Where the heck did that come from?
Since restructuring its business in 2009 amid arguably the worst industry downturn in auto history, Goodyear Tire & Rubber (NYSE: GT ) yesterday surprised everyone by reporting record quarterly revenue of $5.6 billion. The company's quarterly profit of $0.65, excluding items, also left consensus estimates of $0.27 in the dust. In short, the company nailed it, so let's take a look at why growth was so strong.
The main driver of the company's growth was its North American business segment, which saw an 18% increase in total revenue to $2.4 billion despite a 5% drop in overall tire volume. What this means for Goodyear's bottom line is a significantly juicier gross margin and thus a much higher-than-expected quarterly profit.
Another often overlooked implication of the tire business is the greater amount of used cars now on the road. With prices on used cars healthier than they've been in a long time, dealerships like Lithia Motors (NYSE: LAD ) and Sonic Automotive (NYSE: SAH ) are looking to cash in. One way Goodyear may capitalize on that trend is through increased tire volume. Trust me, it's great getting premium tires on a brand new vehicle, but with used cars lasting longer every year, there are big margins to be made for Goodyear in the used-car market. Perhaps that's one reason Goodyear claims it's on track to turn $1.6 billion in operating income by 2013.
Not everything is as cut and dried as it seems, though, because it appears material costs are poised to take a major bite out of Goodyear's bottom line during the second half of the year. The company anticipates that raw-material costs are expected to rise by more than 30% for the rest of the year versus prior estimates of a 25%-30% jump in costs.
At first, traders pumped Goodyear's stock up above $18 yesterday, but shares came crashing down promptly to finish below $16 on worries of rising costs. So what's an investor to do?
I think you'd be crazy to overlook just how far Goodyear, and the entire tire industry, has come since the lows of 2009. Cooper Tire & Rubber (NYSE: CTB ) and Goodyear are both trading at single-digit forward P/Es and could for their own unique reasons make solid investments. Cooper pays out a dividend and has a significantly better cash position than Goodyear. On the other hand, Goodyear currently has better earnings momentum and appears cheaper when comparing PEG ratios. Either way, I don't think you could go wrong owning either over the next few years.
When the rubber meets the road, are you a buyer of Goodyear here? Share your thoughts in the comments section below and consider adding Goodyear Tire & Rubber and Cooper Tire & Rubber to your watchlist to keep up on the latest news in the tire industry.