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VW Profit Stutters But Shortfall Should Be Retrieved

Investors Mostly Laud VW’s Efforts And See Fat Returns For The Year
Not Everybody Agrees

“VW results show a company suffering a material fall in profitability”

Volkswagen, as expected, reported sharply lower first quarter profit as home market demand slid, but more of a surprise was its statement that it still reckoned on matching last year’s massive €11.5 billion operating profit in 2013.

Most analysts expected VW to meet or come close to that target, although there were some like Bernstein Research’s Max Warburton who believe the company is suffering what he called a “material fall in profitability”.

VW’s first quarter earnings before interest and taxes (EBIT) fell to €2.34 billion from €3.17 billion in the same period of last year.

VW CEO Martin Winterkorn was confident things would get better later in the year.

“As expected, business in the first quarter was dominated by the difficult economic environment. The markets were sluggish, especially in Europe, and not least in Germany. But we remain confident overall that we can pick up speed over the rest of the year,” Winterkorn said in a statement.

Commerzbank analyst Daniel Schwarz said part of the problem in the first quarter was caused by a gearbox recall in China which cost €150 million and €140 million towards the cost of buying MAN trucks and was happy enough to reiterate his “buy” recommendation for VW shares.

“We strongly believe that VW has significant re-rating potential with the long-term story fully intact and momentum now turning positive,” he said.

VW shares have long been considered cheap compared with the likes of BMW. The company has a long-term goal of being the biggest car company in the world by 2018.

Citi Research analyst Harald Hendrikse was a little less positive, failing to see any recovery in Europe in 2013 for sales momentum and pricing, but still reckoned VW would come close to meeting its profit target. He though it would manage €11.2 billion, although there was a risk that VW might have to cut the target at some point.

Deutsche Bank didn’t say whether it thought VW could meet its 2013 profit target, but did say the news reinforced its assumption of a second half profitability recovery.

But Bernstein’s Warburton, in a reaction to calls from his clients who wanted to buy VW shares because of their current weakness, didn’t pull his punches.

“(VW) is a strong company and it is cheap. But we worry that VW’s challenges may prove more structural, more complicated and more enduring than that. VW results show a company suffering a material fall in profitability,” Warburton said.

VW, rather than meeting its target of unchanged profit in 2013 which implies an upsurge in earnings, may find it hard to even resume profit growth in the next few years, Warburton said. Europe and Germany are struggling, profit growth in the U.S. will be difficult, and the yen movement presents the biggest challenge of all, while China profits have stalled. The need to raise research and development spending will limit cash flow growth.

“Many see VW’s current predicament as a temporary stall. Perhaps – but it may well prove more complicated than that. We’re growing more concerned that we are at the end of the cycle for most of the German manufacturers, at least until Europe improves,” Warburton said.

Neil Winton – April 30, 2013

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