This is why I like the Ferrari business model
With the new quarter creeping up on us, I was going through the earnings call calendar and an old friend drew my attention.
If you've been watching Formula 1 lately there is one team on the outset that is having a particularly bad run of luck. It's a surprising one as well. One that's drawing the ire of their red and yellow fans who have their own distinct Italian name, the Tifosi. Yes, Ferrari haven't been doing all that well, struggling with their once strong performance in the hybrid era and despite having young gun, Charles Leclerc in the hot seat. And I thought that important to mention because Formula 1 is central to the Ferrari business. That's what I want to talk about today.
If you don't follow the markets or the business world all that much you might not know that Ferrari actually trade as a public company on the NYSE. This all occurred in 2015 when Fiat Chrysler was trying to turn a profit but didn't want to offload their companies in bulk and with little price rationalisation.
Ferrari today have the vast majority of the companies shares allocated to the public with 10% being retained by the Ferrari family and Dutch holding company, Exor (who also now own FCA, Juventus F.C. and The Economist) holding a 22% share in the company. And that's good, the Ferrari family (currently Piero) is the Vice Chairman of the board and John Elkann (Chairman and CEO of Exor) is the Chairman of the company. The majority of voting rights sit with those two people.
Why is this good? Well, it's good for a united vision. Fiat and Ferrari have always aligned quite well when it comes to flying the Italian flag for automotive and with FCA having almost a 40-50 year history with Ferrari they're well established with teamwork (albeit not always happily).
I think the next question is the more important one. Why am I talking about Ferrari right now? Quite simply, I was flicking through the earnings calendar for quarter 4, which is just around the corner and Ferrari's ticker, RACE, stood out on the calendar in late October. Why did it stick out? The projected earnings per share was $0.10 down on the same year previous.
That interests me a lot for a couple of reasons. The first is that Ferrari is a really strong business. The company works on the mantra, build less charge more. And I've always loved that business structure. Why do more work for less? Have more overheads, more staff and far more chance for things to go wrong. Ferrari's are handmade yes but so are a whole lot of other volume cars. And sure they require heaps of research and development but they get a lot of that by participating in Formula 1 which, in a normal year for Ferrari, pays for itself. They've managed to create this slim mean corporate structure and at the same time build one of the most recognisable brands on the planet.
This was reflected last year when Ferrari announced they'd broken their personal best sales volume by selling 10,131 cars in 2019 and making a $771millionUSD profit. For a car manufacturer without an SUV model achieving such growth is absolutely brilliant.
2020 though hasn't been kinda to automotive. People working from home has meant fewer cars are being bought and with stimulus being held up currently in most countries a recession is looming. Theoretically, the first thing austerity effects is luxury product. But this isn't a normal recession. This was a recession (which while bound to happen) that was caused by environmental factors. It was caused by COVID19. And that is important because COVID19 has had the most impact worldwide on the number 1 luxury purchase for middle classers worldwide multiple years in a row, travel and hospitality.
That means that while we aren't seeing it right now, the 1%ers out there have made a lot of money and are saving even more with the inability to travel. So what was the number 2 luxury purchase behind travel and hospitality, and why is it relevant right now? To answer simply, it's automotive and it's important because while the economy is going to recover fairly quickly and boom post-recession (as it always has), travel will not recover on that same timeline. It's now recovering on a different timeline and that timeline is reliant on the medical advances we can make in COVID19 vaccines.
That means that people have far more money to spend on luxury automotive. They have far more money to spend on a Ferrari. And that is reflected by investor confidence in the Ferrari brand. Ferrari (RACE) share value is up 20% for the year and has most recently suffered from the September selloff. Prior to that, they were up 30% for the year.
So what's the strategy you ask, should I buy Ferrari? I think so. Earnings per share estimates have totally missed the mark all year thanks to the COVID economy and I don't just think Ferrari is a buy right now, I think you should go long on it. Ferrari is a 12 month+ strategy. They won't beat their 10,000 sales volume record in 2020 thanks to the disruptions in manufacturing over in Italy. But they might knock it out of the park in 2021 and it'll be catalysed by that post-COVID economy boom.
Better still, Ferrari have the right cars on the market right now to tap into that upper-middle-class market. I actually slagged off at Ferrari for this a couple of months back and I still stand by the opinion that I hate how attainable Ferrari has become. It's annoying to see the local greengrocer suddenly driving the GTC4Lusso or the Portofino thinking he's a baller because he owns a Ferrari. I mean good on them for attaining a Ferrari but you don't just buy a Ferrari for the sake of it.
The big but comes when we're talking about the overall value those volume models on the Ferrari range have with Ferrari's profit. And the answer is a huge amount of value. At the start of this article I mentioned the idea that Ferrari's business structure is sound, build less charge more. And while those volume models are cheaper than the typical Ferrari, they're still well over $200,000USD ($400,000AUD). People willingly and happily put their hand in their pocket to pay that for a volume Ferrari and as they do Enzo laughs in his grave.
This is only set to get even better for Ferrari in 2021, this volume Ferrari strategy. And whilst it pains me to tears I've got to say props to them for figuring out the sweet spot between cost and volume. It's that thinking, plus the investment Ferrari are making into hybrid and electric vehicles of the future while keeping the callback to the original Ferrari brand and not pandering to this ridiculous SUV volume craze we're still going through that makes me think Ferrari is a really strong long term investment.
Considering that the brand has already had a September downturn I'd say take a chunk of the company now. Part of me thinks that the earnings call in late October may harm the share price but there is a far greater chance that they've outperformed the earnings thanks to customer orders in America, Australia and Europe. And if it does outperform with the quarter 3 results? You can almost guarantee quarter 4 will be a banger for them.
Consensus price target from Morgan Stanley for Ferrari (RACE) is $265USD up from the current price of $181USD. For a strong business with a high EPS who make the most desirable automobile on earth? That's a pretty bloody good upside and she's shaping up to be a good investment as a result. You never know, I might even become a member of the Tifosi if the company does well enough in October.
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