May 2, 2024 - BWA

BorgWarner's Hidden Gem: The Unexpected Profitability Powerhouse Fueling Electrification

BorgWarner, a company known for automotive innovation, has been actively involved in the changing landscape of powertrains. While the world focuses on the rapid growth of electric vehicles, a less obvious but potentially more significant story is emerging from BorgWarner's financial reports – the strong performance of their traditional combustion and hybrid products. This hidden strength, as seen in both the Q4 2023 and Q1 2024 earnings call transcripts, suggests a hidden gem that could exceed market expectations and accelerate the company's transition to electrification.

The current narrative surrounding BorgWarner centers on their ambitious "Charging Forward 2027" plan, with a strong emphasis on the growth and profitability of electric products. However, recent transcripts reveal a compelling counterpoint: the company's foundational combustion and hybrid products are showing unexpected resilience and profitability instead of becoming obsolete. This strong performance is driving impressive incremental margins, surpassing projections and contributing to the company's overall growth.

Consider the evidence. In Q4 2023, despite lower-than-expected electric product sales, BorgWarner's adjusted operating margin and operating income surpassed the midpoints of their June guidance. This was primarily due to sales of foundational products, which exceeded expectations, highlighting the continued relevance of these product lines. The trend carried over to Q1 2024, where BorgWarner achieved organic sales growth of nearly 7% and an impressive all-in incremental margin of 23%, despite a slight decline in the industry.

This strong performance is not just a coincidence. BorgWarner's management has strategically developed a product portfolio that effectively blurs the lines between combustion, hybrid, and electric vehicle technologies. As emphasized by Fred Lissalde, BorgWarner's CEO, "We are focused on efficient powertrains." This strategic approach has resulted in a remarkably adaptable product portfolio, where engineering expertise, research and development investments, and even production lines can seamlessly adjust to varying degrees of electrification.

This adaptability is crucial to understanding BorgWarner's hidden strength. As the powertrain transition progresses in unforeseen ways, the company is uniquely positioned to take advantage of different scenarios. If the combustion engine remains in use for a longer period, especially in markets like North America, BorgWarner is set to benefit significantly from the healthy margins of their foundational product lines. On the other hand, if hybrid vehicles become more widely adopted, the company can leverage the same engineering resources, modular designs, and manufacturing infrastructure to meet this growing demand.

The figures paint a compelling picture. BorgWarner estimates an average content opportunity of around $550 per combustion vehicle globally, with North America having the highest content opportunity among major regions. This suggests a potential boost to sales, margin, and cash flow if the combustion engine lasts longer than anticipated. Moreover, their 2023 foundational revenue of roughly $12 billion demonstrates the considerable scale and profitability of these product lines.

"Luca Maestri, BorgWarner’s CFO, acknowledged the burgeoning significance of emerging markets in the May call, stating, “We can utilize the expertise of both our portfolios to support our customers which we are already doing successfully in Europe and in China.”"

Foundational Revenue Growth vs. eProduct Revenue Growth

The following chart illustrates the revenue growth trajectory of BorgWarner's foundational and eProduct lines. While eProduct growth is projected to be strong, the resilience of foundational products is noteworthy.

While some analysts may be preoccupied with the potential fluctuations in electric product sales, BorgWarner's recent performance indicates a more complex story. The company's focus on efficient powertrains and its strategically designed adaptable product portfolio are quietly unlocking a hidden gem – the remarkable profitability of their foundational combustion and hybrid product lines. This underappreciated strength could significantly surpass market predictions and act as a powerful catalyst for BorgWarner's sustained growth and electrification journey.

"Fun Fact: BorgWarner's turbocharger technology, originally developed for racing applications, is now found in millions of passenger vehicles worldwide, contributing to improved fuel efficiency and reduced emissions."