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Deutsche Bank Markets Research
Rating
Hold Europe
Italy
Autos
Tires
Company
Pirelli & C
Date
12 January 2015
Company Update
Premium tires
Reuters Bloomberg Exchange Ticker PECI.MI PC IM MIL PECI
ADR Ticker ISIN PPASY US7242562012
Forecasts And Ratios
Year End Dec 31 2012A 2013A 2014E 2015E 2016E
DB EPS (EUR) 0.80 0.62 0.83 0.98 1.09
P/E (DB EPS) (x) 10.5 15.1 13.0 11.0 9.9
DPS (EUR) 0.32 0.32 0.36 0.40 0.45
Yield (%) 3.8 3.4 3.3 3.7 4.2
Source: Deutsche Bank estimates, company data
Feedback from roadshow with management
________________________________________________________________________________________________________________
Deutsche Bank AG/London
Deutsche Bank does and seeks to do business with companies covered in its research reports. Thus, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. DISCLOSURES AND ANALYST CERTIFICATIONS ARE LOCATED IN APPENDIX 1. MCI (P) 148/04/2014.
Price at 9 Jan 2015 (EUR) 10.79
Price Target (EUR) 12.00
52-week range (EUR) 12.93 - 9.88
Gaetan Toulemonde
Research Analyst
(+33) 1 4495-6668
Price/price relative
6
8
9
11
12
14
1/12 7/12 1/13 7/13 1/14 7/14
Pirelli & C
DJ (.STOXXE) (Rebased)
Performance (%) 1m 3m 12m
Absolute -3.2 6.4 -8.7
DJ (.STOXXE) -2.5 2.5 -0.7
Source: Deutsche Bank
We hosted a roadshow with the CEO. All the meetings focused on Premium tires, which generate stronger top line growth and higher margins. Our 2014-2016 estimates remain unchanged. Maintained Hold on valuation.
Premium tires drive earnings growth Management is entirely focused on Premium tires where the margin is high (EBIT margin in the 22% range), growth rate is strong (+15% p.a over the last 2 years) with a mid term volume growth trend of +10/12%. Almost all the group’s earnings growth is coming from Premium tires. On our estimates, in 2014 premium tires represented 41% of revenues, 63% of EBIT (see p4) and we expect them to represent 45% of revenues and almost 70% of EBIT in 2016.
Our earnings estimates unchanged We leave unchanged our earnings estimates which are in line with consensus for 2014e and 2015e, and 5% below consensus for 2016e. In theory our 2015 estimates could be slightly too optimistic due to the deconsolidation of the steel cord business (sold to Bakaert, negative impact on EBIT of Euro 30m). However, this could be offset by a small raw material tailwind
Raw materials price When looking at natural rubber and oil prices, the gross tailwind is potentially big at Euro 200m (see p 9-10). However, our 2015 estimates are based on a neutral raw mat effect (net of Price & Mix). This could be conservative. However industry volume growth should be limited this year, and the implementation of duty tariffs on Chinese imports in North America could increase pricing pressure in other regions.
Valuation/Risk Our TP is based on the average of 2015E P/E of 12x and EV/EBITDA of 6x, in line with what we use for other tire companies. Tire companies enjoy a valuation premium versus auto part companies as they are more involved in the less cyclical aftermarket business. Key downside risks are: i) surge of raw material price increases (mostly natural rubber) ii) an aggressive price war initiated at the entry-level segment, leading Pirelli to give back to customers a high percentage of savings, limiting margin improvement. Upside risk; stronger growth in premium tires where the group generates very high margins.
12 January 2015
Tires
Pirelli & C
Page 2 Deutsche Bank AG/London
Model updated:12 January 2015
Running the numbers
Europe
Italy
Tires
Pirelli & C Reuters: PECI.MI Bloomberg: PC IM
Hold Price (9 Jan 15) EUR 10.79
Target Price EUR 12.00
52 Week range EUR 9.88 - 12.93
Market Cap (m) EURm 5,266
USDm 6,231
Company Profile
Based in Italy, Pirelli & C. SpA is the world's fifth largest tyre maker by revenues and has operations all over the world with over 20 manufacturing plants and a wide distribution network spread across the globe. Pirelli generates most of the revenues from emerging markets of Latin America, Russia, Middle East, Africa and Asia Pacific. The main segments of tyres consist of consumer (~73% of tyre revenues) and industrial business. Almost half of the consumer tyres are in the premium segment hence generates a much higher margin for the group.
Price Performance
6
8
9
11
12
14
Jan 12 Jul 12 Jan 13 Jul 13 Jan 14 Jul 14
Pirelli & C DJ (.STOXXE) (Rebased)
Margin Trends
8
12
16
20
24
11 12 13 14E 15E 16E
EBITDA Margin EBIT Margin
Growth & Profitability
0
5
10
15
20
25
-5
0
5
10
15
20
11 12 13 14E 15E 16E
Sales growth (LHS) ROE (RHS)
Solvency
0
2
4
6
8
0
10
20
30
40
50
60
11 12 13 14E 15E 16E
Net debt/equity (LHS) Net interest cover (RHS)
Gaetan Toulemonde
+33 1 4495-6668 [email protected]
Fiscal year end 31-Dec 2011 2012 2013 2014E 2015E 2016E
Financial Summary
DB EPS (EUR) 0.62 0.80 0.62 0.83 0.98 1.09
Reported EPS (EUR) 0.90 0.80 0.62 0.83 0.98 1.09
DPS (EUR) 0.27 0.32 0.32 0.36 0.40 0.45
BVPS (EUR) 4.3 4.8 4.9 6.6 6.6 6.6
Weighted average shares (m) 500 494 488 488 488 488
Average market cap (EURm) 3,083 4,077 4,573 5,266 5,266 5,266
Enterprise value (EURm) 3,821 5,282 5,896 6,342 6,115 5,898
Valuation Metrics P/E (DB) (x) 10.1 10.5 15.1 13.0 11.0 9.9
P/E (Reported) (x) 7.0 10.5 15.1 13.0 11.0 9.9
P/BV (x) 1.52 1.81 2.58 1.63 1.63 1.63
FCF Yield (%) nm nm 6.9 5.6 8.0 8.2
Dividend Yield (%) 4.3 3.8 3.4 3.3 3.7 4.2
EV/Sales (x) 0.7 0.9 1.0 1.0 1.0 0.9
EV/EBITDA (x) 4.6 4.8 5.3 5.3 4.7 4.2
EV/EBIT (x) 6.3 6.4 7.2 7.1 6.3 5.7
Income Statement (EURm)
Sales revenue 5,655 6,072 6,146 6,082 6,390 6,780
Gross profit 835 1,091 1,105 1,207 1,315 1,405
EBITDA 835 1,091 1,105 1,207 1,315 1,405
Depreciation 225 271 289 307 345 365
Amortisation 0 0 0 0 0 0
EBIT 610 820 817 900 970 1,040
Net interest income(expense) -90 -130 -196 -178 -165 -153
Associates/affiliates -17 -52 -78 -37 -20 -20
Exceptionals/extraordinaries -27 -39 -26 -35 -20 -20
Other pre-tax income/(expense) 0 0 0 0 0 0
Profit before tax 476 599 517 650 765 847
Income tax expense 163 201 210 234 277 305
Minorities -11 4 3 14 8 8
Other post-tax income/(expense) 128 0 0 5 0 0
Net profit 453 394 304 406 480 534
DB adjustments (including dilution) -140 0 0 0 0 0
DB Net profit 312 394 304 406 480 534
Cash Flow (EURm)
Cash flow from operations 589 514 868 691 823 832
Net Capex -702 -582 -554 -395 -400 -400
Free cash flow -113 -68 314 296 423 432
Equity raised/(bought back) 0 0 0 0 0 0
Dividends paid -84 -135 -160 -160 -176 -195
Net inc/(dec) in borrowings 594 598 133 0 0 0
Other investing/financing cash flows -80 -125 -196 0 0 0
Net cash flow 317 271 91 136 247 237
Change in working capital 19 -310 72 -115 -50 -115
Balance Sheet (EURm)
Cash and other liquid assets 718 905 928 211 211 211
Tangible fixed assets 2,357 2,623 2,608 2,741 2,741 2,741
Goodwill/intangible assets 934 1,022 1,014 1,048 1,048 1,048
Associates/investments 337 279 445 1,014 1,014 1,014
Other assets 2,368 2,763 2,364 2,460 2,460 2,460
Total assets 6,714 7,593 7,360 7,474 7,474 7,474
Interest bearing debt 1,455 2,110 2,250 1,287 1,060 843
Other liabilities 3,068 3,094 2,673 2,641 2,868 3,085
Total liabilities 4,523 5,203 4,924 3,928 3,928 3,928
Shareholders' equity 2,146 2,337 2,376 3,236 3,236 3,236
Minorities 45 52 61 310 310 310
Total shareholders' equity 2,192 2,389 2,437 3,546 3,546 3,546
Net debt 737 1,205 1,322 1,077 849 632
Key Company Metrics
Sales growth (%) 16.6 7.4 1.2 -1.0 5.1 6.1
DB EPS growth (%) 24.9 27.7 -21.9 33.8 18.1 11.2
EBITDA Margin (%) 14.8 18.0 18.0 19.8 20.6 20.7
EBIT Margin (%) 10.8 13.5 13.3 14.8 15.2 15.3
Payout ratio (%) 29.8 40.2 51.4 43.2 40.7 41.1
ROE (%) 21.9 17.6 12.9 14.5 14.8 16.5
Capex/sales (%) 11.1 7.8 6.7 6.3 6.3 5.9
Capex/depreciation (x) 2.8 1.7 1.4 1.3 1.2 1.1
Net debt/equity (%) 33.6 50.4 54.3 30.4 24.0 17.8
Net interest cover (x) 6.8 6.3 4.2 5.1 5.9 6.8
Source: Company data, Deutsche Bank estimates
12 January 2015
Tires
Pirelli & C
Deutsche Bank AG/London Page 3
Pirelli on a page
Figure 1: Breakdown of revenues (9M 14) Figure 2: Breakdown of EBIT (9M 14)
Consumer business, 77%
Industrial business, 23%
Consumer business, 79%
Industrial business, 21%
Source: Pirelli (Industrial tires= truck +Agro when Consumer tires= pass tires + moto)
Source: Pirelli (Industrial tires= truck +Agro when Consumer tires= pass tires + moto)
Figure 3: Breakdown of revenues by region (2014e) Figure 4: Breakdown of EBIT by region (2014e)
Europe, 35%
Russia, 4%
South America, 32%
Nafta, 12%
Asia Pacific, 9%
MEA, 8%
Europe, 38%
Russia, 2%
South America, 28%
Nafta, 12%
Asia Pacific, 11%
MEA, 9%
Source: Deutsche Bank
Source: Deutsche Bank
Figure 5: Mix effect in Pass tires Figure 6: Shareholders
standard Premium Super Prestige Sum
Premium
Size (Seat) <17" 17" >18"
% Volumes 60% 19% 21% 1% 100%
% Revenues 41% 24% 30% 4% 100%
% EBIT 13% 28% 52% 8% 100%
EBIT margin 5% 18% 26% 29% 15%
Camfin, 26%
Malacalza, 7%
Edizione, 5%
Mediobanca, 5%Retail
investors, 10%
Institutional Investors, 47%
Source: Deutsche Bank estimates (not disclosed by Co)
Source: Pirelli
Note: Camfin is 50% owned by Rosfnet and 50% by a holding Co
controlled by Nuove Partecipazioni (controlled by CEO Tronchetti
Provera).
12 January 2015
Tires
Pirelli & C
Page 4 Deutsche Bank AG/London
Premium tires
Introduction
Figure 7: Breakdown of revenues Figure 8: Breakdown of EBIT Figure 9: Premium tires by region
Premium, 41%
Other, 59%
Premium, 62%
Other, 38%
Europe, 50%
North America, 23%
Russia, 2%
MEA, 4%
APAC, 15%
Latin America, 6%
Source: Deutsche Bank estimates
Source: Deutsche Bank estimates
Source: Pirelli
Characteristics of premium tires:
Premium tires are 17” and above (same definition used by Michelin and Continental). Pirelli has said that when the world pass tire is expected to grow by +4% p.a, the premium segment is expected to grow 2x faster or +7% p.a.
50% of premium volumes at Pirelli are 17” tires (average selling price of Euro 85) while 50% of premium volumes are 18” and above (average selling price of Euro 110 including prestige tires), see Fig 14 below. Thus, there is an important mix effect inside the premium segment.
The bulk of the group premium tire volumes (73%) are in mature markets (50% Europe, 23% Nafta), which enjoy higher selling prices.
Pirelli is relatively stronger in OE. 50% of premium tires are sold in OE and 50% in RT (Replacement). Thus, penetration of premium tires is today higher in OE (32%) than in RT (19%), giving some visibility on the growth outlook.
Premium tires represent 40% of the group’s consumer volumes (or 25m units in 2014e) for 60% of revenues (or Euro 2,470m), giving an average selling price of around Euro 100/tire. By deduction, standard tires generate an average selling price of Euro 46.
Since premium tires generate 80% of the EBIT of the consumer division (DBe), the average EBIT margin of premium tires reached 22% last year, or Euro 22/tire. By difference, standard tires generated an EBIT margin of only 4% or Euro 2/tire.
In our estimates, we have assumed the premium tires margin in the future will stay unchanged at 22%, which we think is probably close to the limit (at constant mix).
We expect the world tire market grow by +3/4% p.a of which Pirelli estimates +7% will come from Premium tires (+6% in mature markets, +12% in emerging markets). Pirelli expects to grow 2x faster or +12% p.a. in premium.
2013 and 2014 showed stronger growth for Premium tires (+15% and +17%) than the mid term trend of +12%. When Pirelli has a 4% world tire market share, we estimate it has almost a 2x higher market share in Premium or 7% (25m Pirelli vs 350m market for premium on our estimates).
12 January 2015
Tires
Pirelli & C
Deutsche Bank AG/London Page 5
Management is targeting a premium volume growth trend of +12% p.a (or +3m tires p.a). Based on incremental EBIT of Euro 22/tire, this is equivalent to an incremental EBIT of Euro 70m p.a., and the majority of the group’s EBIT growth
Figure 10: Premium volume growth rate (YoY)
(YoY) Q1 13 Q2 13 Q3 13 Q4 13 2013 Q1 14 Q2 14 Q3 14 Q4 14e 2014ez
Premium volume growth +4% +13% +19% +28% +15% +22% +21% +17% +8% +17% Source: Company data, Deutsche Bank
By 2017, management is to increase capacity of premium tires by 18m units (to 51m tires), or by +6m tires p.a. This growth rate is equal to 2x the growth of sales (+3m), based on +12%. Thus, when capacity utilization (CUR) on premium tires is 76% today (25/33m), it will drop to 67% in 2017 (34/51m). At the same time, capacity of standard tires will be reduced by 8m units (to 30m tires). The group is focusing even more on premium tires.
Figure 11: Capacity Utilization Rate (CUR) of Premium & Standard tires
2014
Unit sold
Capacity
CUR
2017
Unit sold
Capacity
CUR
Premium 25 33 76% 34 51 67%
Standard 38 38 100% 32 30 107%
Sum 63 71 89% 66 81 81% Source: Deutsche Bank
Mix is key
Definition of Premium tires
Figure 12: Retail price in Europe by size
(Euro) Summer
14”
15”
16”
17”
18”
19”
Winter
15”
16”
17”
Bridgestone 52 58 72 102 117 210 58 91 142
Continental 53 61 76 107 123 218 66 109 165
Goodyear 48 57 75 103 132 212 62 101 156
Hankook 49 55 65 93 110 189 65 82 118
Michelin 56 66 81 112 134 218 64 107 166
Nokian 49 56 70 90 103 172 58 83 122
Pirelli 55 59 72 103 115 201 59 99 158
Average 7 brands 52 59 73 101 119 203 62 96 147 Source: Com0pany data, Deutsche Bank
Methodology: Average price from 5 websites (123pneus, ReifenDirekt,Tyres pneus UK, Allopneus and
Mytyres UK).
Note: retail price above includes VAT and relates to replacement markets, RT when OE markets
(Original Equipment) have a selling price 30% lower. This explains why the average selling price in the
table 14 below (OE+RT excl VAT) is lower than on table 12 above.
OE= Original Equipment – RT= Replacement Tire market
Premium tires are tires of 17” and above (same definition used by Michelin and
Continental). 50% of Premium volumes at Pirelli in 2013 were 17” tires
(average RT retail price of Euro 100, see Fig 13 above) while 50%+ of volumes
were 18” and above (called Super premium by Pirelli with a RT retail price of
12 January 2015
Tires
Pirelli & C
Page 6 Deutsche Bank AG/London
Euro120 and above) showing an important mix effect in the Premium segment.
For 9M 14, Super premium tires increased much faster at +23/25%.
Mix effect on Pirelli revenues
Figure 13: Premium revenues
(Euro m) 2013 Q1 14 Q2 14 Q3 14 Q4 14e 2014e
Premium revenues (Euro m) 2,210 640 645 649 520 2,455
YoY growth (%) +7% +13% +13% +11% +4% +11%
o/w Volumes (%) +15% +22% +21% +17% +10% +17%
o/w Forex (%) -4%e -3% -3% -3% -3% -3%
o/w Price &Mix (by difference) -4%e -5% -4% -3% -3% -4% Source: Company data, Deutsche Bank
Negative Price & Mix in Premium. Despite stronger growth in 18” tires, the Price & Mix effect is negative (see Fig 13 above). It is mostly attributable to a negative country mix (lower selling price in Russia, APAC, LatAm…) and to a lesser extent negative prices (pass through agreements mostly in OE).
This negative Mix effect has limited negative impact on EBIT since the cost structure in these countries is lower. This explains the high 60% fall through of the Price & Mix effect on revenues to EBIT (9M 14).
Impact of the mix effect on Pirelli results
Figure 14: Breakdown of the pass tire division by segment
Standard
<17”
Premium
17”
Super Premium
>18”
Prestige Sum
Volume (m units) 38 12 13 0.5 63
% Volumes 60% 19% 21% 1% 100%
Average selling price (Euro) 46 85 98 340 67
Revenues (Euro m) 1,750 1,020 1,280 170 4,220
% revenues 41% 24% 30% 4% 100%
EBIT per tire (Euro) 2 15 25 100 10
EBIT (Euro m) 80 180 330 50 640
EBIT margin (% Revenues) 5% 18% 26% 29% 15%
% EBIT 12% 31% 49% 8% 100% Source: Company data, Deutsche Bank
Pirelli management does not disclose this level of granularity in its pass tire
division breakdown. However, following numerous meetings with
management we think the table above gives a good idea of the profitability of
Premium tires by seat size. This table tells us the followings:
Standard tires (60% of volumes, 41% of revenues, 12% of EBIT, all DBe) are marginally profitable. We estimate their EBIT at a meager Euro 2/tire and therefore expect management to continue to reduce exposure to these tires.
However premium tires (40% of volumes, 59% of revenues and 88% of EBIT, all DBe) are significantly more profitable. We estimate their EBIT margin at 23%. The Premium segments can be broken down in 3 sub segments:
Premium tires (17” tires) are probably generating an average selling
price of Euro 85 and an EBIT margin of 18% (both DBe).
Super Premium tires (18” and above). We estimate these tires are
generating a selling price of almost Euro 100 and an EBIT margin of
12 January 2015
Tires
Pirelli & C
Deutsche Bank AG/London Page 7
26%. For the first time in 2014, volumes of super Premium (13m tires)
exceed those of Premium tires (12m units).
Prestige tires represent less than 1% of volumes, but 4% of revenues
and probably 8% of EBIT.
Premium growth
At the capital market day in Nov 2013, management was guiding for a
Premium growth trend of +7% (2x the growth rate of the overall tire market)
and for a growth rate of Pirelli in Premium of +12% p.a or almost 2x the
performance of the segment
In 2014, the Premium segment grew by +12% (source Pirelli). and Pirelli by
17%, maintaining its strong outperformance.
In coming years we expect premium volumes to increase by +11% p.a, less
than the capacity increase the group is building of +16% p.a. (see Fig 11 page
5). The table below summarizes our volume assumptions, and shows that
100% of the growth in coming years should come from Premium tires, while
we expect the volume of standard tires to decrease and truck tire volumes to
stay more or less unchanged.
Figure 15: Volume growth trend
(m units) 2012 2013 2014e 2015e 2016e 2017e 2017e/13
Standard tires 39 39 38 36 34 32 -5%
Premium tires 19 22 25 28 31 34 +11%
Sum pass tires 58 61 63 64 65 66 +2%
Truck tires 5.5 6.0 5.6 5.7 5.8 5.9 0% Source:Company data, Deutsche Bank
In summary, Premium tires currently represent 40% of group revenues and
63% of group EBIT. In 2016, premium tires should represent 45% of revenues
and almost 70% of EBIT.
12 January 2015
Tires
Pirelli & C
Page 8 Deutsche Bank AG/London
Earnings estimates
Summary of our estimates
Figure 16: Summary of our estimates
(Euro m) H1 13 H2 13 2013 H1 14 H2 14e 2014e 2015e 2016e
Revenues 3,131 3,016 6,146 2,987 3,095 6,082 6,390 6,780
YoY variation (%) +4% -1% +1% -5% +3% -1% +5% +6%
EBIT after restructuring 381 410 791 426 423 850 950 1,020
% Sales 12.2% 13.6% 12.9% 14.3% 13.7% 14.0% 14.9% 15.0%
EPS 0.31 0.31 0.62 0.39 0.44 0.83 0.98 1.09
Net debt 1,733 1,322 1,935 1,090 850 550 Source: Company data, Deutsche Bank
Our earnings estimates remain unchanged and are based on the following:
Revenues growth of +6% p.a of which Premium +11/12% and others +3%. In 2015E, the deconsolidation of the steel-cord business should have a 1% negative impact on revenues (or Euro 90m)
Stable profit contribution of standard tires, which is negligible
Marginal profit contribution increase from industrial tires. It looks like this business unit is not strategic anymore. Management has said that it is ready to tie it up with a competitor in order to get economies of scale.
The deconsolidation of the steel-cord business (sold to Bakaert) should have a negative impact on revenues of Euro 90m in 2014 (and an additional Euro 90m in 2015) and a negative impact on EBIT of Euro 10m in 2014 (and an additional Euro 30m in 2015). Therefore, our EBIT estimate for 2015, unchanged, could be in theory Euro 30m too optimistic. However, it could be offset by a better raw mat environment (see page 9-10) if pricing discipline stays under control
The bulk of the profit growth we expect in the coming years should come from the Premium tire segment.
DB versus consensus
Figure 17: DBe versus consensus (source Pirelli)
(Euro m) 2013 2014e
DBe
Consensus
2015e
DBe
Consensus
2016e
DBe
Consensus
Mgt target 2016e
(CMD Nov 13)
Revenues 6,146 6,082 6,120 6,390 6,500 6,780 6,910 7,320
EBIT before restruct 817 900 890 970 970 1,040 1,060 1,090
% Sales 13.3% 14.8% 14.6% 15.2% 14.9% 15.3% 15.3% 14.9%
EBIT after restruct 791 850 850 950 940 1,020 1,030 1,070
Net Profit 304 406 410 480 500 534 570 NA
Net debt 1,322 1,090 1,140 850 920 550 670 600 Source: Deutsche Bank, Company compiled consensus estimates
Our earnings estimates are unchanged. As shown in the table above, our
estimates are in line with consensus for 2015 and slightly lower for 2016. This
is also the case with management targets (announced in Nov 13 at the
company’s Capital Market Day restated from the disposal of the steel-cord).
12 January 2015
Tires
Pirelli & C
Deutsche Bank AG/London Page 9
Raw materials
Breakdown of raw materials and price trend of Natural & Synthetic rubber
Figure 18: Raw materials (35% of sales) (9M14) Figure 19: Natural & Synthetic rubber prices
Natural rubber, 21%
Synthetic rubber, 27%
Carbon black, 14%
Chemicals, 19%
Textile, 12%
Steel cord, 7%
3.13.1
4.3
5.3
4.6
3.6
2.9
2.42.3
1.7
1.62.3
2.6
2.8
3.9
3.33.6
3.0 3.02.4
2.7
1.0
1.5
2.0
2.5
3.0
3.5
4.0
4.5
5.0
5.5
Q1 10
Q2 10
Q3 10
Q4 10
Q1 11
Q2 11
Q3 11
Q4 11
Q1 12
Q2 12
Q3 12
Q4 12
Q1 13
Q2 13
Q3 13
Q4 13
Q1 14
Q2 14
Q3 14
Q4 14e
Natural rubber price (USD/kg) Synthetic rubber price (USD/kg)
Source: Pirelli
Source: Deutsche Bank
Impact of recent raw material price decline
Our 2015 estimates are based on a neutral raw mat effect (net of Price & Mix),
due to the full year effect of 2014 negative prices. However, when looking at
natural rubber and oil prices, the gross tailwind could be bigger than we have
estimated.
Raw materials represent a high 35% of revenues at Pirelli. Main raw materials used are natural rubber (21%) and oil derivative products such as synthetic rubber (27%) and carbon black (14%).
In ‘14, raw material prices have declined by 8%, mostly driven by the natural rubber price which has dropped by almost 30%. Most tire Co are recording a tailwind such as Michelin (Euro 500m), Continental (Euro 160m), Pirelli (Euro 170m) and Nokian Tires (Euro 50m) on our estimates. However, the net impact (after factoring pass through in OE and negative prices in Replacement) has been more limited (see Fig 21 below).
Figure 20: Raw mat net impact
2013 Q1 14 Q2 14 Q3 14 Q414e 2014e
Raw mat (at constant Forex) 245 44 62 49 15 170
Forex (110) (36) (56) (45) (38) (175)
= Raw mat (at current Forex) 135 8 6 4 (23) (5)
Net prices (25) 0 0 0 0 0
Raw mat net of prices 110 8 6 4 (23) (5) Source: Company data, Deutsche Bank
In ‘15, industry should benefit from an incremental raw material tailwind:
Natural rubber price is currently at USD1.6/kg, or 15% less than what
tire Co have paid on avg in ’14 (USD 1.9/kg). Due to a 3M to 6M lag
12 January 2015
Tires
Pirelli & C
Page 10 Deutsche Bank AG/London
effect, it will have a positive impact on ‘15 results. Since Pirelli buys
approx 200k tons p.a, the gross tailwind could reach USD 60m.
The oil price has recently dropped by a high 50%, USD50/bbl. While
this could mean people will in due course start to drive more, more
importantly, both synthetic rubber and carbon black are oil derivatives.
Management estimates that every USD10 fall in the oil price translates
into a gross tailwind of USD35m for Pirelli. Therefore, the gross
tailwind could reach USD 175m.
Overall, the gross raw mat tailwind could exceed Euro 200m in 2015
after Euro +170m in 2014. However, net of selling prices (negatives),
the net tailwind should be neutral to slightly positive, no more.
Figure 21: Raw material impact on EBIT: gross and net of Price & Mix effect
(Euro m) Continental
2013
2014e
2015e
Michelin
2013
2014e
2015e
Nokian
2013
2014e
2015e
Pirelli
2013
2014e
2015e
Gross impact 400 180 280 619 500 620 50 50 60 245 170 200
Net of Price & Mix 100 (20) 0/+ 103 120 0/+ 35 35 0/+ 110 (5) 0/+ Source: Deutsche Bank
Note: as shown in the table above, the impact can differ significantly from one Co to another. This is mainly due to the lag effect which is very different from
one Co to another. However, on 2 years (2013-14e), the overall impact becomes more comparable
In summary, our 2015 estimates are based on a neutral raw material effect (net
of Price & Mix). This could be conservative and could end in a small net
positive effect. The gross impact should be significantly positive and higher
than in 2014. However, the volume environment remains difficult with a low
growth expected in 2015 in Europe (destocking of winter tires) and in the US
(destocking of Chinese imported tires). And the consequence of the
implementation of import duty tariffs in the US on Chinese imports could have
negative pricing implications for the industry (outside the US). This explains
our conservatism in our estimates.
12 January 2015
Tires
Pirelli & C
Deutsche Bank AG/London Page 11
Valuation
Historical valuation
Pirelli currently has an EV of Euro 6.9bn, of which a market cap of Euro 5.4bn
(488m shares x Euro 11), a net debt of Euro 1.0bn (end of 2014e) and pension
liabilities of Euro 0.5bn.
Figure 22: P/E contours of 10.0x, 12.0x and 14.0x Figure 23: EV/EBITDA contours of 4.0x, 5.0x and 6.0x
0
2
4
6
8
10
12
14
16
Sep
-10
De
c-1
0
Mar
-11
Jun
-11
Sep
-11
De
c-1
1
Mar
-12
Jun
-12
Sep
-12
De
c-1
2
Mar
-13
Jun
-13
Sep
-13
De
c-1
3
Mar
-14
Jun
-14
Sep
-14
De
c-1
4
PE contours of 10.0x, 12.0x and 14.0x10.0x 12.0x 14.0x
0
1,000
2,000
3,000
4,000
5,000
6,000
7,000
8,000
9,000
Sep
-10
De
c-1
0
Mar
-11
Jun
-11
Sep
-11
De
c-1
1
Mar
-12
Jun
-12
Sep
-12
De
c-1
2
Mar
-13
Jun
-13
Sep
-13
De
c-1
3
Mar
-14
Jun
-14
Sep
-14
De
c-1
4
EV/EBITDA contours of 4.0x, 5.0x and 6.0x4.0x 5.0x 6.0x
Source: Deutsche Bank
Source: Deutsche Bank
As shown in the tables above, current multiples are at the high end of recent
years trends (justified by good results) and at the high end of the multiples we
use to evaluate tire Co (P/E of 12x and EV/EBITDA of 6x).
Pirelli versus European peers
Figure 24: Valuation of Pirelli versus peers
(08 Jan 2015) Price TP P/E 2014e
2015e
Yield P/Book EV/ 2014e
EBITDA 2015e
Continental (Buy) 174 195 13.9 12.6 2.0% 2.8 7.7 6.3
Michelin (Buy) 75 100 10.4 8.6 3.6% 1.4 5.3 4.7
Nokian Tires (Hold) 21 24 13.2 12.4 6.8% 2.1 8.8 6.5
Pirelli (Hold) 11.0 12.0 13.2 11.2 3.3% 1.7 5.3 4.7
Bridgestone (Buy) 4,186 4,800 10.5 9.0 2.0% 1.6 5.4 4.7
Goodyear (Hold) 28.6 29.0 9.5 9.9 0.7% 3.5 5.5 4.8
Hankook (Buy) 49,200 66,000 8.4 7.9 1.0% 1.3 5.3 5.1
Non Weighted average 11.4 10.3 2.7% 2.0 6.2 5.3 Source: Deutsche Bank
As shown in the table above, versus the sector Pirelli multiples are: higher than
peer groups on P/E and lower on EV/EBITDA.
12 January 2015
Tires
Pirelli & C
Page 12 Deutsche Bank AG/London
Appendix 1
Important Disclosures
Additional information available upon request
Disclosure checklist
Company Ticker Recent price* Disclosure
Pirelli & C PECI.MI 10.79 (EUR) 9 Jan 15 6,14 *Prices are current as of the end of the previous trading session unless otherwise indicated and are sourced from local exchanges via Reuters, Bloomberg and other vendors . Data is sourced from Deutsche Bank and subject companies.
Important Disclosures Required by U.S. Regulators
Disclosures marked with an asterisk may also be required by at least one jurisdiction in addition to the United States. See Important Disclosures Required by Non-US Regulators and Explanatory Notes.
6. Deutsche Bank and/or its affiliate(s) owns one percent or more of any class of common equity securities of this company calculated under computational methods required by US law.
14. Deutsche Bank and/or its affiliate(s) has received non-investment banking related compensation from this company within the past year.
Important Disclosures Required by Non-U.S. Regulators
Please also refer to disclosures in the Important Disclosures Required by US Regulators and the Explanatory Notes.
6. Deutsche Bank and/or its affiliate(s) owns one percent or more of any class of common equity securities of this company calculated under computational methods required by US law.
For disclosures pertaining to recommendations or estimates made on securities other than the primary subject of this research, please see the most recently published company report or visit our global disclosure look-up page on our website at http://gm.db.com/ger/disclosure/Disclosure.eqsr?ricCode=PECI.MI
Analyst Certification
The views expressed in this report accurately reflect the personal views of the undersigned lead analyst(s) about the subject issuer and the securities of the issuer. In addition, the undersigned lead analyst(s) has not and will not receive any compensation for providing a specific recommendation or view in this report. Gaetan Toulemonde
12 January 2015
Tires
Pirelli & C
Deutsche Bank AG/London Page 13
Historical recommendations and target price: Pirelli & C (PECI.MI) (as of 1/9/2015)
12
3
4 5
0.00
2.00
4.00
6.00
8.00
10.00
12.00
14.00
Jan 12 Apr 12 Jul 12 Oct 12 Jan 13 Apr 13 Jul 13 Oct 13 Jan 14 Apr 14 Jul 14 Oct 14
Secu
rity
Pri
ce
Date
Previous Recommendations
Strong Buy Buy Market Perform Underperform Not Rated Suspended Rating
Current Recommendations
Buy Hold Sell Not Rated Suspended Rating
*New Recommendation Structure as of September 9,2002
1. 15/03/2012: Buy, Target Price Change EUR10.50 4. 13/11/2013: Hold, Target Price Change EUR11.00
2. 24/01/2013: Downgrade to Hold, EUR10.50 5. 03/04/2014: Hold, Target Price Change EUR12.00
3. 08/05/2013: Hold, Target Price Change EUR9.50
Equity rating key Equity rating dispersion and banking relationships
Buy: Based on a current 12- month view of total share-holder return (TSR = percentage change in share price from current price to projected target price plus pro-jected dividend yield ) , we recommend that investors buy the stock. Sell: Based on a current 12-month view of total share-holder return, we recommend that investors sell the stock Hold: We take a neutral view on the stock 12-months out and, based on this time horizon, do not recommend either a Buy or Sell. Notes:
1. Newly issued research recommendations and target prices always supersede previously published research. 2. Ratings definitions prior to 27 January, 2007 were:
Buy: Expected total return (including dividends) of 10% or more over a 12-month period Hold: Expected total return (including dividends) between -10% and 10% over a 12-month period Sell: Expected total return (including dividends) of -10% or worse over a 12-month period
39 %
54 %
7 %
47 % 39 %
30 %
0
50
100
150
200
250
300
350
400
Buy Hold Sell
European Universe
Companies Covered Cos. w/ Banking Relationship
12 January 2015
Tires
Pirelli & C
Page 14 Deutsche Bank AG/London
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