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Should Investors Buy Honda Motor Company?

By Yaggyaseni Mittra – Mar 3, 2014 at 8:02PM

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A lot is going in favor of Honda, but should you invest in this Japanese automaker?

Honda Motor (HMC -0.41%) recently released its third-quarter results, delivering a twofold jump in profit due to a weak yen. However, Honda wasn't able to meet consensus estimates. It suffered from lower sales in Thailand, and this was cited as the main reason behind Honda's weaker than expected sales.  

It faces tough competition from the world's largest automaker, Toyota Motor (TM -0.07%), which also released its results recently and outperformed expectations. Also, as Honda is focusing on growing its share in the U.S., it will face competition from the likes of Ford (F 0.04%) and GM. Let's take a look at how Honda performed and whether it can be a good long-term holding.

A review of the quarter
Honda's net income rose to $1.6 billion in the third quarter, which is more than double as compared to the year-ago period. But this is 4.5% lower than what the analysts had estimated. Weakness in Thailand, as a result of political instability, was the main reason why Honda couldn't match up to estimates. Net sales were $28.66 billion, a 24.5% increase over last year, while operating income increased 73.2% to $2.17 billion. 

Apart from currency fluctuations, increased sales and reduction in costs also helped increase Honda's net profit. 

The company might have reported a mixed quarter last time, but is it well-positioned for long-term growth? Let's find out.

Accelerating ahead
Honda is reaping the benefits of Prime Minister Shinzo Abe's economic policies, along with other Japanese exporters. The economic policies helped weaken the yen 18% against the dollar in 2013. This helped Honda increase its earnings greatly.  

But, it still faces tough competition from the world's largest automaker, Toyota, which is also reaping the same benefit. Toyota is working to improve its market share in various markets across the world. The company is going to launch around 30 new vehicles this year in South Africa. Toyota has also launched the all-new Wigo hatchback in the Philippines to bring more new-car buyers into its fold as it is priced aggressively.  

However, Toyota's reputation has been marred by the fact that the company has been a serial recaller of vehicles. The company is recalling around 295,000 Lexus and Toyota brand vehicles across the globe, with the majority being in the United States. It had also recalled 1.9 million of the third-generation Prius cars sold worldwide due to a software problem. 

These problems at Toyota could help Honda improve its brand in different markets. With its new launches lined up, Honda seems to ready to take on its rivals.

In India, Honda had suffered a huge set back due to the absence of diesel-powered motors. But, after the launch of the Amaze last year, it has started pulling in more customers. It has also introduced new models of the popular Honda City sedan, placing it in a great position to benefit from the Indian market. Although Honda is expecting industry-wide demand for cars in 2014 to drop 3% in India, yet it aims to boost its sales by 50%. This shows that the company is making some great moves in the market by introducing the right vehicles according to customers' preferences.

Honda is heavily counting on emerging markets to account for half of the 6 million cars it plans to sell by 2017. But, Thailand is proving to be a thorn in this market. Due to high political instability in that region, Honda's sales have declined, which was clearly seen in its quarterly results. It expects industry-wide car sales to drop by 15% in Thailand. Along with that, the Indonesian market seems to be flat with no growth opportunity, but Honda is looking to double its sales here and capture more market share. 

Going forward, Honda aims to increase its global vehicle sales to 4.43 million units this year, driven by a number of new models, including the Fit and the Vezel.

A look at key markets
However, the company is performing well in China. After the territorial dispute eased between China and Japan, Honda's sales figures doubled in the third quarter. China is considered as one of the largest automobile markets with an expected growth of 10% going forward, and Honda plans to increase its sales by 19% in 2014 in this country. 

Also, Honda is doing fine in North America. Honda launched a new small car known as the Fit in January this year to be sold in the U.S. One of the main features of the Fit that Honda is promoting is its high fuel efficiency. Through the fit, Honda hopes to grab market share from GM's Chevrolet Sonic and Ford's Fiesta. With new launches like the Vezel and others lined up, Honda is expecting to grow considerably in the U.S. market.

Honda recently started the production of the 2015 Fit at its new plant in Mexico with an aim to push sales of the subcompact vehicle aggressively in North America. The company had to import the last two generations of the Fit from Japan, leading to supply problems. But this time, there shouldn't be such an issue since the Mexico plant is capable of manufacturing 200,000 vehicles and engines a year.

Honda sold 52,944 Fits in the U.S. in 2013, up 7.5% from 2012. The presence of the new Honda plant so close to the U.S. will help the company in pushing up production volume and capture more market from other subcompacts. The company has invested more than $3 billion in North America and believes that once its Mexico plant is at full capacity, it will be able to achieve 95% localization in North America, leading to better margins in the process.

But, Honda can expect tough competition from Ford. Ford's Fiesta is a hugely popular in the U.S. market due to its solid miles-per-gallon figure and eco-friendly engine. The Fiesta is the most fuel-efficient non-hybrid, non-diesel car in the U.S., and Ford is planning to take it into Honda's home market in Japan. Ford had sold only 3,896 cars in Japan last year, but it is now looking to change that. So, Honda should keep a close watch on its American rival going forward. 

With a trailing P/E of 10.83, a forward P/E of 8.95, and a PEG ratio of 0.36, Honda looks promising. The quarterly results were marginally disappointing, which can very well be explained due to declining sales in Thailand. Other than that Honda posted pretty good numbers with increased sales and a weakening yen provided a major boost to its income.

Currently, the stock is trading close to its 52-week low. But, looking at the growth prospects and strong fundamentals, the company looks promising and it could become a good investment option as it launches more and more cars going forward.

Yaggyaseni Mittra has no position in any stocks mentioned. The Motley Fool recommends Ford. The Motley Fool owns shares of Ford. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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