Varta is known for their microbatteries that are used for hearing aids and in wireless headsets, and their consumer batteries. However, earlier this year the news broke that Varta also wants to produce batteries for electric vehicles in the future. Could Varta be an alternative bet in the very popular electric vehicle market?
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This analysis will be a bit different from what you are used to read in my blog. Varta has only been listed on the stock exchange since 2017, and because of that, I believe it is better to do a discounted cash flow analysis. So instead of using the principles I have learned from my Phil Town workshop, I use the principles I have learned from the GOAT academy. I should also mention that most of the numbers I use in this analysis is from Finbox, which I believe is a great tool to get different numbers from various companies.
I should mention that I do currently own Varta in my portfolio that you can choose to copy. I mostly know the company from their consumer batteries, which is natural as there is 80 % brand awareness of their household batteries in their key markets, in which EU is one. Despite owning Varta, I will keep this analysis unbiased.
Varta is a German company that describes themselves as company with business activities that encompass the development, production, and sale of microbatteries, household batteries and energy storage solutions in addition to research and development processes for these products. The company has existed for more than 130 years but didn't IPO until 2017. It should be noted though that they just bought back the household batteries division back in 2020. While most people know Varta from their household batteries it is their microbatteries and solutions segment that grows at a high pace, especially because of the demand of premium true wireless headsets, where Varta's CoinPower cells is the first choice for manufacturers such as Apple, Sony, and Samsung. The large brand awareness for their household batteries, and the status as the market leader when it comes microbatteries means that Varta has a strong brand moat.
Their CEO is Herbert Schein. He became the CEO of Varta in 2016 but has been a part of Varta for more than 25 years, where he held various positions. He has a degree in electrical engineering. He has been credited for the positive development of Varta, as Varta has become the innovation and market leader of small lithium-ion cells during his leadership. The Supervisory Board of Varta has been so impressed with his work that the unanimously decided to extend his contract ahead of time so his contract now runs until 2026. It is a bit hard to find much information about Herbert Schein, but he did come with some interesting things in an interview he did in 2018, where he mentioned that the battery sector is one of the most interesting sectors in the world, as the battery is the strategic component in most new products. He also said that research and development is some of the things he enjoys most in his job. When asked how he believes his employees will describe him, he said that he believes they would say that they can trust him, and that Varta for him is more than job, it is his life's work. Another interesting thing is that research that investigated the engagement rate of all HDAX CEOs on LinkedIn, showed that Herbert Schein is by far the CEO with the largest engagement rate of 26 % among his followers, while the one in the second place had an engagement rate of 11 %. Finally, if looking at the return on invested capital (ROIC) it shows that Herbert Schein has delivered a ROIC of 10,7 % in 2018, 15,5 % in 2019, 25,3 % in 2020 and 20,8 % in 2021. All in all, these things mean that I have confidence in the management of Varta.
I believe that Varta has a strong brand moat. And I feel confident about management as well. Later I will do a discounted cash flow model to calculate a price for Varta but before I do so, let us just have a look at some key financial metrics.
Down below we see some key financial metrics from the last 3 years. Remember that 2020 is a bit different than the other years, as Varta bought back the household batteries division, which is one reason we see such a growth in revenue. The revenue decreased a bit in 2021 but the gross profit margin improved, and almost hit the 2019 levels. The operating margin improved significantly and is now above what we saw in 2019. The higher margins resulted in Varta being more profitable in 2021 compared to the other years. It is of course a very encouraging thing to see if you hold or consider adding Varta to your portfolio.
Before we continue to the discounted cashflow model, I would like to investigate the risks and potential of Varta. Let's us start with the risks. One risk is the price of raw materials, if the price of raw materials rises, it will hurt the margins of Varta. And as the world looks right now, it is very likely that we will see higher prices for raw materials. The record high freight prices will also hurt Varta, even though they tried to deal with by new production sites in Eastern Europe, which will result in shorter distances from core markets. Another risk is price pressures from competitors that are located somewhere else in the world. Especially their Asian competitors have some labor cost advantages compared to Varta.
In my opinion there is also a lot of potential for Varta moving forward. One of them is energy storage, where Varta Storage Solutions gained further market shares in 2020. Varta believes that energy storage has huge growth potential moving forward, and they plan on capitalizing on it, and their goal in the future is to support households so they can sell their surplus energy on the market. Large lithium-ion cells are what I wrote about in the headline, Varta wants to produce battery cells for electric cars. Their goal is to make battery cells that can be fully charged in 6 minutes that will be used for premium and sports electric vehicle segments. They expect the pilot line for the new battery cells to be done in the end of this year, and if everything goes well, plan to start production in 2024. They also expect their microbatteries division to grow moving forward, as they see a clear trend from cell phone manufacturers that cables are the thing of the past. And to deal with the demand, they have built a new production plant with highly automatic production lines, so they will be able to deliver more microbatteries.
I have now investigated the financials, risks, and potential of Varta. I will now look at the price by doing a discounted cash flow model. To do so I will need some numbers that you can see below. The numbers are the 2021 numbers, which I could find at Finbox. However, the perpetuity growth rate and the discount rate are numbers I have come up with myself. The reason I chose 3 % as perpetuity growth rate is that it is usually a between the historical inflation rate of 2-3% and historical GDP growth of 4-5%. I decided to go with a lower option due to the current market conditions. The chosen discount rate of 12%, which is higher than in my latest analysis, where I used a discount rate of 10 %, which It is due to the current market conditions. Remember that all the numbers made in these calculations are in millions.
I also need to determine how much EBIT, Depreciation & Amortization and Net Working Capital will evolve over the next couple of years. I believe that Varta will grow their EBIT with 15 % year over year moving forward. It is way below the EBIT growth over the last 5 years at 72,1 % but a bit higher than the latest twelve months EBIT growth of 13,5 %. I believe that Depreciation & Amortization will grow with 15 % year over year moving forward, which is lower than the last five years of 75,1% and lower than the last twelve months of 45,7 %. Finally, we have the Net Working Capital. I decided to go with a Net Working Capital at a positive 60, which is the highest ever. Hence, the numbers I have used in the analysis are rather conservative. Unfortunately, I cannot find a smart way to share the whole sheet in here, but you get the numbers, so you can do it yourself. However, once I my calculations, I found that the intrinsic value of Varta to be 58 euros.
Having investigated Varta, I find the company to be interesting. I believe they have a brand moat, due to their market share and brand awareness. While I haven't been able to find much information about their CEO, I did like what I found. I also believe the ROIC is an indicator that he has done a great job, and I'm confident with him being able to grow Varta moving forward. Varta does have good margins, and while we might see some short-term pressure on those margins due to the cost of raw materials and freights, I still believe it is a healthy business. Varta also seem to have a lot of potential to grow their business both in their core business but also in new sectors. I will feel comfortable increasing position in Varta at the right price, which is at 50 % discount to intrinsic value at 29 euros.
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