Daimler Preview: U.S. And China Are Strong But European Margins Could Suffer

Daimler Motors (NYSE:DAI) is scheduled to announce its earnings on July 24. Shares of the company have gained about 30% in the last three months, buoyed by strong set of monthly sales figures announced by Mercedes. The cars and vans sold under the Mercedes-Benz brand contribute almost 70% to the stock price, as per our estimates. In addition to the Mercedes-Benz brand, the company also sells buses and trucks under the Daimler brand.

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There is a general consensus that the second half of the year will be much stronger than the first due to a slew of model refreshments and new introductions lined up. The product offensive is part of Mercedes’ strategy to regain the crown of the world’s largest automaker by 2020. The year has been good for the automaker so far with unit sales rising 6.4% to 694,433 through June, helped by strong performances in China and the U.S. ^[1]

In China, the luxury car market is booming with 1.25 million unit sales last year, and its volume is expected to reach 2.25 million units by 2016, toppling the U.S. as the world’s largest market. While Mercedes’ sales could only rise 4% in China last year, they have jumped 16% in the first half of 2013. ^[2] Moreover, the recent introduction of the A-Class in China should keep the sales rolling in the latter half of the year.

In the U.S., the automaker unveiled the pricing of its revamped E-Class last month. Mercedes has also introduced an all new vehicle called the CLA, the price of which starts from $29,900. The CLA will help the company compete directly against the likes of BMW’s 1-series and 3-series, and Audi’s A3 and A4, which are hugely popular with the younger demographic. Sales will only begin from September so the automaker could witness a strong run in at the end of the year. Besides the E-Class and the SLA, the refreshed S-Class will also be rolled out in the U.S. by fall. Mercedes’ sales are up 10% through June in the U.S.

Low Profitability A Worry

Margins will be heavily scrutinized. Operating margins have been declining sequentially with each quarter and fell to 3.4% in the first quarter. In contrast, Audi and BMW have been consistently clocking margins in excess of 10%. Management attributed the weak margins to one-time investments associated with the model makeovers. In the absence of these one-time costs, margins should improve in the second half of the year.

Despite a plethora of model refreshments, challenges remain for the automaker especially since the Western Europe continues to remain weak. The region accounts for about half of Daimler’s sales. Germany was an exception earlier, but beginning from the end of 2012, its market has started to slide as well. In fact, automotive sales in Europe’s biggest economy are down 8% through June. ^[3] Daimler depends on Germany for a fifth of its sales.

Although the second half of the year should be better than the first, weak macro-economic conditions in Germany might cause the magnitude of improvement to trail expectations. As of now, we have a price estimate of $58 for Daimler’s stock, which is about 15% below the current market price. We will revise our estimates after the second quarter earnings are released.

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1. Mercedes-Benz sales up 8.3 percent in June to 131,609 cars, July 3, 2013, reuters.com [↩]
2. Daimler Investor Relations [↩]
3. UPDATE 1-German June new car sales down around 5 pct -source, July 2, 2013, reuters.com [↩]