Summary
􀀗 The European Automotive sector has rallied by 7% from its lows
at the beginning of August on the back of a stronger USD and a
lower oil price; have we now seen the bottom for the sector?
􀀗 We do not think so: major challenges are a further weakening of unit
sales in Western Europe, a slowdown of sales growth in emerging
markets, and a major shift in product mix to smaller cars
􀀗 We believe macro data such as new car registrations, steel and oil
prices and the USD/EUR rate will drive the sector in the next few
months; these might provide short-term trading opportunities but a
global unit sales slowdown could prevent a material sector recoverySummary
􀀗 The European Automotive sector has rallied by 7% from its lows
at the beginning of August on the back of a stronger USD and a
lower oil price; have we now seen the bottom for the sector?
􀀗 We do not think so: major challenges are a further weakening of unit
sales in Western Europe, a slowdown of sales growth in emerging
markets, and a major shift in product mix to smaller cars
􀀗 We believe macro data such as new car registrations, steel and oil
prices and the USD/EUR rate will drive the sector in the next few
months; these might provide short-term trading opportunities but a
global unit sales slowdown could prevent a material sector recovery

Sector performance/valuation
The profit warnings from BMW and Daimler have
been a wake-up call for the sector. Following
revised company guidance, 12-month forward
consensus EPS growth (source: Factset) for the
Euro Stoxx Automobiles & Parts index has come
down since the beginning of July from 13.7% to
3.2% and the 12-month forward consensus PE has
increased from 7.7x to 9.3x. Depending on the
assumptions, the outlook for the whole industry
may look risky. This is why we are still rather
cautious on the sector, even though the valuation
looks low at first glance. As long as there is
limited visibility on market growth and the sales
mix of the different vehicle segments, we believe
valuation will remain at these low levels.

Unit sales matter, and there is
not much hope of a recovery
Within the European auto sector, the German
OEM stocks, in particular, have reacted positively
to the stronger USD and the lower oil price. These
factors are positive for the sector and may offer
some days of good trading opportunities.
Nevertheless, as we highlight in this report, we
fear the positive effects of currencies and lower
raw material prices will be counterbalanced in the
next few months by a continued weakness in unit
sales. It is not only about the oil price though, as
other factors are also dragging down new car sales
such as higher refinancing costs for car purchases,
less attractive leasing offers, changes in some
countries’ car taxation and a general decline in
consumer confidence. Therefore, the recent oil
price decline offers little hope that the negative
trend will reverse soon in the developed markets.

The impact on the OEMs is clear: lower car sales
not only cause lower revenues, but also higher
incentives and lower plant utilization, which
reduce the EBIT margin. Due to the high
operating leverage of auto OEMs, unit sales are a
decisive factor for the earnings performance.
Historically a 5% decline in revenues has caused a
20% decline in EBIT. Daimler’s profit warning
shows that this can be used as a rule of thumb for
future projections.
Regional sales exposure will remain
an important investment criterion
From an investment perspective, we still believe it
is important to consider the dependency of the
various OEMs on particular countries and regions.
While the German premium OEMs are exposed to
the weakness of the Western European and US
markets, the French OEMs would be hit by
market weakness in France as well as a demand
slowdown in emerging markets. The year-to-date
sales growth in important emerging markets does
not indicate a slowdown. Nevertheless, we point
out that July sales numbers look worrying in some
parts of Western Europe and there are also clouds
on the horizon in the emerging markets.
A rapid shift in product mix
particularly hurts premium
OEMS
As we show later on, in the US and Western Europe
we are seeing a shift in demand away from larger
cars towards small and compact cars. However,
smaller cars have smaller earnings margins and that
too is hurting the German premium OEMs,
particularly BMW and Mercedes. While investors
will be aware of the change in the segmental sales
mix in the US, the change in Europe should still be a
surprise for most market observers. The product mix
shift in Europe hits the German premium OEMs
more than the shift in the US, since the European
market is 50% larger for them in terms of volumes.
Daimler and BMW have already revised their

guidance for 2008. We have incorporated our
expectations of reduced demand in our estimates.
We do not see any indication that demand will
improve. This is of particular concern as
historically the premium OEMs have
outperformed overall market growth and achieved
earnings that were generally higher than those of
the mass market OEMs: it remains to be seen if
this trend continues in the future. (See our sector
report Twilight of the Gods: Challenges ahead for
the German premium car manufacturers: Audi,
BMW, Daimler and Porsche, June 2008.) Even if
premium OEMs can achieve above-average sales
growth by offering smaller cars, if demand for
large SUVs (sports utility vehicles) and large
sedans continues at lower levels, the OEMs may
not be able to generate EBIT margins above 8%.
Dollar strength: a short-term
trading opportunity but a longterm
dilemma
Although there is only limited hope for recovery
in unit sales, the recent strength of the USD is
positive for the German OEMs. Correlation
analysis suggests that a large part of the recent
sector recovery was simply triggered by the
strengthening of the USD. In this report we
analyse in detail the potential benefit of USD
strengthening for the German OEMs, if the
USD/EUR rate declines and if it remains at 1.45.
We conclude that a stronger USD has a limited
impact on earnings, and its main effect is on
sentiment towards the German auto stocks. BMW
will probably be the greatest beneficiary of
improved sentiment, although this does not
change our fundamental view on the stock.
Furthermore, it should be kept in mind that the
weak GBP continues to weigh on most European
OEMs. We also note that the USD only
strengthens if the European economy deteriorates
faster than the US economy. The Western
European market is still the most important region

for premium car sales and weaker unit sales
would probably outweigh any positive currency
impact from a weaker euro.
Falling steel prices might be a
trigger for the sector
Raw material prices remain a burden for all
OEMs and a new high was reached in July.
However, HSBC’s steel analyst Alan Coats
forecasts declining prices for steel, the most
important input factor for OEMs as of H2 2008.
The recent spot market data also supports this
forecast. Maybe the financial burden is finally
starting to fall below companies’ current
expectations. We analyse in this report which
OEM would be the most positively affected by
lower steel prices and conclude that mass market
OEMs such as Volkswagen might reap the
greatest benefits. Nevertheless, the outlook for
steel prices does not alter our fundamental view
on the sector. We need to keep in mind that the
steel price will only fall significantly if demand
weakens. This would probably only be the case if
the car industry ran into a severe recession
globally. Hence, while a falling steel price would
be positive for OEMs in terms of costs, it would
only help to offset the effects of the preceding
reduction in demand.
Companies
Volkswagen (VOWG.DE; Underweight; target
price EUR146)
We highlight two separate factors for
Volkswagen: the first is the operational business
outlook, which we still regard as positive, and the
second is the valuation of the stock, which leads

us to downgrade the stock from Neutral (V) to
Underweight. Porsche will complete its
acquisition of a controlling stake of 51% in
Volkswagen in the next two months. The
valuation will then return to peer group levels.
Nevertheless, we point out in our analysis that
there are some indications Porsche might be
prepared to raise its voting stake even higher than
51% and for this reason, we expect only a gradual,
not an immediate, significant decline.
We would like to highlight our analysis of how
Porsche will finally increase its voting stake
beyond 50%. Currently VW’s whole free float is
sold by put options on the EUREX (strike prices
EUR135-160; Maturity December 2008 and June
2009). We believe Porsche remains a buyer of
VW shares at around EUR140-160. Hence, we
think our new price target of EUR146 should
represent the bottom for the VW ordinary share
price. We may be a month too early in turning
negative on the stock since Porsche will probably
execute its stake increase during October, but we
believe it is better to be early than too late.
Porsche (PSHG_p.DE; Overweight (V), target
price EUR144)
Porsche is our favourite stock among the
European auto makers and we believe there is
considerable scope for revaluation. In this report
we upgrade our 2008 EPS estimate by 36% due to
a higher estimate of the one-off gains resulting
from the VW options position (HSBCe new:
EUR2,618m vs EUR1,150m), but slightly
downgrade our estimates for 2009 and the years
after due to our lower VW estimates and more
conservative assumptions regarding Cayenne

sales. Since we now value the VW stake at our
new VW target price of EUR146, we arrive at a
fair value (target price) of EUR144 per share
(previously EUR158) in our 2008 sum-of-the
parts valuation (SOTP) for Porsche. We maintain
our Overweight (V) rating on the stock.
Daimler (DAIGn.DE; Neutral; target price EUR43)
Due to the ongoing shift in demand mix and the
disappointing outlook for sales in the global
premium market, we downgraded Daimler from
Overweight to Neutral after its Q2 2008 figures in
July. We maintain this rating, but make a slight
reduction to our earnings estimates.

BMW (BMWG.DE; Underweight; target price
EUR23)
We kept our Underweight rating after the Q2
2008 figures but cut our share price target from
EUR30 to EUR23. We reiterate our rating and
target price and believe BMW will continue to
suffer from a weaker sales mix, declining unit
sales and ongoing problems with residual values
of its lease portfolio. The outlook will probably
improve towards 2010 and there might be a
trigger during 2009, but nevertheless the 2012
long-term targets still look too ambitious to us.

目录

Summary 2
Sector valuation 7
Global vehicle sales: risks are
still on the downside 12
Demand shift towards smaller
cars 25
Dollar’s Schadenfreude:
improves sentiment towards
German OEMs 31
Falling steel prices might be a
trigger for auto sector 37

BMW 41
Daimler AG 50
Porsche SE 58
Volkswagen AG 69
Appendix 87
Disclosure appendix 91
Disclaimer 95