We argued back in February that we were not overly concerned by the large loss that Daimler reported for the full year 2009 (see blog). We were impressed with Daimler’s cash flow generation, which saw its net liquidity rise to a healthy €7.3bn at the year end. And it was clear that Daimler’s core operating activities had witnessed something of a turnaround in the second half of the year, a trend which we expected to continue into 2010. However, Daimler’s headline Q110 results released this week exceeded all our expectations and indeed those of the market. Group EBIT (earnings before interest and tax) for the first three months of the year came in at €1.2bn, a significant improvement from the €1.4bn loss reported in Q109, and more than double the figure reported in the prior quarter. It also means that Daimler has achieved more than half of its full year EBIT target of €2.3bn in the first quarter alone.

While all of Daimler’s key segments reported positive EBIT in Q110, it is the turnaround at Daimler’s Mercedes Benz Cars (MBC) division which has been the most impressive. The division accounted for around two-thirds of group EBIT for Q110, while its EBIT margin rose to 6.9%, from 5.3% in Q409 and 3.5% in Q309. Worldwide group sales of the Mercedes-Benz brand rose by nearly 27% YoY in Q110. Daimler attributed this to the increasing success of the new E-Class and S-Class, which improved the model mix with a higher percentage of larger cars. It also noted better pricing conditions as well as a favourable overall cost position. Signalling that the positive trend is here to stay, Daimler significantly increased its full year earnings target for MBC. It now expects FY10 EBIT of €2.5-3.0bn for the division, up from a previous forecast of €1.5bn provided just two months ago. Together with Daimler’s announcement of an upgrade of FY10 EBIT forecasts for Daimler Trucks (to €500-700mn, from a previous forecast of €200mn), this leads us to believe that Daimler will almost certainly upgrade its full year group EBIT guidance when the company reports detailed Q110 results on 27th April, 2010.

Daimler Q110 revenue and EBIT by division

Source: Company data. Preliminary data, EBIT includes special reporting items. MBV = Mercedes Benz Vans.

The performance of Daimler’s MBC unit also underscores the recovery in premium vehicle demand in recent months. This segment was severely impacted in 2009 as consumers reined in their spending on luxury items and used scrappage incentives to purchase smaller models, where the discount represented a bigger percentage of the purchase price. But the recovery of this sector now seems assured. A more stable economic footing is seeing corporate fleet sales rebound to the benefit of luxury manufacturers, while demand for high-end brands is surging in several emerging markets, notably China. And, having not been a particularly large beneficiary, this segment should not suffer significant pull-back effects as government incentive schemes are withdrawn. Sales numbers from other luxury automakers support this view. BMW reported that sales of its BMW brand vehicles had climbed by nearly 14% YoY in the first three months of the year, while Volkswagen’s Audi unit recorded its strongest first quarter ever, selling 264,100 vehicles, up 26% YoY, in Q110.

We therefore continue to believe that the luxury automanufacturers will significantly outperform the mass market manufacturers in 2010, as the recent eruption in premium end sales appears unlikely to be a one-off event. And of the premium end manufacturers, Daimler remains one of our top picks. As well as positive fundamental developments, Daimler’s (A3/BBB+) spreads are also offering value compared to those of it rivals, particularly BMW (A3/A-). We also welcome Daimler’s recent tie-up with the Renault Nissan alliance on smaller cars and light commercial vehicles, which could yield it significant cost synergies over the medium to long term.

5 year CDS data for the major European autos

Source: Bloomberg.

Nicola Sanders - Credit Analyst

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