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PACCAR Stock: Not Worth the Price Tag
Stock Analysis & Ideas

PACCAR Stock: Not Worth the Price Tag

PACCAR (PCAR) is a manufacturer of medium- to heavy-duty trucks which are sold internationally. We think PCAR is a great company, but we are neutral on the stock due to its valuation.

Measuring Efficiency

PACCAR needs to hold onto a lot of inventory to keep the business running. Therefore, the speed at which a company can move inventory and convert it into cash is very important in predicting success. To measure its efficiency, we will use the cash conversion cycle, which shows how many days it takes to convert inventory into cash. It is calculated as follows:

CCC = Days Inventory Outstanding + Days Sales Outstanding – Days Payables Outstanding

PACCAR’s cash conversion cycle is -23, meaning the company converts inventory into cash before having to pay suppliers. Basically, PACCAR doesn’t have to put up any money to finance inventory purchases because it can move its inventory and collect the payments while still on credit. Thus, PACCAR’s suppliers are essentially financing its operations.

However, it’s important to note that this negative CCC number is not the historical norm for the company. In 2020, the figure was 20 days as it was impacted by COVID-19. The reason why the CCC fell so much in 2021 is because the days payable outstanding number increased significantly from 28 days in 2020 to 71 days in 2021. This means that suppliers allowed PCAR more time to pay them back.

However, prior to the pandemic, this figure consistently hovered between 11 to 15 days, which is quite impressive considering that the company is in the business of selling heavy machinery. Therefore, it is reasonable to assume that the cash conversion cycle will eventually revert back to the historical range.

Dividend

PACCAR currently has a 3.02% dividend yield, which is above the sector average of 1.34%. When taking a look at its 2021 free cash flow figure of $554 million, its $708 million dividend payment looks to be in trouble.

However, it’s important to remember that PCAR is a cyclical company. Therefore, it would be more appropriate to look at its average free cash flow over the past five years to determine if the payout is safe. When doing so, we see that PCAR has averaged free cash flows of over $900 million per year, meaning that the current payout is indeed safe.

Taking a look at its historical dividend payments, we can see that its yield range has trended downwards in the past several years.

At 3.02%, the company’s dividend is near the low end of its range, implying that the stock price is trading at a premium relative to the yields investors have seen in the past.

Valuation

To value PACCAR, we will use a single-stage DCF model because its free cash flows are volatile and difficult to predict. For the terminal growth rate, we will use the 30-year U.S. Treasury yield as a proxy for expected long-term GDP growth.

Our calculation is as follows:

Fair Value = Five-Year Average FCF per share / (Discount Rate – Terminal Growth)
$70.05 = $2.69 / (0.0607 – 0.0223)

As a result, we estimate that the fair value of PACCAR is approximately $70.05 under current market conditions.

Wall Street’s Take

Turning to Wall Street, PACCAR has a Moderate Buy consensus rating, based on four Buys, four Holds, and one Sell assigned in the past three months. The average PACCAR price target of $100.33 implies 6.7% upside potential.

Final Thoughts

PACCAR runs a highly efficient business as it is able to convert inventory into cash quickly, despite the CapEx-heavy nature of its business. In addition, it has a relatively decent yield for investors that are looking for income.

Nevertheless, we believe the stock to be overvalued both from a historical dividend yield perspective as well as a single-stage DCF perspective. As a result, we remain neutral on the stock.

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