billion, compared with a net profit of €1.4 billion the previous year. At the start of 2010 the powers-that-be at Daimler said the year would be terrible and investors should batten down the hatches.

Things look a lot different now, thanks in part to huge sales of high-specification Mercedes S and E class cars in China, and an accelerating recovery in the U.S. market.

Investors are wary of Daimler’s poor profit forecasting record, although in the past this has caused angst because it often surprised them with bad news, not good. This time investors are keeping stiff upper lips.

“Daimler shares are trading at a (sector comparative) discount, partly due to a track record of giving investors negative surprises, but that strong fourth quarter should foster confidence,” said Commerzbank analyst Daniel Schwarz.

Citigroup Global Markets analyst John Lawson was also sanguine about Daimler’s performance.

In a report headed “No reason to Change Elevated 2011, 2012 forecasts, Lawson stuck with his positive position on Daimler.

“Despite a weak fourth quarter, marred by housekeeping actions, we see no need to change our above-consensus 2011 and 2012 (profit) forecasts,” Lawson said.

Lawson said the disappointing performance in the fourth quarter was down to an extent, but not all, to some minor issues, like provisioning for litigation risk for an E.U. investigation into truck pricing, a recent arbitration problem concerning the truck industry’s Toll Collect system, and a French investigation into insider dealing at Daimler’s defence industry subsidiary EADS. Lawson said investors were also disappointed by Daimler management’s less than precise profit forecast.

“To boot, management chose not to offer very specific profit guidance for the current year, though the detailed targets for 2013 of course are still very much in place. It is difficult to conclude that current estimates are too high for the next two years at Daimler. In our view, they are probably too low,” Lawson said.

BHF-Bank of Germany thought Daimler’s capital spending plans also miffed investors a bit.

China investment
“What came as a slightly negative surprise was management’s new capex guidance of €5 billion for 2011 and 2012 each. Compared to 2010 it suggests an incremental increase by more than €1 billion. The bulk of that will refer to land and buildings required to expand the profitable China business. As both are depreciated over long time horizons, we do not expect any major burden on earnings, though. Capex is seen coming down in 2013 and should thus not be over-emphasized in valuation (of the shares),” said BHF’s Aleksej Wunrau.

Nomura International analyst Alexis Albert wondered what all the fuss was about too, saying Daimler’s rather opaque thoughts on the future were down to its desire not to repeat the forecasting debacle of 2010.

“We believe that Mercedes should record further sales growth in 2011. Daimler expects to post EBIT from the ongoing business in 2011 significantly in excess of 2010’s level. However, this guidance doesn’t mean much in our opinion. Consensus is already expecting EBIT to grow by eight per cent in 2011. We reckon Daimler wants to avoid the communication issue of 2010 during which it had to increase guidance every three months,” said Albert.

Better than BMW
Bernstein Research analyst Max Warburton also shrugged off any negative vibes and reckons Daimler is a better investment than BMW because of its counter-cyclical qualities.

“If Chinese profits moderate and currency pressures increase, Daimler is balanced by a large and cyclically well-positioned truck business. We continue to believe that heavy truck and light commercial vehicle volumes will recover markedly in 2011 and 2012 and the recovery will provide evidence that Daimler massively lowered costs in the recession, particularly in the U.S. The truck business is what, in our view, distinguishes Daimler and makes it more attractive – and less vulnerable – than BMW,” Warburton said.

Neil Winton – March 1, 2011

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