If the market feels a little sportier today, it’s because a company known for high-powered cars and sleek design will soon rev its engines on the New York Stock Exchange.
Fiat Chrysler Automobiles (ticker: FCAU) has begun the process to spin off its luxury sports car company, Ferrari. Ten percent of the iconic company will hit the open market with a valuation of nearly $10 billion. Then, early next year, Fiat will complete the spinoff, selling its remaining 80 percent ownership of Ferrari (Ferrari’s founding family owns 10 percent, as well).
For Fiat, the move makes sense as the company looks to lessen its debt load while also attempting to pull off a $55 billion expansion plan over the next five years. Fiat’s move, though, creates a gain for the market, gassing up an initial public offering that will have investors and car fanatics excited.
But does it make sense to invest in the 68-year-old company?
Fiat Chrysler CEO Sergio Marchionne has compared Ferrari’s high-luxury brand to that of fashion house Prada Group or manufacturer Hermes International, as opposed to other carmakers. The comparison is an important one because if Ferrari truly has the pull of those ultra-luxury brands, then it will protect the company from slowdowns in the market.
It turns out that Marchionne may be correct in his comparison.
Ferrari maintains its value. Morningstar analyst Richard Hilgert measured the variation of revenue movements — meaning how much companies gained or lost from their median value — over the past 10 years for high-net worth luxury brands, including Hermes, Louis Vuitton and car manufacturers Bentley and Jaguar Land Rover, the maker of Jaguar. The variation shows how revenues fare with market changes. Ultra-high luxury brands don’t see much shift, since wealthy buyers do not necessarily need to curb spending when the economy drops.
Hilgert’s analysis shows that Ferrari’s revenues have little variability, with just 8 percent movement — a level of consistency comparable to Hermes, a French manufacturer of luxury clothing accessories. Bentley, on the other hand, had more than 31 percent variability, and Jaguar Land Rover had a 16 percent fluctuation. “Ferrari is much more consistent, despite economic cycles,” Hilgert says.
Ferrari partly maintains this level of luxury through its success in Formula One auto racing. Through its efforts on the track, Ferrari develops new engines and technology that eventually gets rolled into vehicles.
“The racing team really drives the brand aura in the sense that F1 racing is a very expensive sport — a sport that has a wide appeal but only a select few can participate in because of the amount of investment that it takes to be involved,” Hilgert says. “Ferrari leverages that by commercializing a product that’s extremely exclusive.”
The Scuderia Ferrari racing team also makes plenty of money in its own right. Forbes values the team at $1.35 billion and puts its revenues at $460 million, with the team in second place in this year’s F1 standings. By buying the stock, investors get access to this unusual stream of income.
Yet, Ferrari maintains its high-luxury name not just through its product design, but also because of exclusivity. It’s up to management to maintain a level of new products and revenue growth at a pace that won’t dilute the brand. “Control of the inventory to keep prices and margins up is very important,” says Kathleen Smith, manager of IPO-focused ETFs at Renaissance Capital in Greenwich, Connecticut.
That’s because the more exclusive the product, the higher the price, which creates higher profits through higher margins. Ferrari currently manages this balance well, creating a 25 percent operating cash flow margin, compared to 8 percent for General Motors Co. (GM) and Ford Motor Co. (F), and 12.5 percent for the auto industry as a whole, according to Smith.
As a public company, this potentially could become difficult if investors see Ferrari’s sales slip.
Current Fiat Chrysler management, which Marchionne will serve as chairman of the stand-alone company, believes Ferrari can increase its production from 7,000 cars per year to 10,000. But with customers willing to wait over a year at times for new vehicles, the exclusivity portion of the puzzle seems still intact.
So what’s the downside? Like the vehicles, it could be the cost of the stock. Ferrari will price shares in the IPO between $48 and $52. It’s hard to completely value a company until it releases more financials. But investors can expect to pay a premium for Ferrari stock, compared to other luxury brands.
While such a premium wouldn’t be surprising, it still may be steep compared to luxury goods manufacturers. Hilgert values the median luxury company with a 9.9 total company value-to-earnings ratio, before taxes, depreciation and interest are considered. Ferrari’s IPO price would put it at 11, in Hilgert’s estimation. That’s fine if you’re ignoring the fact that it still sells cars, which limits its growth potential.
Not only that, but since Fiat is only offering an initial 10 percent of the shares, the price could rise fast. If investors rush in, pushing up the cost, then the stock could look a lot like one of its sold roadsters, depreciating as soon as you roll it off the lot.
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Ferrari’s IPO Could Rev Up Faster Than Its Luxury Cars originally appeared on usnews.com
