Elite Client Idea #3

Yachiyo Industry Co., Ltd. (TSE ticker: 7298; Price when published: 659 yen)

Yachiyo (‘company’) manufactures automobile parts and is a subsidiary of Honda Motor Company, which holds a 50.5% stake. 90% of its sales are to Honda’s subsidiaries across the world.

It generated sales from China (32% of FY22 revenues), rest of Asia (36%), Americas (18%), and Japan (14%).

The key issues facing the company are lower orders - due to covid-19 restrictions (particularly in China) and a prolonged shortage of semiconductors; as well as higher raw material costs. (These were partially offset by a weaker yen.) It also faces long-term challenges as the industry turns to electric vehicles.

(Although concentration of sales to Honda is certainly a risk, it could also be considered a point in favor of the company serving an entrenched industry player – it currently enjoys stable relations with Honda.)

The company reported fairly stable revenues over the years with TTM revenues of 162.5b yen, ebitda of 16.3b yen, and net profits of 5.3b yen for the common stock.

The company reported net losses aggregating 7.5b yen in FY19 and FY20. These were a result, however, of one-off factors such as impairment provisions, recall of some fuel tanks in its US operation, and flood damage in its Mexico operation.

A truer picture is offered by free cash flows, which have averaged 3.7b yen over the last 17 years; and net profits have exceeded 4b yen in normal years.

The financial position is strong with net cash of 17.7b yen and a net current asset value of 6b yen (after deducting non-controlling interests). Tangible equity stood at 67.2b yen.

The equity currently sells for 15.8b yen, which is less than 3x ttm earnings, 4x normal earnings, and offers an average free cash flow yield of 20-25%. (Moreover, the stock has sold at least 50% higher in the last year alone.)

Though the returns on capital and dividends are not spectacular, this is one of the higher yielding Japanese stocks on an earnings and free cash flow basis - with a sound financial position - that we’ve come across. The investor can expect a relatively large accrual of earnings and a reasonable expectation of capital appreciation in the not-too-distant future.