While the automotive sector is somewhat unloved by investors, these four companies--two local and two global--show there are opportunities out there.

There are moats in the auto sector, particularly among suppliers, and it's worth remembering that the absence of a moat doesn't rule it out as an actionable idea, according to Morningstar's recently released Global Auto Industry Overview.

The report is authored by Morningstar's Chicago-based Richard Hilgert and David Whiston, CFA, senior equity analyst and equity strategist, respectively, covering the automotive sector. They believe the "changing industry landscape of technological innovation and electrified powertrains" highlight the "intellectual property intangible asset moat source" of several automotive suppliers.

Hilgert and Whiston see a modest global increase of between 1 per cent and 3 per cent for light vehicle demand in 2018.

In the US, they expect a 2018 decline from 2017, by about 3 per cent.

In Europe, they anticipate a continuing recovery, tipping demand increases of between 2 per cent and 4 per cent, with similar "healthy recovery" in Brazil and Russia.

The report suggests "solid demand growth in India to continue, with a robust 9 per cent to 11 per cent increase in 2018.

"China demand growth slows in 2018 to between 1 per cent and 3 per cent as a consumption tax hike on small engine passenger vehicles takes effect."

They note that while economic moats are more prevalent among auto part suppliers than automakers, "given current market conditions, we feel that automakers' stock valuations are more compelling than those of suppliers".

Global investment opportunities

For investors looking for global opportunities, they like narrow-moat BMW and no-moat General Motors and Volkswagen--each trading at substantial discounts to their fair value estimates (FVE).

"A wide-moat stock can be expensive, and no-moat stocks can be cheap. The latter is precisely what we currently observe with General Motors and Volkswagen," say Hilgert and Whiston.

They discuss the characteristics of automotive manufacturers which are predominantly "no moat companies that participate in a highly competitive industry.

"They are capital intensive, causing substantial swings in economic profitability on relatively moderate changes in demand and experiencing cyclicality that can destroy economic value for years at a time."

However, they also note some auto manufacturers demonstrate evidence of sustainable competitive advantages: "brand strength and intellectual property support the intangible asset moat source behind the wide and narrow moat ratings of Ferrari and BMW".

ASX-listed opportunities

Morningstar generally regards auto parts suppliers as being more moat-worthy, with their economic moats primarily derived from an intangible asset source and a switching cost source.

Closer to home, Bapcor (ASX: BAP) is a supplier of automotive after-market parts and accessories, including specialist wholesale, trade, retail, and services in both Australia and New Zealand.

With anticipated EPS growth of more than 26 per cent for 2019, Morningstar equity analyst Daniel Ragonese is "optimistic about the outlook for the automotive parts industry, particularly the trade segment".

This generates around 50 per cent of group earnings, and is fundamental to the company's narrow moat rating.

"Bapcor's extensive range of inventory, the convenient locations of its stores, the technical expertise of staff, and its track record of meeting the needs of workshops have all contributed to its intangible brand assets," Ragonese says.

Morningstar's fair value estimate (FVE) was recently increased to $7 a share, from $5, "reflecting an 18 per cent increase in our earnings per share forecasts during the next 10 years, which we now expect to grow at around 13 per cent annually," Ragonese says.

With a FVE of $7, Bapcor was trading at $5.85 at time of publication.

While it doesn't hold a moat, auto parts supplier GUD Holdings (ASX:GUD)--which designs and sources products under the Davey Water Products, Ryco, Wesfil, Goss, Narva, and Projecta brands--is regarded as only modestly overvalued.

Morningstar's Ragonese believes divestments made in recent years are positive for the group, "liberating time and funds which can be allocated towards the automotive business, which we like despite the lack of an economic moat".

GUD's automotive division appeals "because of its extensive range of products, dominant position in the automotive filtration market, and strong customer relationships," he says.
"Further, we believe the aftermarket automotive industry is relatively predictable and counter cyclical as during economic downturns, consumers are more likely to continue maintaining older vehicles rather than replacing."

He expects the business to continue driving mid- to high-single-digit earnings per share growth, " underpinned by new product releases, market share gains, and pricing increases".

With an FVE of $10.50, the company was trading at $12.44 a share at time of publication.

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Glenn Freeman is Morningstar's senior editor.

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