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BorgWarner Manages Market Shifts

According to BorgWarner Inc. (NYSE: BWA) management, the outlook for the auto industry worsened in the past few months. But you wouldn't know it from the company's second-quarter results released on Thursday. BorgWarner is outperforming its end markets, and to such an extent that management felt compelled to raise full-year sales and earnings guidance.

Let's take a look at a strong quarter for the engine and drivetrain company.

Second-quarter earnings guidance

First, a look at the headline numbers:

  • Excluding the impact of the sale of the Remy light-vehicle aftermarket business, constant-currency sales increased by 7.8% to $2.390 billion, compared with the guidance range for an increase of 3% to 6.5%
  • Non-GAAP diluted EPS of $0.96 compared with the guidance range of $0.87-$0.91.

Sales and earnings, then, were ahead of guidance, and that comes in an auto-industry environment CEO James Verrier described on the earnings call as "modestly weaker than our expectations going into the quarter." He also noted that "Global light vehicle production flattish in Q2, with production down about 1.5% for our adjusted geographic exposure. "

BorgWarner's growth isn't just dependent on diesel. Image source: Getty Images.

In fact, because of the better-than-expected earnings and BorgWarner's industry outperformance, management increased its full-year guidance.

  • Full-year organic sales growth is forecast to be 6.5%-7.5%, compared with previous guidance for 3.5%-6%, implying sales in the range of $9.28 billion to $9.38 billion
  • Full-year net earnings are now forecast to be in the range of $3.65-$3.70, compared with previous guidance of $3.50 to $3.60.

What happened in BorgWarner's quarter

It's useful to break out sales and earnings by segment to see where the growth came from in the quarter.

Segment

Net Sales (in Millions)

Growth in Constant Currency

Adjusted EBIT*

Growth in Constant Currency

Engine

$1,482

4.5%

250

4.9%

Drivetrain

$921

13.9%**

110

17.5%

Data source: BorgWarner, Inc presentations. EBIT is earnings before interest and tax.
*Excluding impact of foreign currencies.
**Excluding impact of the sale of the Remy light-vehicle aftermarket business.

It's a strong performance from BorgWarner, not least because the company is dealing with two potential headwinds in 2017. The first is a more of a cyclical issue, specifically the slowing in automotive markets in North America and China. The second is more of an ongoing structural issue, namely the shift from diesel to gasoline and hybrid/electric vehicles, particularly in Europe. Indeed, the U.K. recently announced plans to ban gasoline and diesel cars by 2040.

Move away from diesel

Regarding the latter, Verrier has previously claimed that BorgWarner would be able to offset any increase in the shift away from diesel. This is a potential issue for BorgWarner, though, as diesel cars tend to include turbochargers, and BorgWarner is a leading player in the market. But Verrier, citing a year-over-year decline in diesel share in Europe in Q2, said the company continues to offset the headwinds. 

Production shifts

Regarding the full-year outlook for automobile production in 2017, Verrier reiterated industry forecasts for light-vehicle production to grow 1% in China and 2% in Europe, but he also said a 2% decline in North America is expected. Given BorgWarner's specific geographic exposure, this mix results in production growth of "less than 1%" --  a similar outlook to that given in the first-quarter results presentation. 

However, Verrier sees BorgWarner as being able to grow sales though increasing market share and content per vehicle. Meanwhile, ever-growing fuel economy and emissions regulations speak to BorgWarner's potential to increase product sales even if production growth is slowing.

Looking ahead

BorgWarner's second-quarter results and guidance increase were well received even as its end markets appear to be slowing. It's a demonstration of the company's ability to continue to generate growth and stay relevant even as cyclical and structural shifts in the automobile occur. Investors will want to see more of the same in the coming quarters.

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Lee Samaha has no position in any stocks mentioned. The Motley Fool recommends BorgWarner. The Motley Fool has a disclosure policy.