Meritor Remains Neutral


We have reiterated our Neutral recommendation on Meritor Inc. (MTOR) for the long-term as the company continues to benefit from strong global truck demand but we are concerned about significant customer concentration risks faced by the company.

Meritor is planning to extend its footprint into low-cost countries (especially China and India). The company is also focusing on OEMs based elsewhere in Asia and South America. It aims to achieve around $1 billion in revenues from Asian countries in the next 5 years.

In addition, the company aims to boost revenue earnings by focusing on commercial excellence including research, development, engineering and product design capabilities. Over the years it has increased its investments for these activities, from $52 million in fiscal 2009, $66 million in fiscal 2010 to $73 million in fiscal 2011.

The company plans to invest $23 million at a technical center at Troy, Michigan during 2010 to 2015 in order to improve the research and development capabilities. This will eventually lead to the development of fuel efficient technology, braking systems, suspensions and vehicle dynamics.

Meritor also attempts to reduce its debt obligation, which will ultimately increase the operational flexibility of the company. Total debt of the company was reduced to $975 million as of March 31, 2012 from $1.0 billion as of September 30, 2011.

However, Meritor is under threat due to customer concentration. About 70% of revenues are generated from the top ten customers; AB Volvo (VOLVY), contributing about 24% of revenues, Navistar International Corporation (NAV), accounting for 11% of revenues and Daimler AG (DDAIF), representing about 11% of revenues.

Moreover, Meritor’s business has experienced unfavorable conditions due to economic fluctuations, especially in Europe. Industry volumes declined in certain markets compared to the standard level. In the most recent quarter, the company recorded a decline in sales volume in the Commercial Truck and Aftermarket & Trailer segments in South America and Europe as well as in the Industrial segment in Asia Pacific.

Meritor recorded a profit of $32 million or 33 cents per share in the second quarter of 2012. The profit was more than double than that of $13 million or 13 cents per share posted in the corresponding quarter last year.

The significant boost in profits was attributable to successful completion of business activities during the quarter. With this, it surpassed the Zacks Consensus Estimate by 8 cents per share. Meanwhile, revenues decreased marginally by 1% to $1.2 billion

Headquartered in Troy, Michigan, Meritor is a global automotive parts manufacturer and supplier to various customers in North America, Europe and other parts of the world. The company operates manufacturing facilities in 37 locations across North America, South America, Europe and Asia-Pacific.

Our long-term recommendation is backed by a Zacks #3 Rank on the stock, which translates into a short-term (1 to 3 months) Hold rating.

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