Goodyear Tire & Rubber (NASDAQ: GT ) sells tires across the globe for cars, trucks, buses, aircraft, earth movers, farm equipment, and more, along with providing bulk chemicals and natural rubbers. Yet, despite quietly enabling the world's economy to move (literally), the company is only valued at $6.9 billion and has only outperformed the S&P 500 by 17% in the last decade when dividends are included.
Perhaps that's an unfair comparison, since the tire powerhouse only began paying dividends four quarters ago. While that could be taken as a sign of increasing business efficiency and newfound growth, it's also a testament to the challenging markets the company faces. There are good reasons for the company's stock to rise, but here are three reasons Goodyear Tire & Rubber's share price could fall in the coming months and quarters.
1. Dissolution of global alliance
Breaking up is never easy, but it has the potential to be painfully expensive for Goodyear. The company owns 75% of two companies (Goodyear Dunlop Tires Europe and Goodyear Dunlop Tires North America) as part of a global alliance with Sumitomo Rubber Industries, or SRI, which owns the remaining 25% of each. The pair own several other businesses together, with SRI always the minority partner. Unfortunately, the majority owner learned that SRI has engaged in "anticompetitive conduct" that warrants the dissolution of the partnership, and is in arbitration to wind it down.
That's not necessarily bad news. After all, Goodyear is going through a decent amount of trouble to do "the right thing" and protect its reputation. However, SRI has the right to force Goodyear to buy out its stake in all of the businesses that are part of the partnership, which is the only realistic outcome. While this is a value-driving move in the long run, especially with increasing cash flow, a higher than anticipated price tag could be a major headache for shareholders and have a major one-time impact on profits. Investors will have to wait to see if damages and other financial relief sought in arbitration will be enough to cover Goodyear's acquisition costs.
2. Europe's economic weakness
Nearly every Goodyear region improved its operating margin by at least 41% from 2011 to 2013. The outlier was Europe (also grouped with the Middle East and Africa), which saw operating margin plummet 42% from 7.8% in 2011 to 4.5% in 2013. In the same period, total tires, err, tyres, sold decreased from 74.3 million to 60.8 million, or enough to equip 3.38 million vehicles. And, no, Europe didn't incinerate millions of vehicles.
Instead, weak economic growth and high unemployment have forced Goodyear Tire & Rubber to swallow lackluster performance in the region. In an attempt to combat the obstacles facing its business, the company closed the manufacturing facility in Amiens, France, in the first quarter of 2014 and will exit the farm tire business in the region. The moves are expected to improve operating income by $75 million per year , which would strengthen the region's operating margin by 25% over 2013. While this is a smart move given current conditions, Europe remains a challenging market for tire manufacturers and will continue to weigh on the business.
3. Substantial debt
What makes having to buy out a conniving partner even worse? Not having the financial flexibility to assure shareholders that it won't be a major issue. Goodyear had $15.2 billion in total liabilities and just under $17 billion in total assets at the end of the second quarter. That high amount of debt could limit the company's ability to target growth moving forward and will limit its flexibility in reacting to significant market obstacles, such as the dismal performance in Europe.
A total debt-to-assets ratio of 89.7% could also put Goodyear Tire & Rubber at a competitive disadvantage to its peers and competitors, which could be better positioned to target growth opportunities and expand manufacturing capacity in new regions. That's especially true of manufacturers with ample government support, such as those in Latin America and the Asia-Pacific.
No company faces an unimpeded path to growth or expansion, but there are several good reasons that Goodyear Tire & Rubber's stock could fall. If it weren't for the poor performance in Europe and the looming dissolution with SRI, investors might be taking a much more optimistic view of the tire manufacturer's future. Can you overlook those risks to tap into an improving business?
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