Hyundai Motor Company: Q2 2019 To Satisfy Heightened Expectations

Investment highlights

We expect Hyundai Motor Company's (OTCPK:HYMTF) 2Q19 operating profit to come in at KRW1.13tn (+18% YoY, 4.4% operating margin), 0.6% higher than the consensus estimate. Wholesale volume was flat YoY (-1% YoY excluding China) but FX conditions turned favorable YoY except the BRL. In addition, the product mix considerably improved led by Palisade and Sonata. KRW depreciation against the USD was milder than expected but we believe it has not worked to boost warranty provisions too much. Accordingly, we revise up our 2Q19 forecast and adjusted our FX assumptions reflecting the current FX environment. We believe the auto margin is improving but other businesses such as financials and Rotem (064350.KS, not rated) will probably take more time for profitability to recover. We reiterate BUY and keep our target price intact at KRW185,000.

Major issues and earnings outlook

2Q19 results will likely satisfy heightened market expectations. We forecast KRW26.4tn in sales (+6.7% YoY, +9.9% QoQ), KRW1.13tn in operating profit (+18% YoY, +37% QoQ, 4.3% operating margin), and KRW0.99tn in net profit (+42% YoY, +20% QoQ). Operating profit should be 0.6% higher than the consensus estimate of KRW1.12tn (4.3% operating margin). Sales volume should be similar to expectations. Improving FX and product mix have contributed to the profitability of the auto division but other businesses’ margin recovery will likely take time (e.g., Hyundai Card’s rising promotion cost for targeting Costco (COST) customers).

We note the speed and margin growth of the auto division. The improving product mix is helping to eclipse marketing cost hikes for new models and depreciation cost burdens associated with new platforms and powertrains, which leads to continued margin improvement. Expectations are growing for 4Q19 when US production of the Sonata begins and the GV80 is launched. Marketing and R&D/investment cost burdens are expected to be offset by product mix improvement. We continue to believe the cost ratio will recover from 4Q19 onwards.

Share price outlook and valuation

Downstream demand remains weak as Chinese sales continue to deteriorate and European sales growth slows. However, helped by SUV-driven new car effects, earnings are rapidly catching up. We expect the recent strong sales of newly released models to help accelerate the recovery of earnings. For the stock to rise further, we need to see continued improvement in the core businesses led by a recovery of earnings in the US market; wider adoption of the third-generation platform; and a recovery of demand in previously sluggish regions such as China, led by newly released models.

Hyundai Motor

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: Hyundai Motor Company is a passive shareholder in our bank.