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  • The scenario reflected in current share prices – analysis of Scania AB

    Posted on August 22nd, 2011 Peter Tjernström No comments

    You know the story: Stock markets are falling sharply as big international investors are getting out of their way to avoid risk. In times of huge uncertainty it’s often more useful to figure out what kind of scenarios the current market prices reflect rather than following standard process and trying to produce earning estimates as such have proven notoriously unreliable in rapidly changing markets. One of the companies we follow and analyze very closely at Stretch Target is Scania AB, which is our target also for this analysis.

    We start our analysis by looking back at Scania’s performance in the midst of the 2008-2009 financial crisis which hit the automobile and truck industry extremely hard.

    Looking at the quarterly reports, we note that Q3 2009 was worst in terms of Sales decline (-34% year-on-year) and Q2 was worst in terms of operating income (+/-0). The first half of 2009 displayed a record low operating margin of 1,7%. The company only reported negative EPS during one single quarter, the EPS plunge was as swift as the recovery (see picture 1 below).

    Using this past data and the current share price for SCV B in our Stretch Target Regression Model (STRM), we can produce the future EPS and growth rates currently reflected in the share price.

    Picture1

    Picture1

    Main assumptions:

      - the 2009 EPS of 1,41 SEK is set as worst case in the next downturn

      - the next EPS decline will start in Q3 2011 (now) and last longer than the previous one

      - The risk-free interest rate is now as low as 2,2% for a 10 year Swedish government bond. However, this change is offset by the increase in market risk premium

      - SCV B closed today at 100,00 SEK.

      The result is quite astonishing. The EPS for 2011 is set as low as 9,57 (analyst estimates at Scania’s homepage is still as high as 12,68) which corresponds to Scania having a good Q3 in line with the previous quarters but that Q4 coming out at worst case lows. This will be followed by a worst case 2012, a recovery during 2013 and consolidation at 2011 level in 2014 (see picture 2 to the left). However a long term growth rate of 3% will mean that EPS will reach 2010 levels in 2022!

    Picture 2

    Picture 2

    It’s up to the reader to decide if such scenario is realistic or not. At Stretch Target we deem this to be too pessimistic. Looking at how well prepared Scania is for a coming downturn, we observe that the Equity/Assets ratio increased impressively from 20,9% after Q2 2008 to 30,3% after Q2 2011. We conclude the analysis by noting that

    i) Scania is at present even better prepared for an economic downturn than in 2008

    ii) Even if we accept the fairly pessimistic scenario above, a long term growth rate of 3% is too pessimistic. Increasing that to 4% yields a 10% upside on the share price.

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