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Lookback: RF Capital’s 2019 Garrett Motion Inc (GTX) Thesis

·5 min read

If you are looking for the best ideas for your portfolio you may want to consider some of RF Capital’s top stock picks. RF Capital, an investment management firm, is bullish on Garrett Motion Inc. (NYSE:GTX) stock. In its Q3 2019 investor letter – you can download a copy here – the firm discussed its investment thesis on Garrett Motion Inc. (NYSE:GTX) stock. Garrett Motion Inc. (NYSE:GTX) operates as an automobile technology provider.

In October 2019, RF Capital had released its Q3 2019 investor letter. The investment firm said that it bought Garrett Motion Inc. (NYSE:GTX) stock in Q3 2019. The stock has posted a return of -58.3% in the trailing one year period, underperforming the S&P 500 Index which returned 15.1% in the same period. This suggests that the investment firm was wrong in its decision.

RF Capital fund posted a return of -6.98% in the third quarter of 2019, underperforming the S&P 500 Index which returned 1.87% in the same quarter. Let’s take a look at comments made by RF Capital about Garrett Motion Inc. (NYSE:GTX) in the Q3 2019 investor letter.

"Garrett Motion is an automotive supplier that makes turbochargers, electric boosting technology, and automotive software. Long-term customer relationships include Ford, Volkswagen, Daimler, BMW, Hyundai, Renault, and Caterpillar. Currently, the turbocharger market is growing faster than vehicle production due to tougher CO2 regulations. IHS and industry sources project 6% CAGR over the 2018-2022 period versus 1%-2% CAGR for vehicle production. The only other major global player that competes with GTX is BorgWarner. Other competitors are either medium-sized global players or local firms.

GTX is a great business that generates returns on capital north of 100%. The business has low working capital needs with >20x turns and a highly variable cost structure of 80%. Furthermore, CapEx is only 3%-3.5% of net sales. There is also revenue visibility out to 2023. The most recent September 2019 outlook reveals awarded contracts of 100% for 2019E, 93% for 2021E, and 71% for 2023E. Long-term financial targets for 2018-2022 include 4%-6% CAGR for revenue, CapEx of 3%-3.5% of net sales, adjusted EBITDA margin of 18-20%, and net leverage of 2x consolidated EBITDA around EOY 2020.

Shares of GTX are currently cheap because it is a small-cap spinoff in the auto supplier industry. GTX was spun out of Honeywell in 2018. Spinoff dynamics led to a lot of selling, especially since GTX is too small for many institutions to own. GTX currently has a market cap of $710 million whereas Honeywell, a multinational conglomerate, has a market cap of $120.7 billion.

Auto supplier stocks have also been depressed due to the US-China trade war. Furthermore, there are fears of a possible recession. However, GTX is not your typical auto supplier. GTX essentially operates as a duopoly in the turbocharger market with BorgWarner. GTX is also at the top of the auto supplier chain with a 80% variable cost structure. In the event of a downturn, we believe GTX will perform better than other suppliers. The contracts that have already been awarded provide downside protection as well.

Investors are probably concerned about GTX’s debt load and asbestos liabilities as well. However, GTX should be able to de-lever considerably given its FCF stream. Additionally, there are no debt maturities until 2023 and 2025. The asbestos liability payments are also capped at $175 million every year. In fact, future payments are likely to be lower based on the recent trend of cases.

We made GTX a 5% position at an average cost of $9.97 per share. We believe shares are worth at least $20 per share based on recent transactions in the auto supplier industry and GTX’s low EV/EBITDA and P/E multiples. The only concern at the moment is the departure of Alessandro Gili, the company’s CFO. Gili’s departure is a potential red flag in regards to management’s ability to execute and deliver on its financial targets. We originally liked how Gili previously worked at Ferrari and Fiat under the late Sergio Marchionne. His experience will certainly be missed. However, we will continue to monitor the management team and possibly increase our position size. We initially wanted to make GTX a 10% position, but the departure of the CFO put a hold on additional purchases."


In Q1 2020, the number of bullish hedge fund positions on Garrett Motion Inc. (NYSE:GTX) stock decreased by about 45% from the previous quarter (see the chart here), so a number of other hedge fund managers don't believe in GTX's growth potential. Our calculations showed that Garrett Motion Inc. (NYSE:GTX) isn't ranked among the 30 most popular stocks among hedge funds.

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Video: Top 5 Stocks Among Hedge Funds

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Disclosure: None. This article is originally published at Insider Monkey.