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3 reasons to buy Daimler AG shares

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The shares of Daimler AG (ETR:DAI) (FRA:DAI) have been on a roll lately, gaining more than 16% in the last month (as of 9.2.2015) after very strong 2014 results. The stock has also outperformed the DAX over the last five years and is up 142% since 2010.

Even after last years’ strong gains, I believe the German automaker remains a good investment. Here are three main reasons for my optimism.

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Strong growth expectations in the global automotive market

According to a recent analyst note by PwC’s Autofacts service, “the industry’s (near-term) future has never looked brighter”. PwC forecasts an annual growth rate of more than 5% between 2014 and 2018.

One reason for this is Europe. After the financial crisis, many European households postponed the purchase of new vehicles. Car registrations dropped 30% between 2007 and 2013, and average vehicle age reached new highs, creating a pent-up demand for the future. This downwards trend started to change in 2014 with an estimated 5% growth, and Autofacts forecasts a sustained rebound in the coming years.

Another reason is China. According to a McKinsey study, the growth in China’s automotive sector is expected to slow down from a 24% average yearly growth rate (between 2005-2011) to “only” 8% yearly rate between 2011 and 2020 — which is still very fast by developed-world standards.

Combine this with continued growth expectations in North America and there is every reason to believe that the global automotive market will see strong growth in the coming years.

Daimler increased its car unit sales by 10% in Western Europe (excluding Germany) and 22% in China, which suggests that the company is gaining market share in the two regions expected to drive industry growth.

Premium segment is growing even faster and is less price sensitive

Even within a growing industry, the sales of premium brands will be surging even more. The main reason for this is the strong growth of the affluent upper class in the emerging world, especially China. According to a Deloitte study, the number of millionaires in the BRIC countries (plus Turkey and South Korea) will increase by 150% between 2011 and 2020. By 2020, China alone expects to have 2.5 million millionaires and sell over three million luxury vehicles every year (a 12% yearly average growth rate).

In addition, millionaires are (surprise!) less price sensitive than the mass market. According to KPMG’s Global Automotive Executive Survey 2014, two-thirds of the survey respondents expected premium car prices to increase 5% to 10% above inflation and a fifth of the respondents thought prices would increase by more than 10% above inflation.

Daimler’s biggest business is its Mercedes-Benz cars, which fall into the premium/ luxury segment. As such, the company will benefit from both of the above points: It will be able to grow faster than the overall industry and it will be able to drive margin expansion and profit growth through its pricing power.

Above-average financial performance for average valuation

Daimler is outperforming the auto industry, but this does not get reflected in its valuation. To illustrate, take a look at the below table:

Daimler Auto Industry
Sales growth rate (5-Year average) 10,5% 5,1%
Return on sales (Trailing Twelve Months) 8,3% 5,6%
Dividend yield (5-Year average) 4,4% 1,2%
P/E ratio 12,4 11,3

 Source: 2014 Fact Sheet;

Daimler has been growing twice as fast as the overall industry over the last five years. Its profitability is well above industry average and it is consistently paying out a higher dividend rate than its competitors. At the same time, its price-to-earnings ratio is very close to the industry average.

Compare this to the likes of General Motors (NYSE:GM) (FRA:8GM) — which has 7% sales growth, 2,6% return on sales, only one year of dividend payment history and a valuation of 21,7 times earnings — and Daimler will start to look cheap.

Foolish Conclusion

Even though Daimler shares have reached 15-year highs in the last few days, I believe the company remains a solid investment. The auto industry will stay on its strong growth trajectory over the coming years, and this growth will be even more pronounced in the premium segment. Daimler is in a great position to benefit from these trends and to further improve its financial performance. With valuation around industry average levels, Daimler provides a great opportunity for investors looking for stable growth and strong dividends.

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Miklos Szekely doesn't own any of the shares mentioned. The Motley Fool recommends General Motors.

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