The third largest Japanese automaker, Honda Motors (HMC, Financial), reported its third-quarter earnings of the fiscal year 2015 on January 30, and the report card was a pretty dismal one, much below the Street expectations. In fact, the automaker has been facing several headwinds in North America which contributes to over 40% of its unit sales in a quarter. Even the weakening of the yen was unable to boost the profits for the quarter and domestic car sales at the home turf have also been dampened during the third quarter of the 2015 fiscal year. Let’s quickly check the major highlights shared by the management in the third quarter earnings call and why it portrays a dim picture for the company financials going forward into the coming quarter which happens to be the final quarter for the current fiscal year.
Quarter numbers were mostly in the red
The third-quarter earnings were affected by the large scale car recalls that have struck the Japanese automaker hard and was down by almost a quarter. Earnings of the company declined by the need to recall the faulty airbags manufactured by Takata Corp. In fact, the company has been hit hardest this year by the rising number of recalls in the U.S., which has also affected its plans of launching new models across the globe. The operating profit slid to $1.5 billion this quarter, down 22.5% from $1.9 billion posted a year ago. This figure fell below the Thomson Reuters’ analyst consensus of $1.6 billion.
Net income for the quarter totalled 136.5 billion yen ($1.132 billion), down 15% from the same quarter reported last year. However, the motorcycle sales that remained at its peak during the quarter and favourable foreign currency translation effects aided in lifting the revenue for the quarter up about 9% from the same period last year.
While Honda did not highlight much on the impact of the recalls and stated that it did not hurt the North American sales as expected initially, Executive Vice President Tetsuo Iwamura has stated that nearly 4 million vehicles recalled over Takata-made airbags between October and December has added to costs. Analysts have calculated that the cost of the recalls could cross $255 million though Honda has declined to comment on the issue.
Such headwinds have placed Honda’s sales volume to the red zone and is offering the company a tough game to play with immediate rivals, Toyota (TM, Financial) and Nisssan (NSANY, Financial). Such a negative impact of the recalls was also pointed by the management during the earnings conference in which the company accepted that the boost in profits from the foreign exchange factor was completely offset by increase in quality related costs which has led to downsizing of the future profit forecast for the full fiscal year.
Management tone is cautious at this juncture
In the second quarter of the 2015 fiscal year, the management had cast caution that the upcoming episode of recalls could hurt the brand reputation to a limited extent. In this quarter’s earnings call, the management seems to have exercised the second phase of caution and have cut the operating profit forecast by 6.5% setting aside huge cash for the expanded car recalls which majorly were because of deadly accidents caused by the faulty airbags provided by Japanese supplier, Takata.
As domestic car sales have also started facing some heat due to the second set of recalls over the redesigned Fit hybrids pushing the launch of new models further behind schedule, the company now expects the Japanese car sales to fall about 20% from the initial set target. This, in turn, has led the management to downsize the forecast of selling a total of 4.62 million cars globally for the annual fiscal year by about 3.7% to 4.45 million cars for the full year ending on March 31.
Such recalls might not lead to a loss of reputation for a long term but has obviously led to downsizing of the company forecast in terms of top and bottom lines growth pace. Now instead of the $4.8 billion Honda expected to earn for the full fiscal year, the company is predicting the full year earnings to be down to $4.6 billion.
Analysts’ take
The major concern at this juncture remains the dramatic fall in crude oil prices which is driving the U.S. sales of light trucks up by about 10%, while the passenger car sales has been up negligibly in 2014 by only 1.8%. Such a figure could put Honda in the temporary red zone as it excels in the make of fuel efficient cars and has always attracted buyers concerned about fuel economy.
Merrill Lynch analyst Kei Nihonyanagi, commented rightly, “The fall in fuel prices represents a body blow to Japanese automakers …” Analysts are also not too optimistic on Honda’s upcoming quarter numbers which could be hit by falling oil prices and quality related costs. But at the same point in time, analysts regard this phase to pass away and the impact on Honda sales could be limited, such that the automaker quickly recovers when oil prices start rising once again.
Last word
Irrespective of the numerous red flags which seem to lead Honda to its grave at this juncture, the management has kept its tone firm and cautious as such red flags might change as soon as macro environmental conditions improve – thus, it’s only a matter of time. But for now, the fourth quarter does not seem to be a highly optimistic one for Honda as it will exercise caution when it feels like launching a new model globally in this quarter. Let’s keep an eye on how Honda recuperates from such looming issues which tend to eat into its top and bottom line even in the next quarter.
