It’s been a long time since I’ve covered American axle and manufacture (NYSE:AXIS). In fact, it was back in 2016 when the company acquired Metaldyne, adding some leverage at a good time in the cycle. The company announced a huge deal, effectively a merger, with big promises at the time, but the results of the deal failed to fully materialize amid centuries-old headwinds. This includes a tough auto market and centuries-old headwinds from the electrification of cars and trucks.

Amid these headwinds, American Axle hasn’t been able to create value for its investors, but as the share of electrification rises and the headwinds might dissipate a bit, it’s a weak valuation (equity) which might be compelling, but real execution would be needed for that to happen.

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When American Axle announced the acquisition of MPG in a $3.3 billion deal in 2016, it was a huge deal. After all, American Axle itself generated $3.9 billion in sales in 2015, of which it posted an EBITDA of $571 million, with the company earning a business valuation of $2.3 billion. , although a substantial part of this valuation includes net debt.

MPG’s $3.3 billion purchase was huge, giving the company strong engineering expertise in powertrain components, as the combination is intended to provide integrated manufacturing capabilities across the powertrain, transmission and driveline. Another plus was that American Axle’s reliance on General Motors (GM) was to drop from 66% to a still high 41%.

MPG was expected to add $3.05 billion in revenue and $528 million in EBITDA, both metrics just slightly lower than American Axle, as an additional $100 million in cost synergies were expected. The pro forma business was expected to generate $7 billion in sales, just over $1 billion in EBITDA, and trade leverage ratios of around 3 to 4 times.

Shares of American Axle fell significantly on news of the deal, down $3 to $14 per share on the back of the premium paid for the company, as investors no doubt feared the additional leverage despite the potential for future profits. nearly $3 per share. This resulted in very undemanding multiples, as was generally applied to automotive suppliers.

With so much debt appearing on the balance sheet, I thought stocks were more of a call option than a serious investment, leaving both huge downside and upside risks.

Caution saved the day

Fast forward more than 5 years in time, American Axle shares have shown serious underperformance and have now fallen to $7 per share, marking a whopping 50% value destruction in five years, a huge disappointment . So what happened?

Years of underperformance have drastically reduced the company’s revenue base, with sales falling back to $5.2 billion in 2021, but despite recovering slightly from 2020 (for obvious reasons), sales decreased significantly compared to 2016. This is due to a difficult automotive market, but most of the problems are self-inflicted, with exposure to electrification being underrepresented as many of its core products are under pressure amid this rapid transformation of the industry as a whole, as well as chip shortages.

The company continues to be solidly profitable, at least if we focus on EBITDA. Adjusted EBITDA was $833 million, with margins above 16%. In fact, the company thought the loss of sales and associated EBITDA hurt the bottom line by $188 million or else EBITDA would have to cross the billion mark in 2021. The EBITDA mark is quite misleading here because the D&A component is quite heavy with the company showing adjusted earnings of $0.93 per share and GAAP earnings of just $0.05 per share.

After all, adjusted earnings numbers of nearly a dollar are only a fraction of the combined earnings power of about $3 per share in 2016, because the fees to arrive at GAAP earnings are numerous, fairly recurring, and involve often also cash outflows. Net debt has been reduced to $2.5 billion, but with EBITDA falling below the billion mark, debt ratios themselves remain quite high. With just 114 million shares outstanding, the $7 per share price reduces to just $800 million for the company’s equity.

The outlook for 2022 is relatively modest. Sales this year are between $5.6 billion and $5.9 billion, including up to $200 million in metal market pass-through prices. Adjusted EBITDA is estimated at $800-875 million, which is in line with 2021 performance, despite management’s comment that 2021 results were impacted nearly two hundred million by chip shortages, which should no doubt continue (in some way) for most of the year.

Add electrification

In April, American Axle announced the 125 million euro purchase of German group Tekfor in a deal adding automotive fasteners and metal components for transmission, powertrain and e-mobility applications. The acquired businesses are expected to add 285 million euros in revenue, suggesting that a mere 0.4x sales multiple was paid, in fact a lower sales multiple than American Axle itself trades, despite the current depressed evaluation.

Added electrification is part of a trend that is rapidly turning into concrete results. Currently about a third of the backlog comes from electrification, with two-thirds of current quotes focusing on electrification, indicating a real and rapid transition to this area, although not all companies can probably not be converted, but nevertheless, it is a comforting sign.

On the other hand, the degree of disappointment is enormous, after all profits are down two-thirds from the projected run rate about 5 years ago, because this reduced earning capacity and leverage still substantial are a real cause for concern, certainly amid (coming) tough economic conditions, including higher inflation and likely reduced consumer spending.

Therefore I have learned that long term investing is all about strong companies and the truth is American Axle is not a strong company despite having a reasonable outlook for 2022 and what looks like a nice German deal . Therefore, I’m happy to follow the story this year, as cash flow looks strong, but building structural valuation here looks (still) hard to come by.