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Coverage Initiation: Allison Transmission Holdings, Inc.
Value Line recently initiated coverage of Allison Transmission Holdings, Inc. (ALSN), in its flagship product, The Value Line Investment Survey. The company is the world’s largest manufacturer of fully-automatic transmissions for medium- and heavy-duty commercial vehicles and U.S. military vehicles. It also produces hybrid-propulsion systems for transit buses. Its products are used in on-highway trucks, including those for distribution, refuse, construction, and fire, as well as school and transit buses. Its transmissions are also used in motorhomes, off-highway vehicles, and equipment, primarily for energy and mining. The business was founded in 1915 and is headquartered in Indianapolis, Indiana. It has about 2,800 employees, with more than 90% of those based in the United States. The company’s shares began trading on the NYSE on March 15, 2012.
The Allison brand is well recognized in the auto parts industry. The company introduced the world’s first fully-automatic transmission for commercial vehicles over 60 years ago. Management estimates that in 2012, it sold roughly 62% of all fully-automatic transmissions for medium- and heavy-duty on-highway commercial vehicles. While 78% of 2012 revenue was generated in North America, Allison also sells goods in Europe, Asia, South America, and Africa. The company sells its products through a network of roughly 1,400 independent distributors and dealers around the globe.
Allison attributes its strong performance, compared to manual or automated manual transmissions, to lower maintenance costs, reduced vehicle downtime, ease of operation, and improved driver comfort. This is particularly true in urban environments that have a significant amount of “start and stop” activity. The company’s transmissions also provide increased fuel efficiency and faster acceleration. As a result of these benefits, many customers are willing to pay a premium for its transmissions. It has developed over 100 different models that are used in 2,500 different vehicle configurations.
The company’s biggest market segment is on-highway, North America, which represented 38% of total sales in 2012. Off-highway and hybrid transit bus revenues in North America were 13% of sales, while sales to the U.S. military were 14% of the total. The majority of the revenues from the service, parts, and support equipment group were also generated in North America. Allison’s top five original equipment manufacturers accounted for 45% of 2012 sales. Its top three customers are Daimler (DDAIF), which represented 13% of sales, and Navistar (NAV) and Oshkosh (OSK), which both represented 11%. Most customers have long-term supply agreements with the company, with the average length of these agreements at 5 years.
The company’s primary manufacturing facilities are located in Indiana, where it has seven plants. It also has customization and parts distribution in the Netherlands, Brazil, China, Hungary, India, and Japan. To support low-cost manufacturing and a regional presence, Allison has opened plants in India, and Hungary over the past couple of years.
While Allison is the largest manufacturer of fully-automatic transmissions for medium- and heavy-duty commercial vehicles in the world, it still faces stiff competition from numerous manufacturers of manual transmissions, automated manual transmissions, and fully-automatic transmissions. Some of the company’s customers are original equipment manufacturers that manufacture transmissions for their own products. However, they have typically continued to purchase Allison’s products because of their quality and reliability.
In terms of risk, the company has a significant amount of debt. As of March 31, 2013, it had nearly $2.8 billion of long-term debt on its balance sheet, or about 67% of total capital. Its sales are highly concentrated, so a loss of any of its top five customers would result in a material adverse affect on operations. Given that military sales represented 14% of total sales in 2012, a reduction in U.S. government spending could also hurt results. In addition, two companies, Carlyle and Onex, each held more than 40% of the company’s equity, so they have the ability, through the Board of Directors, to control the appointment of management and influence business decisions.
Business prospects at Allison remain mixed. Since sales are driven by commercial vehicle production, they are highly correlated with macroeconomic conditions. While commercial truck and bus production volumes in North America are projected to grow, they will likely remain below the average from 1998-2008 for at least another couple of years. Sales in 2012 were $2.1 billion, slightly below the prior year’s tally, and sales are expected to decline further in 2013, likely by another 5% to 10%.
Some end markets remain choppy, and the off-highway business has been reporting weak demand from hydraulic fracking applications. However, the company should see rebounding demand for its North America on-highway business in the coming quarters. It is also making good progress on expanding its international presence. For example, while roughly 75% of the North American medium- and heavy-duty commercial vehicle market is equipped with fully-automatic transmissions, management believes less than 5% of international markets have this feature. This is clearly a huge opportunity for Allison.
At the time of this article’s writing, the author did not have any positions in any of the companies mentioned.