After BorgWarner Inc. (NYSE: BWA) lowered its full-year earnings expectations when it reported third-quarter results last fall, investors in the automotive turbocharger and drivetrain manufacturer must have been apprehensive heading into its fourth-quarter earnings. However, the latest quarterly numbers were in line with expectations. Let's look at its earnings and outlook for 2015.
Stronger U.S. dollar biting profits
In its third-quarter results, delivered in October, management reduced full-year earnings-per-share guidance to $3.23-$3.28 from a previous range of $3.25-$3.35. It cited "weakening foreign currencies" and the "slow ramp-up of a major program by a North American customer" within the drivetrain segment. Fast-forward to the fourth quarter and full-year non-generally accepted accounting principles EPS came in at $3.25 -- an impressive result considering that the U.S. dollar strengthened significantly since the third-quarter announcement.
As an exporter, BorgWarner has significant negative exposure to the dollar against certain foreign currencies. As the American currency strengthens, the value of the euro, yen, and other currencies is reduced in U.S. dollar terms. The company then earns less money on sales made in foreign currencies. Here is a look at how some of the major currencies that BorgWarner is exposed to have performed since the third-quarter announcement.
US Dollar to Euro Exchange Rate data by YCharts.
No change to 2015 guidance
For 2015, management didn't fundamentally change the guidance it gave in mid-January. Instead, executives promised to update investors on the 2015 outlook in the first-quarter earnings release in April. The guidance given in mid-January is for full-year 2015 net sales growth of 9.5%-12%, excluding foreign currencies. On a reported basis, net sales are only expected to grow by 2%-6%. In other words, a stronger dollar is forecast to hold back sales growth.
Moreover, earnings are also predicted to take a hit from currency effects. The guidance in January was for full-year 2015 diluted EPS of $3.35-$3.55, suggesting EPS growth of 3%-9%. However, according to the company's mid-January press release, "excluding the impact of weaker foreign currencies, net earnings are expected to be $3.60-$3.75 per diluted share" -- indicating a growth rate of 11%-15% compared to 2014.
BorgWarner's underlying growth rate remains pretty strong, and if the U.S. dollar weakens in 2015, then investors can expect some upside to EPS forecasts going forward.
Segmental earnings
Turning to the specifics in the fourth quarter, net sales rose 6% and operating income increased by 13%, with the engine segment leading the way in profit growth. A look at adjusted earnings before interest and taxes, or EBIT, demonstrates the divergence in performance between the segments in the quarter.
| Metric |
Engine |
Drivetrain |
|---|---|---|
|
Sales |
1384 |
615 |
|
Sales Increase |
118 |
(12.6) |
|
Adjusted EBIT |
228 |
65.7 |
|
Increase vs. Q3 2013 |
20.1 |
(4.8) |
|
Adjusted EBIT Margin |
16.5% |
10.7% |
Source: BorgWarner presentations, all figures in millions of U.S. dollars unless stated.
The figures quoted in the table are headline data, but the underlying picture is somewhat stronger in both segments. Excluding currency effects and the impact of the purchase of Wahler ( a manufacturer of exhaust gas recirculation valves and tubes), adjusted EBIT margin for the engine segment would have been 17.4% -- a full percentage point increase on the 16.4% reported in last year's fourth quarter.
Three things negatively affected the drivetrain segment's sales and earnings in the quarter -- all of which could prove temporary.
- Excluding currency effects, sales actually rose 2%.
- Drivetrain faced a tough comparison from last year's fourth quarter, in which sales increased 10% (excluding currency effects).
- There was a "slow ramp up" by a North American customer, referred to earlier.
The third issue is arguably the most concerning, and the matter was raised during the conference call. CFO Ronald Hundzinski responded to the question: "So if you take a look at [2014], I believe that customer was running pretty high on volumes in the first two quarters of '14 as well. And so it would be more in the second half where you start to see the comps would even out."
In other words, the comparisons are likely to get easier in the second half of 2015.
Set for a strong year
BorgWarner seems set for a strong year, but investors should look for the updated full-year guidance that is scheduled to be released with the first-quarter results in April. The company offers investors an interesting mix of prospects, with long-term revenue growth opportunities balanced with restructuring to cut costs and margin expansion through the integration of Wahler. It also offers investors a good way to hedge the possibility of a weaker U.S. dollar.
