Part of the Portfolio: 04/2019
(a 1:24 replica of the the Aston Martin DB 11; with an price tag of >200k USD the original DB 11 was a bit too expensive for the museums endowment)
If history is any guide, car manufacturing is a tough business. Out of a couple of hundred car companies in the US (link) once been alive, only three have survived today.
This reality is even true for the most iconic brands. Famous for being the preferred choice of James Bond, Aston Martin has an exquisit history and after seven bankruptcies a steady reputation for wiping out owners.
FT Alphaville referres to the company nowadays stubbornly as "clown car maker" after the company had to restate their 2019 results due to mistakes in accounting.
After reading the Annual Report 2018 (copy) of the then recently floated Aston Martin Lagonda Company it became clear that the Kaptialmarkthygienemuseum had to own a piece of this story.
In 2007 Aston Martin which at the time was owned by Ford Motor Company was sold to an group of investors consisting of motorsport veteran David Richards (the guy on the left with the Ray Ban) and some Kuwaitis for USD 925mn.
After some years of restructuring and the rampant success of the Ferrari IPO at the time paved the way for an IPO. The Ferrari Stock (RACE) went from USD 55 in Octobre 2015 to USD 150 or close to USD 30bn in market cap in June 2018. So they thought it was time to cash in big time and bring Aston Martin to the market. The IPO was an success and the company was floated with a market cap close to GBP 4bn.
The pitch was easy: As Aston Martin we do have an iconic brand (as Ferrari) and will sell some more cars in the future. As those incremental sales are very profitable we will make a ton of money.
The first Annual Report was full of pretty pictures and nice cars. At first glance everything was going fine and dandy. On second glance most of the "turn around" seemed to be aggressive accounting. While the first 70 pages of the Annual Report were mostly "bling bling" the sobering financial stuff came afterwards.
Revenue and adjusted EBITDA grew nicely over the previous years. Just after reading the unadjusted numbers and some of the fine print it became clear that there are some serious risks involved. Net profit for the year was a negative GBP 57mn. The company had stated net debt of GBP 560mn or more than 2x "adjusted EBITDA".
But there were some more unsavoury details which could have raised eyebrows and hinted to aggressive accounting:
1) Operating Cashflow was stated at GBP 222mn. Investment in Capex and intangible assets ("R&D") were around GBP 300mn. After all investments: no Free Cashflow at all
2) Prior to the IPO Aston Martin entered into a finance agreement with Standard Chartered Bank. At its core this were customer orders for future "exclusive editions" which were pre-financed. This financing was treated as "off balance" and amounted to GBP 150mn a year. A nice boost in operating Cashflow. The downside was clearly that this financing would dry up in an event of a recession and could even reverse if ordered cars were cancelled.
3) The threshold for Management Incentive Package 2018 was calculated on adjusted EBITDA (GBP 247mn). Adjusted EBITDA was adjusted for certain items as for example: GBP 61,2 mn "Pre-IPO long-term employee incentives". The threshold for a bonus payout was GBP 186 mn. In plain language: last years bonus to management was excluded to achieve this years bonus...
4)Unlike Ferrari or other car manufacturers most of the R&D investments were aggressively capitalized. Even though the company spend > GBP 200mn in 2017 and 2018 on R&D only a fraction was recognized as cost. Were Aston Martin expensing this R&D the same rate as Ferrari, the company would not have been profitable.
5) Aston Martin faced another problem. It promised investors rapid growth with little revenue increase to show. The solution lied in another accounting gimmick just in time for the IPO. Aston Martin changed the way it recognizes revenues within its income statement.
Previously until 2017, revenue was not recognized in the P&L when the vehicle was ready, but the delivery date was one year into the future which is a very reasonable practice. However, in 2018 this was changed and the provision to hold back revenue from cars that are one year away from delivery vanished from the company’s revenue recognition procedure. Et voila, this “new” revenue found its way into the financials which would not have been possible without the change in rules.
What follows was that receivables more than doubled while revenue (under the newly applied rules) increased by 25% only. Of course, the newly found revenue did not hit the cash balance of the company as it was just a bookkeeping entry. The positive effect was also short-lived and could not reasonably expected to reoccur in the future. The clown car crash later on was one step closer.
All of this above and very slow sales in the following years made the problems surface and the stock price crash. Only following injections of capital by another billionaire motorsport enthusiast (with nearly the same Ray Ban) held the company afloat.
This "emotional short" would have worked out pretty well with a decline in stock price of >-90% in just under two years.
Links:
Ford 2007 sale to Richards/Kuwaitis
IPO:
2020 and Corona:
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