Weekly Digest

Marque Down

Alex Harvey, CFA

14 October 2019

Who is your favourite Bond?  Ask ten people and you’re likely to get a couple of names back.  Connery of course polls highly but I’ve always admired Roger Moore’s quintessentially British charm and resolve.  When it comes to his car though there’s no dispute about that: the Aston Martin DB5.  The carmaker is synonymous with British style, class and manufacturing excellence.  In a nutshell – quality.  However, in the case of Aston Martin, beauty is in the eye of the bondholder, and a recent $250m funding cost them a whopping 12% in US dollars to finance.  The tank is almost empty.

The equity listing of Aston Martin Lagonda Global Holdings PLC (ticker AML) came to the market almost exactly a year ago.  Since its founding in 1913 ownership has changed several times and financial hardship is nothing new to the firm.  Since listing the shares are down 77% and their credit rating has been cut to CCC+ by S&P, considered deep into ‘junk’ territory.  The recent cash raise was somewhat pre-emptive to ensure liquidity ahead of the 2020 launch of a new SUV model, but with the 12% coupon split between cash and payment-in-kind (‘PIK’ financing sees the notional amount of debt increase in lieu of paying coupon), the company’s finances are precariously balanced.  With hopes pinned on the new DBX model, the offering needs to be strong to compete against other luxury brands already in this space.  However, get it right and there are rich rewards.

The fortunes of Ferrari (ticker RACE, of course) are enough to make the British carmaker blush.  In the year since AML listed in London, the shares of the ‘Prancing Horse’ have returned nearly 40%.  As my colleague Andrew noted in last week’s blog, Ferrari’s recent launch of the remodelled Spider sold out in a matter of days.  Since the Maranello based firm came to market in January 2016 the shares are up over 300% but like their English sector cousins that wasn’t before falling sharply post their IPO.  Like AML, Ferrari is not without debt, but with an average fixed coupon of 0.79% versus AML’s 7.15% (in EUR and GBP respectively), the latter faces a significant financial drag.  With the DBX expected to come to market in 2020, Aston can steal a march on Ferrari, whose Purosangue SUV is not expected until 2022.  Both though play catch up to the likes of Bentley, Lamborghini and Porsche, whose Bentayga, Urus and Cayenne SUV models are already on the market.

Having an allocation to quality businesses has long been central to our portfolio construction process and is most evident through our equity manager allocations.  As the above demonstrates though, quality is about more than just an iconic brand.  To be considered a high-quality franchise deserving of a premium valuation you must build and retain a defendable competitive position, earn a consistently high return on capital and generate cold hard cash.  These are not traits generally associated with the autos sector but Ferrari’s high margins and near 30% return on capital highlight its appeal.   The same rigour needs to be applied in credit where the quality of the balance sheet in its purest form is embodied in a company’s credit rating, and we task our managers to look under the bonnet and kick the tyres on all the bonds they buy.  Indeed, credit ratings themselves can be a source of price inefficiency that can be exploited by thorough research.  It may be a few years yet before we see Mr Bond in an SUV.  Much will depend on whether Q thinks the new DBX really has the X factor.

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