Adler Pelzer - A long list - Initiation/Positioning

All,

Please find our initiation on Adler Pelzer here.

The name has been a familiar HY / distressed staple for the last 20 years, and yet it’s been a long time since any one of us has covered the company and a few things have changed. While the automotive short has been in full swing at least since Trump’s victory, we think this one is worth considering more thoroughly. On the one hand, with the bonds still in the 90s we see little upside in the near-to-medium term, except for the large coupon that is. On the other, there is a long list of concerns that we see in the short and medium term. There is a chance that APG hold up well enough over the coming two quarters, but we expect a sharp drop at least thereafter. There is also a chance that Q3 will be a big disappointment.

Investment Rationale:

- We are taking a 5% short position in the Adler Pelzer bonds at 90c/€. The trade to short Automotive suppliers in Europe has been going on for a while, but a confluence of weak Q324 earnings plus the revelation of the (already flagged) increase in net leverage from the €68m loan and the €30m upstream loan are going to look particularly untimely. The intention is to take the position off again after the Q3 reporting and ahead of Christmas as it is very expensive to hold. We are then again looking to reset it around the Q125 reporting to capture what we think of as a production cliff.  

- Having modelled a recap scenario below, we do not think of it as any short-term prospect, but rather a background for thoughts going into in Q325 when the RCF becomes current. 

- This being an initiation, there are several directions in which we think it is worthwhile doing further work, including the location of the cash and the long payables. Being new to the credit we suspect both to be concentrated on the JVs and therefore not available throughout the group. We therefore think APG are skating on thinner ice than appearances suggest.

Background:

- Over 50% of revenues come from Europe and over 60% of revenues are generate from products for the passenger compartment. Clients are highly concentrated where Stellantis, VW, Ford and Mercedes account for over 50% of revenue.

-The company has had to restructure in the early 2000s and again required fresh cash in the late 2010s from the Italian state. The controlling Scudieri family has subsequently had to invite the Hayashis into their company to help inject €120m in cash in its most recent refinancing. 

- Post Pandemic, APG has rebuilt its volumes and via bolt-on acquisitions has grown again, but continues to be barely able to earn its coupon, also because the shareholder loan seems to be cash paying. 

- As Europe is struggling with consumer confidence on the back of an inflation-induced cost-of-living crisis, the tilt towards electric vehicles by 2035 is now accelerating, prompting mass lay-offs as certain ICE-related value chains are becoming uneconomical and EV parts not yet widely enough or cheaply enough available (outside China). 

- APG's NVH product portfolio is paradoxically now receiving more attention even though EVs are inherently silent. The focus on the soundscape inside EVs is amplifying the demand.

A long list of concerns:

- We are observing a significant 17% YoY increase in German October automotive production levels. Sunch numbers can vary and YTD levels are flat, but we could imagine this to continue into year-end to build up inventory in the US before tariffs are put in place. If so, EMEA volumes should be inflated for H224 and drop off a cliff in Q125. We are therefore looking to re-set the short ahead of Q424/Q125 reporting.

- Order Intake: Management have been reporting of rising order intake - which we find unsurprising in an age where the soundscape in vehicles is becoming increasingly important. However, European OEMs are slowing down the roll-out of vehicles due to uncertainty of volumes, due to European consumer confidence, the uncertainty around switching towards EVs and US protectionism. So while APG may have won the models, they will likely take longer to materialise into revenues than before. Also, new models typically mean new tooling investments. 

- Location of cash: The cash balance is curiously high for a company with an at least partially drawn revolver, requiring fresh cash from time to time. We are very concerned that most of the cash is locked up in JVs (China?) and that it functions as guarantee there for long payables, but is not easily repatriable without negotiations with the JV partner / tax implications etc.. We have no evidence of it yet, but assume the cash is not "excess cash" at European level.

- European clients: US protectionism to slow down European production for export and shift US vehicle demand towards domestic brands. APG to lose more volume in Europe than they'll gain in the US. To the extent that as a result of protectionism European OEMs shift production to the US, APG may be required to make investments in the region to supply those volumes.

- High labour costs in the last year: APG's labour costs have soared in 2024 - in line with the wider economy. We don't see this unwind, but it weighs on the margin.

- German OEMs seem to have ramped up production strongly in H224, possibly to maximise shipments into the US before trade tariffs come into effect and expect production volumes to plummet in Q125.

- Not a reasonable time to recap dividends: Adler Group SPA has been taking an upstream loan from APH GmbH, paid for by a new €65m loan sitting p.p. to the bonds. We don't think this is a good time to be paying dividends. Moreover, the new loan is allegedly in every way pari passu to the bonds. However, as hot as the private credit market may be right now, we can't help but wonder about that.

Here to discuss with you,

Wolfgang
E: wfelix@sarria.co.uk
T: +44 203 744 7003
www.sarria.co.uk