Navistar (NAV), the maker of International trucks, revealed Friday morning that it was changing course with its engine technology. The firm announced that it had failed to develop technology that would meet US emission standards and is essentially throwing in the towel on its EGR-only engine strategy (exhaust-gas recirculation). Instead, the firm will now follow the technology that’s already used by the rest of the industry, including engine giant Cummins (CMI). Such technology combines selective catalyst reduction (SCR) components with EGR. We think adopting a winning technology (dubbed In-Cylinder Technology Plus), which the company thinks will gain regulatory approval, is a step in the right direction for the troubled company.
However, risks that were present prior to this announcement have not all been eliminated. Navistar still runs execution risks, as its new engine has yet to be approved by regulators. Additionally, we think the firm’s recent issues with warranties related to engines it sold in 2010 and 2011 could tarnish International’s image with end users. Competitors like Oshkosh (OSK) and PACCAR (PCAR) could use International’s weakness to steal market share. Plus, it will take some time for Navistar’s new engine to come to market, putting pressure on margins and profitability as it continues to sell and discount dated engine technology.
Still, Navistar has a number of strengths. For one, we think International has a very powerful brand value that resonates with several businesses. The firm has strong market positioning in several key areas, including school buses as well as heavy and medium trucks. In addition to brand value, Navistar has significant global reach and a dealership network that would be difficult for new entrants to replicate. And even though Navistar’s balance sheet looks highly leveraged, little debt comes due any time soon. Plus, with a large portion of debt belonging to Navistar’s financial services arm rather than its manufacturing operations, banks may be more lenient to roll-over obligations (given that receivables are often backed by truck collateral). All of these considerations have made Navistar an attractive takeover candidate, which is why activist investors are heavily invested in the company. Carl Icahn, for example, recently raised his stake in Navistar to nearly 12% in June.
Much like consumer vehicles, the global truck fleet is aging and will need replacement. New truck models are more fuel efficient, require less maintenance and produce less pollution. Thus, the long-term outlook for commercial trucks looks very attractive. Despite this positive backdrop, Navistar only scores a 3 on our Valuentum Buying Index given its recent price deterioration, so we aren’t too excited about an investment in the firm at this time. Most companies in the industry, including Cummins and Oshkosh, score similar scores on our Valuentum Buying Index due primarily to technical considerations. Still, we continue to watch the trucking industry closely, given its positive demand profile.