Even if you can’t own an Aston Martin car, you can almost definitely afford a share in the company, whose stock has been battered since it came to the market a couple of years ago. Despite its low price, however, I think it’s best to steer clear of this stock for now.

Before we get into the nitty gritty let’s remind ourselves that the company has, for over a century, made beautiful cars.

Source: Wikipedia

The Bull Case for Aston Martin

There are a number of positive opportunities for an Aston Martin turnaround story. Optimists note that the incoming CEO Tobias Moers, who has a reputation as a tough achiever at the AMG unit of Mercedes, will be able to turn things around. The company also has a new CFO with car experience who just began, and its newish executive chairman has luxury sector experience too. Shares have almost doubled from their May lows.

It completed a £536m equity raise earlier this year and reportedly plans to raise around another £260 million though a share placement and loans, albeit at high interest rates. The share raise portion of this round of funding completed at a price per share of 50p.

The company has a plan to cut costs and gain more pricing power, on which it is now executing. It is reducing dealer stock. It has also started production on its first SUV, for which it has maintained its orderbook despite present challenges. There is also some sign of resilience after lockdown, albeit on a limited scale and so far specific to the Chinese market, where all 18 of its dealers have been open since mid-May and the company said “early signs are positive, with good market share maintained and an acceleration of de-stocking on low volumes”.

The Bear Case for Aston Martin: Survival at Stake

The bear case for Aston Martin at this point is simple, which is that the company has first to prove that it can survive before being investable. There are a number of concerns I have around its ability to remain a going concern. First a quick reminder of its 2019 annual results, which showed how poorly the company performed last year, even with relatively positive economic tailwinds.

Source: company 2019 annual report

There is very little reassuring there, which is in part why the company announced a strategic review earlier this year.

Challenge No. 1: Financing

There is no escaping the fact that the company’s financial situation reeks of desperation. For example, issuing debt at 12% coupon and new shares at 50p when they had listed at thirty eight times that price just eighteen months before. These may be prudent if painful steps taken to help secure a viable future for the company, but the implicit message is that the company is desperate to raise cash. It is willing to dilute existing shareholders so to do, and has clearly set a pattern that it could do so again further down the line.

The new chairman came with a large injection of cash, too, buying £182million of shares, at which point the then chairman said, “Without this, the balance sheet is not robust enough to support the operations of the group.” But even now, with multiple significant cash injections since flotation for a company of its size, the company’s balance sheet still looks unhealthy. At 31 May 2020, cash was £244m and net debt £883m. That is slightly higher than the 2019 net debt of £876m, already a high adjusted leverage of 7.3 x. Since that date there has been the June capital raising and borrowing, but 2020 sales are unlikely to match 2019 given the market conditions, so even on the most optimistic outlook, Aston Martin looks like a company on life support, rather than one yet being restored to health.

It’s worth noting, more positively, that some of the past financing has come from rich petrolheads, for example the chairman who bought a large swathe of shares has a background in Formula One racing. So the company may be able to continue to raise or borrow new funds even if the underlying financials looks horrible. However, from the perspective of a minority investor on the open markets, this does not seem like a positive sign for long-term share value.

Challenge No. 2: Range Vulnerability

The company has spent a lot of money on its upcoming SUV, named the DBX. It stated in its recent trading statement that “For the full year total wholesales are currently expected to be broadly evenly balanced between sports cars and DBX.”

Now, as this is a new to market car and dealers need to stock up initially, versus the existing model, it makes sense that it should see a large amount of loading into the trade. What concerns me is that half of this year’s wholesale result is expected to come from a car which has not yet launched.

Doubtless the car has done its homework to test demand and pricing sensitivities for its new SUV and optimised its manufacture. However, I still find it a vulnerability that the company is relying so heavily for its short-term performance on a brand new car. Even a small problem with manufacture, shipping, or performance issues could upend that significantly and those problems are not unusual with new-to-world cars. This is the how the DBX will look.

Source: Autocar

Even if the wholesale sales come through as hoped – which is an if – there will be questions in the near future about pull through sales. If the consumer reaction to the car is weak, either because of the car itself or because of external factors such as a weakening economy, the company’s financial models could prove unreliable.

Challenge No. 3: Lack of Strategic Consistency

The old way of running the company clearly didn’t work, hence its parlous situation. However, there is significant scope for mishap with the new order. A new leadership, with a German CEO renowned for toughness combined with large-scale redundancies at the iconic British firm, at the same time as a crucial launch in an entirely new category of vehicles, all the while against the backdrop of a pandemic and economic slowdown, equates to a lot of moving parts.

The moves may have been necessary to avoid bankruptcy, so that is not a criticism of them. It is simply to say that as an investor, the execution risks one would be exposed to here are very large. Continuing to do more of the same wasn’t a viable option. But as with any iconic luxury brand, change too much and the image of the brand could be negatively impacted in a way which exacerbates current challenges.

Conclusion: Too Many Risks to Justify Investment

Aston Martin is on life support at this stage and it’s not a good time to be in that situation. The heavy reliance on the upcoming SUV launch increases its exposure.

It recognises its problems and is proactively tackling them, including with its new management appointments. But there is a lot which can go wrong here, not necessarily in management control, and the company has already shown it is willing to dilute shareholders. Long-term it’s easy to see how Aston Martin could go to zero, with shareholders getting wiped out. There is a more positive story with significant possible upside, but little in the current analysis makes me comfortable. Even taking a loss, I see it as a clear sell.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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