Friday, 13 July 2012

Company Focus – OtoKar (Turkey) – Positioned for both 'Gloom and Boom' of the Middle East

Background -

The various regime changes throughout the middle East – starting with Tunisia, most notable in Libya and Egypt and slowly underway in Syria – has seen Turkey seek to position itself as the centralist power-broker. Its geo-strategic position between Arab and European worlds has historically been advantageous as a historical cultural buffer between what were once very different mindsets.

Yet whilst in the past seen as an dualistic ally of both the USA and Russia – acting in buffer mode yet again - its own economic boom of recent years has resulted in an innate political confidence and maturing by the decade-long governing AKP. (Initials translate as the Justice & Development Party, with Erdogan and Gul as respective Prime Minister and President).

As western economies still suffer from fragility, set to see a slow-growth near-term future, and the once rapid growth rate of the BRIC countries slows given global trade contraction, it is the “CIVETS” & “Next 11” high-growth economies – in which Turkey knowingly sits – which gain investor and so political attention because of their influence over what are typically smaller but high potential regional neighbours.

[NB the “Next 11” consisting of: Turkey, Egypt, Iran, Pakistan, Bangladesh, Indonesia, Philippines, S.Korea, Vietnam, Nigeria and Mexico. Whilst the CIVETS consists of Columbia, Indonesia, Vietnam, Egypt, Turkey and South Africa. Notably, amongst those, it is now only Mexico with a strong cultural link to Europe & the USA. The power-shift toward the Muslim world well recognised by Turkey].

That power-shift perhaps most notably seen by the heavily deteriorated relations with Palestine relative to the Israel, and the “Aid Boat” vs “Arms-Supply-Boat” incident. More recently however has been the Erdogan government's strong reaction to the loss of a Turkish jet-fighter, shot-down by Syria's Assad regime, calling for an extra-ordinary UN meeting, reflecting its desire to be globally trusted as a regional 'Otto-Arab' “co-parent”.

The prevailing cross-MENA circumstances over the last 18 months known as the 'Arab Spring' has witnessed newly installed governments and expectancy of a greater national & intra-regional voice by the Arabic peoples. It also replays 20th century events through the periodic cycle of civil war, severe civilian casualties, heavy infrastructure damage and administrative regime change.

Such political, social and economic disruption consequentially followed by the need for nation re-building. This achieved by way of infrastructure & services rebuild, a process ostensibly paid for from natural resource wealth (typically oil, gas, agriculture), the welcoming of such sector-specific FDI, economy broadening FDI (in defence, transportation, second-tier manufacturing & increasingly culture-orientated tourism) and the creation of a much improved – notionally far fairer - private enterprise climate.

The Middle East then has proven to be the historical examplar of “Gloom & Boom”.

Geo-Strategic Businesses -

Over the preceding 100 years, regional friction and emergent political factions have been the norm, in reaction to: early era Franco-British colonialism, the creation of Israel in 1948 and the Arab-Israeli war days after, the Sinai war / Suez Crisis of 1956, the six day war of 1967, the OPEC oil embargo of 1973, the Iraqi-Kurdish conflicts since the 1970s, the Turkish-Kurdish conflicts since the 1980s, and very obviously Palestinian Independence and simultaneous Israeli 'settlements' incursion. 1991 saw the first Gulf war, whilst American invasion of Iraq and internal conflict ran throughout much of the last decade.

And of course since, the 'Arab Spring' has effectively destabalised many countries throughout the region, with the hopes of long-term betterment. Yet as seen with the cases of Syria and Egypt, nation re-building is often a tumultuous process spanning a long journey between outright civil war to the vying and bargaining of opposing interests in a problematic election process.

The Commercial Imperative Throughout -

Within this long backdrop of inter-regional social and economic instability, companies from all affected countries have sought to create business models which both serve national and sovereign interests, assist the needs of regional allies and trade partners, and of course relate to the economic dynamics of the area; which across MENA, because of geo-political, geo-economic dynamics, have been characterised by dramatic shifts of fortune from positive to negative; these also heavily influenced by by periodic trade embargoes, previously often via the UN at the behest of Anglo-Euro-American influence.

However, equally, during periods of calm and growth within any one the MENA countries, there has been mutually rewarding trade agreements and commercial contracts ratified to boost a nation's internal capabilities, economic standing and improvement of living standards; perhaps best evidenced by those agreements with major western vehicle manufacturers, whether of HGV truck, bus, van, pick-up and of course standard car.

Thus, whether as part of a government-led detailed industrial agenda, or from the self-seeking activities of politically influential entrepreneurs, most all of the MENA region's countries have a level of automotive capability geared toward national defence and public and private transit;. whether ranging from the adaption of grey-imported trucks – as seen with the recent people's armies – to the historical creation of an enterprise devoted to the requirement.

Turkey's Illustration -

The Turkish manufacturer Otokar is a prime illustration of the latter.

Since the demise of the once aggressive Ottoman Empire, and creation of modern Turkey (under Ataturk in 1922) the country has remained seemingly strong but introverted; strong from the size of its armed forces, but introverted in that it has only fought to protect its sovereign interests, not to enlarge them.

From this position, and with the responsibility for domestic development first and foremost, it has been historically an “arms'-length removed” docile but influential regional player; today perhaps more so then ever, instead building-up industrial / commercial capability over overt military capability, to promote both internal growth and importantly gain 'soft-power' across MENA, the CIS and bordering CEE – espoused by the modern Turkish national anthem with olde 'Germania' tone.

However, the overlap of the 'military industrial complex' and 'civvy-street' operators within Turkey is easily seen, much as may be the case with GKN plc or Rolls-Royce plc in Britain or GE and GM in the USA.

Otokar A.S. -

Otokar is a prime, high-visibility example of how the established Turkish mindset, in certain strong cases, merges military and civilian development and production capabilities, whilst seeking regional commercial and military contracts. Indeed its very name appears to derive from two sources: the idea of Otto-Car (ie Turkish Vehicle) and association with a dynasty of Bohemian Kings named Ottokar, so emphasising Turkey's historical connection with SE Europe].

Located in Adapazari, Sakarya province, within the Marmara region, the firm sits east of Istanbul yet close to the automotive heartland of Bursa province and next to what is effectively the Euro-Asian inter-continental 'land bridge'.

It is a publicly listed sub-holding of the largely family controlled Koç Holding A.Ş. (a conglomerate of 113 companies) with a 44.7% share-hold of Otokar, 24.8% held by Unver Holding A.Ş) and the remaining 30.5% the free-float.

[NB Other Istanbul Exchange listed auto companies with Koc interests include: the Ford JV 'Otosan', with an 18% free-float, and FIAT JV 'Tofaş' (Türk Otomobil Fabrikası A.Ş) with a 24% free-float. Others are the production JV 'Anadolu-Isuzu', vehicle importer Dogus Otomotive, battery producer Mutlu Aku,
Privately held Turkish owned auto-firms include BMC (Çukurova Group), Karsan (Kıraça Group), Oyak-Renault (Military Pension Fund with 49%), Temsa (Sabanci Group), Ermetal Otomotive (Ermetal Şirketler Group) amongst others].

As such with 30.5% Otokar has the largest free-float and is thus more accessible to the general national and international investment community.

It must be maintained that as part of broader conglomerate constructs under Koc and Unver, the company may not have complete automony, internal resources utilised elsewhere as necessary. However, importantly, from the structural ownership and larger free-float perspectives, it appears to have greater freedom for self-governance than would be the case with Ford-Otosan and FIAT-Tofas.

However, the reason for researching the Otokar company is that it seem inevitable that in time the 2 major Turkish conglomerates – Koç & Sabanci (and smaller Holding A.Ş counterparts) – will seek to continue to divest further holdings to both enrich the Turkish economy, and gain capital for any regional or global expansion ambitions; see Turkey's political ambitions - prefaced by the expansion plans of Turkish Airlines. Thus Otokar may gain a greater free-float on the open Istanbul market, and possibly other bourses, in years to come depending upon its growth fortunes.

History -

The company was established to perform the role of manufacturing public buses using a license agreement with Germany's Magirus Deutz in 1963 to do so. The 1970s saw the introduction of a Minibus and Koç Group take control. A medium sized City-Bus was added to the product portfolio in the 1980s. That economic growth period for Turkey also saw Otokar diversify with the origination of a armoured van for cash and high-value goods delivery; acquiring new tentative but growing knowledge in the lucrative armoured vehicle sector. A licensing agreement with the UK's Land Rover was struck in 1987 in order to supply the Turkish Army, adding a 3rd income stream, with obvious synergies with its own vehicle 'up-armouring' capabilities. Utilising absorbed understanding of Land Rover's 4x4 drive-line system, Otokar created its own first dedicated 'light-armoured' military model variants (Akrep & Cobra) in the early 1990s. 1997 saw the firm relocate to Sakarya. 2002 proved an active year with further diversification into Trailers and Semi-Trailers in 2002 via the acquisition of Istanbul Fruehauf (a fellow Koc Group company), and launch of a self-developed Small Bus (Navigo). Expansion of the military vehicle offering came in 2003 with cooperation with STK (Singapore Technologies Kinetics) for a 8x8 tactical armoured vehicle. 2005 saw its military/civillian defence range expand with the 'Armoured Internal Security Vehicle'. A new 9m Bus (Vectio) arrived in 2007. In 2008 Otokar was awarded prime contractor status for the new 'all Turkish' Altay Battle Tank, showcasing a life-size model. 2009 introduced the mine protected Kaya armoured vehicle, and saw the new 12m Bus (Kent) and a new series Mini-Bus (Centro). 2010 launched the 6x6 (Arma) military vehicle, by seemingly utilising engineering knowledge gained from the STK contract., whilst 2011 saw an 8x8 variant of Arma, effectively replacing the STK product. Otoakar opened a new Tank Testing Centre in 2012, no doubt to develop series additions, replacement and sibling vehicles for the Altay Tank, and very probably to provide a 'proving-ground' for off-road capabilities improvement of its AWD vehicles; recognising that to date western firms have typically maintained a mobility capability edge over MENA, Latin American and Asian manufacturers thanks to larger budgets and historical precedence. This year Otokar also showed its first electric-powerd Bus (Doruk) (based on Vectio).

Product Line -

To summerise, Otokar has sought to self-educate for obvious commercial and homeland benefit, doing so through design and manufacturers of its own vehicles across 3 distinct sectors, and produce under license to offer a 4th distinct segment:

1. Coach & Bus (City, Inter-Urban, Tourism)
2. Semi / Articulated Trailers (Curtain, Van, Skeletal, Tanker, Tipper, Car Transporter)
3. Military / Peace-Keeping Vehicles (Various Tasks)
4. Land Rover Defender models (licensed) (90,110,130 w/b)

Thus Otokar has over the decades sought to construct a broad-based, multi-sector and notionally anti-cyclical business model. Interacting with the public sector transport bodies, private transport operators, the defence ministries of national and international government, peace-keeping agencies, and commercial fleet transport operators.

2011 Financial Highlights -

2011 YoY was certainly impressive, with:
Operating Revenues increased by 75.29%, from TRY 560,804,092 to TRY 983,054,123 . Operating Result increased by 176.28% from TRY 25,641,262 to TRY 70,841,850.
Overall Profit increased by 163.96% from TRY 20,778,314 to TRY 54,846,604.
RoE rose from 11.98% to 25.71%.
RoA rose from 3.27% to 6.42%.
Net Profit Margin rose from 3.71% to 5.58%.
Debt to Equity Ratio rose from 266.36% to 300.59%.
Current Ratio shrank from 1.19 to 1.05, showing greater assets vs liabilities 'balance'.

Chairman's 2011 Report -

Kudret Onen offered the following observations over last year's market and business dynamic:

- Whilst affected by the global downturn, Otokar (like many Turkish firms) was less ravaged.
- Post-poned 2010 demand of Bus and Trailer translated into strong 2011 sales.
- MENA and Gulf region civil unrest created immediate demand.
- Yearly revenue grew by 72% to TL / TRY of 890m, sales up 58%, profit to TL 55m
- Maintained focus on proprietry IPR to provide NPD and regional sales freedom.
- Export focus: Otokar exists in 60 separate countries
- “Strong geographical footprint, strong sectors, strong in-house competance”
- Bus & Coach markets in Turkey to expand, and EU market price sensitivity assists.
- Tanker Trailer sector to grow with new Turkish safety regulations and oil sector re-growth
- High potential for expansionary markets of Wheeled Tactical Vehicles
- Paraphrase: “Limited recession damage, good future potential”.

Contrasting Fortunes of Mainstream vs Specialist -

Turkey has seen a momentus rise in economic growth over the last decade, thanks in great part to a then growing EU, so marked improvement in domestic living standards and thus massive increase in private motoring and passenger vehicle sales, aswell as commercial vehicle sales. This leading to an influx of automotive investment and so greatly raised capacity to reduce unit costs and arguably a large degree of inventory stocking in factories, dealers and dock-sides to feed the voracious national and international appetite.

At the tail-end of this expansion, across 2009 and 2010 and 2011 Turkish vehicle production grew from 869,605 units to 1,094,557 units to 1,189,131 units. Retail sales over those years were 575,869 to 793,172 to 538,532 units. Export were 628,790 to 754,469 to 790,966 units.

But the decade-long, partly credit-fuelled, boom is now contracting as EM governments, Turkey included, seek to reign-in what is viewed as overly-loose credit conditions – the kind of conditions that ruined the west – which impacted Turkey's car export levels.

The almost immediate effect has been a dramatic cut in passenger car production, and so all vehicles TIV. The most affected Ford-Otosan and Oyak-Renault. The January-May output of 2012 was 8.4% lower than 2011, 512,506 units vs 469,366 units. But it was actual sales that demonstrate the real contraction, down 21% over the same period from 360,503 to 284,790. Even more extreme was the 26.4 drop-off of 'factory sales' between VM and corporate/fleet buyers in cars and pick-ups, falling from 155,809 units to 114,701 units. The slower deterioration of exports (including parts and accessories) assisted Tier1 and 2 suppliers, falling 'only' 5.5% in volume terms, but with the FX differential, recognising a 2.8% fall in overall income to $7.6bn USD.

Bucking this contracting trend though has been sections of the Bus, sections of CV/HGV and Defence markets, those in which Otokar resides.

Amongst all the auto-manufacturers and retails in Turkey over 2012 thus far, it has only been Otokar which has bucked the universal trend of contraction.

Where Otokar in its specialist domain has actually increased sales by 6.6% over the first 5 months of 2012, the mass car manufacturers of FIAT-Tofas and Oyak-Renault have fallen 30%, whilst Ford-Otosan is down 25%, and Toyota & Isuzu are both down approximately 22%. Domestic Karsan (maker of the eponymous mini-bus and shared taxi 'Dolmuş') is down 44%. And Otokar's large coach and bus rivals Temsa Global and BMC are down 3.5% and 28% respectively, the former better exposed to other healthier markets explaining the difference. However, even HGV suffered, with competitive placement all important as seen by the difference between Mercedes Benz Turk losing 'only' 6.6% and MAN Turkiye losing domestic 55% sales.

Add together domestic sales and exports, and once again Otokar the domestic and foreign VM pack leader – bettered only slightly by Hyundai. Otokar saw a 11.3% rise between January-May 2012, (Hyndai 13.5% increase). Whilst FIAT-Tofas, Oyal-Renault and Ford-Otosan lost 20%, 15% and 11% respectively. Toyota lost 5%, Isuzu down 21%. Karsan down lost 10%, Temsa Global down 10.7%,BMC down 37.7%. Mercedes Benx Turk lost 29% whilst MAN Turkiye's export drive helped it lose only 0.9%.

It has been the Mini-Bus and Midi-Bus segments which have been the tailwinds to the Turkish auto-industry this year, Otokar operating in both. Yet (as mentioned) it was Karsan that benefited most from domestic Mini-Bus sales up 21%, whilst Otokar actually saw a 93% decline on its small number of national deliveries. But Midi-Bus has given greater fortune, Otokar seeing a 65% rise to 684 units thus far versus Temsa Global's fall of 25%. All except BMC have suffered in the Large-Bus/Coach segment, BMC rising from its low base.

As for exports, Otokar beat all thus far, seeing new activity in Mini-bus (albeit small numbers), a 60% rise in Midi-Bus exports and a 114% rise in Large-Bus/Coach

Across the full May 2010 to May 2011 year, it was only Otokar beat all with a 16% rise in sales and exports, tailed by Hyundai on 15% and Ford-Otosan on 14%. But as that mass-manufacturer's momentum has been hard fought or lost in the face of the global slow-down, it has been the specialist arenas in which Otokar operates that has supported revenue and overall income.

[NB data sourced from The Industrial Development Bank of Turkey / TSKB Research].

Yet, it appears that it has been Otokar's military links which have supported its general revenue, a n income stream which most of its contemporaries lack. A

Although understandably 'hard numbers' and exacting data regards vehicle deliveries and the order book are not easily available – due to because the sensitive nature – recognising the weakness of the broader car market and presently constrained bus market, Otokar has sought to publicise its defence markets capital investment programmes and continuing success in attracting defence market orders.

Furthermore, the recent announcement that Koc Group will invest TRY 1.9bn ($1bn USD) with Ford in its Otosan venture to produce the new Transit van range and small Transit-Connect underling, demonstrates that it seeks to once again capture the lucrative Mini-Bus market from Karsan and others, including it seems any ambitions Otokar may have previously held. This 'growth denial' to Otokar then indicates that it will continue to focus upon Mid-Bus and Large-Bus/Coach with export bias given its pricing-led strategy, and critically mean yet greater focus on its Military Vehicle range, spanning 'Dark Green' Tanks, 'Light Green' Armoured Vehicles and 'White' Support Vehicles, including Mid and Large Bus for troop and civillian peace-keeping logistics.

Otokar's Stock Performance YtD -

Having started the new year at TRY 24.25 (Turkish Lira), Otokar's stock rose to 32.7 on 20th March, fell away and returned to 32.8 on 25th April, then seeing a low of 26.5 on 4th June before climbing to a YtD high of 33 on 12th July.

[NB Presently, TRY 2.8 to £1 GBP / TRY 1.81 to $1 USD].

The post Q1 fall was due to lower YoY Q1 earnings (TRY 6.33m vs 9.19m), whilst seemingly the expectation of a Turkish Army delivery contract re-boosted and deflated the share-price a full 3 weeks before formal announcement on 14th May, before re-climbing to present high.

Key Financial Figures -

Current P/E: 15.24
Estimated P/E (YE) 13.22
EPS 2.17 (TRY)
Estimated EPS (YE) 2.5
MktCap 729m (TRY)
Shares Outstanding 24m
Enterprise Value 980.11m (TRY)
EV / EBITDA 10.33
Price / Book 4.61
Price / Sales 0.865
Dividend (Gross) 6.06
Earnings Report 27.07.2012 (Q2, H1 2012)

Investors should of course compare these figures - with ideally deeper analysis of the firms Balance Sheet, P&L and CashBook - to those of its direct and indirect competitors.

However, whilst running what is seen by the investment community as an anti-cyclical 'defensive' investment case, it should be noted that the apparent self-interest of the Otokar to maintain its role as a prime enterprise in service of Turkey, means that its corporate governance, though seemingly better than many, should be improved if the company wishes to attract foreign investment.

Though it should be recognised that this notional ultimate aim may not be an immediate concern given the sovereign solvency of Turkey (its national debt only 40% of GDP), accompanying internal liquidity levels (government & private) and the liquidity levels ripe for cross-border investment by other 'Turkey friendly' EM nations.

Nevertheless, it is worthwhile pointing out the corporate governance limitations given the expected long-term desire to attract world funding.

Corporate Governance -

A web-sourced report published by SAHA Corporate Governance and Credit Rating Services Inc, provided the following overview:

Corporate Positives -
- Strong and declared corporate nationalistic vision / mission
- Separate Chairman and CEO posts
- Updated apparent transparency via website

Corporate Negatives -
- Lack of corporate governance structure
- Lack of independent BoD representation
- Lack of information regards controlling shareholder members
- Articles of Association quasi-deny shareholder participation
- No shareholder voting priveleges
- The SAHA Rating system used (0-100) does not numerically perfectly match Capital Markets numbering principles (0-10), suggesting either apparent 'better detailed reflection' or possible deliberate obfuscication.

Conclusion -

Though facing a notably slowing period in its general national development, largely thanks to previous economic reliance on the 'advanced' regions of Europe and the USA, Turkey today recognises its newly emergent position as an economically and politically powerful sovereign state within the wide and culturally inter-connected geographies of the MENA region, Gulf region and CIS region.

The western credit crisis of 2008 to date, undoubtedly propelling the global economic slowdown, has meant that the fast growing EM countries in the CIVETS and 'Next 11' groups are seeking new economic paths that are less reliant upon the 'old west' export markets and instead have started to focus ever more 'inward' to the growing strength and populace expectations of their own close proximity and bi-lateral regions.

So whilst undoubtedly remaining westward-looking to encourage FDI where possible and maintain technology transfer, Turkish companies like their BRIC and EM counterparts, have started to create EM-based 'clubs' via greater commercial and intellectual inter-action and of course increasingly stringer trade agreements.

Otokar has been seemingly selected by the Turkish power-brokers to be part of that new equation, one which is ironically actually being supercharged by the unrest of the 'Arab Spring' which will ultimately not only build new individual Arab states, but very probably create a new Arab network, as the moderates within Sunni and Shia win-over the popular consciousness through nation re-building tasks and programmes.

However, until that idealised end-point, the nation-building process and accompanying unrest is still more than evident and may continue for some years to come.

Otokar then is well placed as a provider of “regionally affordable” military and peace-keeping vehicles for purchase and deployment of both new civil defence forces and the likes of the UN who themselves will be keen to identity a 'passive leader' country. Turkey sees itself in that role.

And when the civil hostilities have subsided, and the new modern infrastructures of water, fuel, public services etc are created, Otokar will seek to be part of that evolutionary stage as it offers public transport vehicles and commercial cargo carriers which will help drive the new econiomic machines of renewed sovereign countries.

Wholly orientated for the region's current ”Gloom” and eventual “Boom”.