American Axle: Play the Auto Restocking Cycle $AXL

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American Axle is a crappy company. But I currently view that we are going to see a large increase in auto production to (i) meet demand which we are unable to do right now and (ii) restock to baseline inventory levels. So with the stock at a ~40% FCF yield, I’m interested.

This could be a value trap, but my thesis is simple:

  • SAAR came way down during COVID, but demand held in
  • Semiconductor shortages have limited production to catch up, which will sort itself out over time. But it will take time. And this will result in a prolonged auto upcycle
  • Credit is cheap + average age of vehicles has continued to tick up which tells me there’s room for even more restocking.
  • US personal savings averaged $3.5 trillion during first 5 months of 2021, nearly 3x the level seen in 2019. We could see a decline in the average age of vehicles in the car parc for the first time in many, many years
  • Inventory continues to decline. Days supply of autos is now around 20 days compared to long-term averages of 60 days. Auto producers need to meet current demand + restock inventories to some sort of normal level

Add this all together, I think the next 3+ years will need to see above average production to catch up.

Here is SAAR, auto inventories and the average age of cars on one chart:

What is a levered bet on this? Shitty auto suppliers. And that is where American Axle comes in to play (and I’m open / reviewing others). AXL trades for ~4x EBITDA for a reason – when auto production collapses, they get crushed. But on the other side, they can generate great FCF when the cycle is in their favor.

How often do you see sell side pointing out the FCF yield is ~40%?. That is also an appeal here – the FCF yield to equity is quite high and I don’t think expectations are high for this company. At the very least, there is a lot of doubt in this cyclical name that the cycle will be short-lived.

$AXL used to have “a balance sheet problem.” While it might’ve only been 3x levered, it was on a business worth 4x, so it mattered. That’s a 75% LTV, which is pretty high. But they generate cash flow now and will definitely in this market.

I should go ahead and point out why they are not great:

  • AXL is a Tier 1 auto supplier, which is a tough business and cycles hard
  • ~40% of sales are to GM. If GM needs to take a plant down, like in the case of no semi’s, that won’t be ideal. This also means GM has significant power of AXL. Fiat Chrysler is another ~20%
  • Pretty capital intensive, as 6-7% of sales is spent on capex in normal times.
  • Investors view anything related to powertrain parts as secularly challenged from EVs (however, AXL did note it is quoting $1.5bn of new & incremental work, with 80% related to hybrids / EVs). In an EV world, perhaps there is less AXL content needed

So there lies the main risks. The other hard part is where this company should trade. I am not calling for a re-rating. I just think earnings / FCF will likely be much higher than consensus expects for the next 3 years. Leverage is down to 2.5x and once they get to 2.0x or less, I think that FCF will really start accruing to the equity.

If this stock underperforms – I’ll know why. I bought a value trap.

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