Goodyear Case Study

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Goodyear Tire & Rubber Company
I recommend buying Goodyear (GT), a global tire manufacturer, which currently trades at $31.50 per share. I believe the stock is undervalued by 40%-50%, with a price target of $47 per share. The company has a 4 to 5 year runway for substantial return potential due to: (1) robust auto sales which translate into replacement tires within 4 to 5 years; (2) reduced risk within the company; (3) strengthening business operations and (4) increasing dividends and share repurchase programs.
Company Overview Goodyear is the third largest global manufacturer of tires, with a market share of 9.2%. The industry is highly concentrated among Bridgestone, Michelin, and Goodyear, with a combined market share of
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I have valued Goodyear using DCF analysis and used the following “base case” assumptions:
• Revenue will grow at a rate of 2.5% for the next 4 years. I am using a 4-year time horizon as it aligns with the company’s strategic plans it put in place with a target date of 2020. In its investor presentation, Goodyear forecasts an annual growth rate of 4% per year. However, based on Michelins projections the industry is only projected to grow at 2.5% annually and is the number I use to be on the conservative side.
• Operating margin will reach 13.5% by 2020. This is well below the company’s target of 17%, but is more in line with Bridgestone (13.7%) and Michelin’s (13.1%) margins. Goodyear’s margin as of LTM was 10%. I am assuming the company’s operating margin will increase at a rate of 87.5bps per year.
• An effective tax rate of 25% base on KPMG’s corporate tax rate table and the company’s geographic distribution.
• I use a discount rate of 9% based on the company’s riskier credit profile and higher cost of debt.
• A terminal growth rate of 2%.
Below is a brief summary of projected
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I view this scenario highly unlikely, but to protect against a downside scenario, I would recommend purchasing a put option.
Based on my research I view my base case price target of $47 on the conservative end. As shown on the left, the stock has significantly more upside if management executes on their goals for 2020. I view the downside scenarios extremely unlike given the position of the industry and Goodyear’s business transition into higher value products. In a moderate downturn, the stock looks to be close to fairly valued and extreme downside can be protected with a put option.
Investment Risks
Potential risk to the recommendation includes rapid increases in the price of raw materials, which Goodyear will not be able to pass on to customers immediately. Goodyear must smooth out the increase in input cost over multiple quarters, which could lead to margin pressure in any quarter raw materials spike. However, through the cycle Goodyear’s margins should revert to normalized

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