In June, I believed that it was not going to be a good year for Goodyear Tire & Rubber (NASDAQ:GT). The company has been struggling with debt following its acquisition of Cooper Tire & Rubber, as the resulting turmoil attracted activist investor Elliott Management, which pushed the company into making changes.
This involvement triggered the company into announcing a plan in which the company would be selling off non-core assets, yet amidst topline sales declines and losses reported in the meantime, the situation was not too appealing in my view amidst execution risks and lack of tangible progress made so far.
Over the summer, shares have fallen further amidst poor volume trends. Despite this real observation, margin gains are demonstrated upon, which together with a first divestment create some reasons to become more upbeat as well.
On Goodyear
When Goodyear closed on the acquisition of Cooper Tire in a $2.8 billion deal in 2021, the idea was to create a tire giant with $17.5 billion in pro forma sales. Shares of Goodyear spiked to $17 in response to the deal announcement, with investors getting carried away by projected synergies.
The company grew sales to pro forma numbers in 2021, and to $20.8 billion in 2022, yet margins took a huge beating already. Amidst sluggish sales trends in 2023, by then accompanied by losses, concerns were rising, as activist investor Elliott Management rang the doorbell.
Falling sales, losses reported and a near $8 billion net debt load were painting a grim picture, yet the Goodyear Forward Plan, announced in November of last year, was set to bring relief. This involved the planned sale of non-core assets, combined responsible for about $2.5 billion in sales (with estimated proceeds at $2 billion). Other measures were generic cost-saving targets and growth initiatives, yet 10% margins by 2025 looked overly optimistic.
If the company could deliver on this, earnings power could reach $3 per share over time, but a soft performance and real execution risks made me very cautious.
Disappointments
By June, shares of Goodyear were down to $12 per share. This came after 2023 sales were down 3% to $20.1 billion. The company posted GAAP losses of $2.42 per share, with adjusted losses posted at $0.21 per share.
Net debt of $6.7 billion was equal to the year before, as the business has quite some seasonality in cash flows, with net debt typically low in the first quarter. The company believed that synergies to the tune of $300 million could be realized in 2024, while full-year tire volumes were seen down 2%.
First quarter sales fell 8% to $4.5 billion as the company squeezed out adjusted earnings of $0.10 per share, yet it is the frequency and size of the adjustments which reminds me of Alcoa in the past. At some point in time numerous, frequent and sizeable charges became part of the operating course of the business.
With no progress made on the divestment front, I was waiting for green shoots at $12 per share, and very cautious to get involved just yet.
A Tough Summer
The truth is that over the past three months, shares of Goodyear have lost another 30%, now trading at $8 and change.
In July, the company announced its first divestment after its new plans. The company reached a deal with Japanese-based Yokohama Rubber Company in which it will sell its off-the-road tire business in a $905 million deal. Otherwise, few financial details on this divestment have been announced. These proceeds are welcomed as they could be used to pay off a similar-sized bond due next year, carrying coupons around 9% and change.
On the final day of the month, the company announced another 6% fall in second quarter sales to $4.6 billion, with tire volumes down nearly 2% to 40 million units. Segment operating margins and profitability showed a meaningful improvement, with adjusted earnings reported at $0.19 per share, comparing to a substantial adjusted loss this time last year, as frankly this felt quite encouraging.
Net debt came in at $7.7 billion, virtually at par compared to last year, but that is ahead of the divestment of the off-the-road business, set to close only early in 2025. This could make a dent in reducing net debt, yet it is not known how many revenues, but moreover profits will be leaving the door with this divestment. For the year, the company sees tire volumes down 3% amidst continued challenges of the sector at large, while the company faces unabsorbed overhead costs as well.
This is disappointing, suggesting that tire volumes might fall by some 4% in the second half of the year, with the automotive/EV sector struggling here. While this is not encouraging, the pace of margin progress was a pleasant surprise, although that this performance was aided by deflation in input costs.
With 288 million shares trading at $8 and change, the market value is just around $2.5 billion, a fraction of the current enterprise valuation.
What Now?
With adjusted earnings trending at around seventy-five cents, while cost rationalization efforts boost margins, the issue is that of suboptimal profits and still a huge debt overhang. Of course, the deal with Yokohama will make a small change in cutting debt, but substantial money is allocated into new capital spending projects as well.
This includes a CAD $575 million investment into its Canadian Napanee facility, earmarked in order to meet the evolving need of electric vehicles and all-terrain markets, which raises the question on how near term free cash flow will evolve, as this is a very considerable sum. This comes even as the company is set to receive tens of millions from (local) governments in this project.
Amidst all this, I am actually growing a little bit more upbeat on Goodyear here. For starters is the decline in the share price, the fact that a big divestment has been announced, and real improvement in the results are flowing through to the bottom line. All this improves the risk-reward a great deal, which is not to say that the appeal is readily seen.
Shares trade at a historical low, and real pressures for change are made, as the first tangible results are seen. This suggests that some appeal is seen here, yet I fail to have conviction on the shares here, as investment returns in the long haul are driven by good underlying companies. With Goodyear still being far from a great business, I proceed with caution, as I am not yet willing to pull the trigger.
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