Should we buy a Ferrari?

Ticker: RACE

Dear Investors,

When I said should we buy a Ferrari, I meant the stock.

If you are buying the car, no objections here.

But, let’s see if we can tempt you to enjoy the exhilaration of a rising share price over the acceleration of the car.

Sincerely, Raj

Legend has it that Enzo Ferrari only sold cars to finance his love of racing. Ferrari’s Formula 1 team is the only one to have competed in every single Formula 1 race ever. Nothing epitomises Ferrari’s commitment to racing more than their ticker – RACE. Most companies abbreviate their ticker from their name - not Ferrari. Even their ticker tells you what’s in their DNA.

But Ferrari is more than a car manufacturer. They are also a luxury brand. About 10% of their revenue comes from sponsorships, merchandising and royalties.

Is Ferrari an extraordinary company?

At ROA, we are only interested in owning extraordinary companies. Is Ferrari extraordinary?

One of the key markers of an extraordinary company is its ability to earn profit from its operations that is enough to compensate for the opportunity cost of investing in the company.

Opportunity cost is a fancy way of saying – I could have done something else with the money, but I put it in your company, did you earn a decent return?

Think of the opportunity cost as a hurdle that the company has to keep jumping over, year after year.

If a company earns a return in excess of the hurdle, great, it is creating extra value for its shareholders. If it earns exactly the same as the hurdle, the excess is zero and that is fine, it is still giving a fair return. If it earns below the hurdle, no good. You could have done better somewhere else.

In mature industries, companies earn the fair return because competition has reduced excess return to zero. You might expect that to be the situation in the automotive industry. It might be happening, but not to Ferrari.

On average, Ferrari earns excess return of 12% per annum. That is excellent, because 0% is what we expected for the industry.

Ace up their sleeve

Another interesting trick which Ferrari is able to pull, is to have negative investment in working capital.

In simple terms, what that means is that Ferrari buys parts, manufactures a car and sells the car before it has to pay its suppliers.

Most companies cannot do this. They have to pay for things before they can sell them. Some retail stores do pull this off. Suppliers put things on their shelves and it gets sold before they have to pay the supplier. But this is not the norm.

This is an ace up the sleeve for Ferrari because they get a bit of free financing. And who doesn’t love free financing?

Company performance stats

Ferrari’s return metrics are above average:

  • Return on invested capital = 22% (Index = 11.67)

  • Return on assets = 15% (Index = 4.8)

  • Return on equity = 45% (Index = 17.7)

  • Debt to equity ratio = 0.9

Share price return

Ferrari’s share price returns have been pretty spectacular:

  • 1-year: 70%

  • 3-years: 21%

  • 5-years: 28%

Valuation metrics:

  • Price to earnings = 51x (Index = 7.6x)

  • Price to book value = 21x (Index = 1.1x)

  • Price to cash flow = 37x (Index = 4.9x)

  • Dividend yield = 0.54%

Ferrari appears to be highly valued, but remember, it is an extraordinary company and those companies are more expensive than the average, which the index represents.

Are we buying? Maybe. You can follow the portfolio and get notified if we do.

My favourite Ferrari

Perhaps the most important question of all. What is my favourite Ferrari?

It’s the SF90 Spider:

  • Price: $580 000

  • Engine: 4.0 litre twin-turbocharged V8 + 3 electric motors

  • 0 to 100 km/h: 2.5 seconds

  • 0 to 100 mph: 5.0 seconds (161 km/h)

  • Top speed:  340 km/h (211 mph)

Ferrari SF90 Spider

One Ferrari share costs $367. A bargain in comparison. If you cannot afford the car, perhaps trade acceleration for exhilaration and consider owning the share.

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