market folly

We're posting up notes from the Sohn London conference 2017.  Next up is Adrian Croxson of Oz Management who pitched a long of Pirelli (BIT:PIRC).


Adrian Croxson's Sohn London Presentation

Pirelli was IPOed two months ago. It used to be a sprawling conglomerate involved in real estate, cable and football clubs but today it’s a pure play premium tire company. Croxson particularly likes Pirelli because the end demand is predictable. Why is the tire market predictable?

-    There are 1.2bn cars in the world which need 1bn replacement tires every year. Car owners must buy new tyres or face a fine from the police or a potential accident.

-    The total number of cars is growing with about 500m new tyre required each year.

-    The global tyre market consistently grows at about 3% per year.

-    If there is an acceleration of new car sales, there will be an acceleration of replacement tyre sales in 3 to 4 years.

-    The tyre companies make most of their money from replacement tyres not from suppling tyres for new cars. They sell the original tyres at a reduced rate to car manufacturers in the hope of getting the replacement tyre sales later.

-    Demand growth has been steady for the last 16 years with barely a drop in the credit crunch.

-    EVs and autonomous cars will still require tires.

The premium tyre market is a small subsection of the tyre market. Premium is defined as high performance tyres of over 18 Inches. It’s a 200m unit market in a total tire market of 1.2bn a year, about 15% of the overall market.

There are only six scale players who compete in the premium market: Pirelli, Nokian, Michelin, Continental, Goodyear and Bridgestone. Their positions are protected by large R&D budgets which help them to stay ahead on grip, safety and efficiency.

The global premium market is growing at around 9% per annum. Customers want larger cars, particularly more luxurious SUVs. This trend will continue. VW is trying to go from 15% SUVs to 40% in the next 5 years. As the rich become richer they want more expensive vehicles. In China in 2006 50,000 luxury cars were sold and today that has reached 2.5m. The Chinese market is now the largest car market in the world. The penetration of luxury tyres is still only about half of what it is in the west.

Pirelli can grow their business at 13% per year. In addition, Pirelli has been able to hold prices above its peer group for the last 5 years.

Pirelli does have a leveraged balance sheet at around 3.5x net debt to EBITDA. The stability of the cash flows should see it de-lever to around 2x by 2020.

Benchmarked against the peer group, the stock could trade up by 60%. As the only pure play premium tyre manufacturer, Pirelli is a higher-quality asset and should command a higher multiple than the peer group.


Be sure to check out the rest of the presentations from Sohn London 2017.