We last covered TE Connectivity Ltd. (TEL) in July 2019. TE Connectivity designs and sells a variety of electronic components that are used in a wide range of connectivity applications. With TE Connectivity’s largest end-market being the automotive sector, the recent developments of the coronavirus and resulting mitigation efforts have created a bearish scenario for TE Connectivity. With a handful of automotive manufacturers ceasing production and consumer credit markets rapidly eroding, the near-term outlook on automotive sales is poor. As a result, we are anticipating short-term challenges for TE Connectivity that are not properly reflected in the current share price.

Note: Our previous coverage of TE Connectivity Ltd. can be found here.

Risk Looms As Automotive Sector Deteriorates

TE Connectivity has a high degree of exposure to the automotive industry. The sector is the company’s largest end-market by a wide margin. The ongoing impact of coronavirus is going to generate turbulence throughout the automotive sector. This will happen in a number of ways.

(Source: TE Connectivity Ltd.)

With much of the global economy utilizing aggressive mitigation measures, there is an economic ripple effect occurring. On the demand side of the equation, people are simply not buying cars. There are projections that industry automotive sales for April could be down as much as 60-80% depending on the geographic market.

On the production side, many manufacturers have shut down factories or have pivoted away from vehicles (General Motors (GM) and Ford (F) are assisting in making ventilators). With a systemic shock on both the demand and supply side of the automotive sector, it doesn’t bode well for the flow of the supply chain.

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We also remain bearish on automotive demand from consumers over the immediate future, particularly in the US market. We previously identified a financial bubble where consumers were getting stretched thin on financing vehicles. With the coronavirus putting millions of consumers out of work and slashing pay and hours for others – the economic recovery at the consumer level will likely be slow (as people catch up on household finances). Less consumers will be in the market to purchase a vehicle for the near future.

When you combine all of these factors, the collective market environment for automotive appears to be quite challenging. There is little doubt that this will trickle up the supply chain to TE Connectivity.

The Stock Doesn’t Price This In

These disruptions won’t be felt immediately, so it’s important to monitor what is bring priced in by the markets. The overall markets continue to rally as of late – largely due to continued involvement from the Fed, despite a number of bearish circumstances (oil, rocketing unemployment).

While shares trade well off of 52-week highs, the stock has bounced nicely off of new lows set in March. The current share price of just under $72 is moving towards the middle of its 52-week range. The stock dipped as low as $48 when the market crashed last month.

(Source: YCharts)

Analysts are currently projecting the company to earn $4.57 for the full 2020 fiscal year. The resulting earnings multiple of 15.72X is a 16% premium to the stock’s 10-year median P/E ratio of 13.56X. If we assume that these estimates partially reflect a dip in earnings this year (lower EPS would result in a higher multiple), we can see that even at 2021 projected EPS of $5.38, the resulting P/E ratio of 13.35X is still just barely in line with decade norms.

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Given the headwinds likely to be felt throughout the remaining quarters of 2020, there just isn’t much to hang our hat on at these valuations. In our view, the stock fails to properly price in the severe disruption of the company’s largest end-user market. We would like to see a discount to the company’s historical multiple. If shares fell to 11X earnings, the resulting target price of $50 per share would more accurately price in what could be a severe hit to the company’s near-term operating results. Shares fell below this point in mid-March, before the overall tide of the market carried shares back into the $60s-70s. Because of our skepticism of this recent rally, we don’t see TE Connectivity as a stock to chase at these levels.

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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.