Fox Factory Holding Corp (NASDAQ: FOXF) is manufacturer of predominantly bicycle parts and vehicles parts, with some trivial involvement in accessories (eg. hats, socks, bottles associated with the Fox brand). In both vehicle parts and bicycle parts, FOXF's most meaningful involvement is in production and sale of suspension and shocks, which are sold to both 1) OEMs, in the making of bikes and various vehicles; 2) aftermarkets, to bicycles riders and vehicle owners purchasing for upgrades or replacements. FOXF reports its revenue by two divisions of Bikes and Powered Vehicles.

 

In the bike segment (40% of revenue and shrinking in proportion), FOXF produces mainly (front wheel) suspensions and (rear wheel) shocks, but also other performance-related cycling components including wheels, cranks, pedals, bars, stems, and seat posts. FOXF is particular prolific in suspensions for premium mountain bikes priced at over $3,000. For bike that retails at $3,000, COGS is $2,000, and 1/3 of COGS is suspension-related products. The company sells to all the top mountain bike OEM including Specialized, Trek, Giant, Orbea, Canyon Bicycles, Santa Cruz and Yeti Cycles. About 60% of of FOXF's sales in the bike segment are to OEM; the remaining are sold to aftermarkets, which has a relatively higher margin for FOXF. In suspensions, FOXF has what I ascertain to be decent pricing power because its products have always been favorably featured in mountain bike racing and are well regarded in the industry as often the best suspensions brand, followed by its trailing competitor RockShox. FOXF gross product margin for this segment is not explicitly disclosed, but has reportedly been stable in the low-30% range since the company migrated all of its production from California to Taiwan, where many of the bike OEMs / FOXF are located, shortening production lead-time and saving on logistics costs. Revenue for this segment has grown at ~10% from 2012 to 2019. When covid hit, demand skyrocketed to 30% CAGR for 2020, 2021, and 2022 as people turned to biking during the pandemic. In 2023, revenue declined 45% y/y as covid demand receded and retailer engage in the destocking of an over-saturated inventory. FOXF maintained guidance that this segment will grow at a mid-to-high single digits rate on normalized pace.

 

In the powered vehicle segment (60% of total revenue and growing in proportion), FOXF conducts 2 businesses. The first business is selling suspension products for trucks, ATVs, snowmobiles. These are sold to OEMs and in the aftermarkets. The second business is truck upfitting; this is essentially selling souped up trucks; FOXF entails buy truck chassis (such as Ford F-150) directly from OEMs, build out a customized version of the trucks and then sells the truck to dealers as pimped out editions of the normal trucks models. Over the past 10 years, the powered vehicle segment has been the growth driver for FOXF. Revenue CAGR is 28% from 2012 to 2023. A few acquisitions along the way has fueled this growth.

 

Debt burden is very light. Capital structure is 75% equity on book value. As of Q3/23, net debt of $100 million (~0.4x EBITDA) comprise of $190 million line of credit (5.3% interest) offset by $90 million of cash. Company's entire debt capital is the $650 million line of credit (currently 30% drawn) expiring Apr 2027. Interest rate is 5.31% in Q3/23 (SOFR + 0.1% + range of 1-2%). The low interest cost seems to reflect banker's view of low credit risk.

 

The stock had IPOed in 2013, then took a parabolic run up from $15/sh in 2016 to $190/sh at the end of 2022. The run up was propelled by 1) gross margin growing from sub-30% to 33% because FOXF punctually executed on migrating bike suspension manufacturing from California to Taiwan, and then migrating auto parts manufacturing plant from California to Georgia; 2) To the dismay of shorts, the company transitioned to a more automotive parts/aftermarket manufacturer and kept expanding contracts to supply suspension/parts to OEMs for new ATVs and trucks (aka. adding nameplates); 3) benefiting from a surge of bike demand during covid when people turned to outdoors/biking activities.

 

At the end of 2021, the market started to anticipate the evaporation of covid-boosted demand for new bikes (in turn FOXF's bike suspension parts). Bike demand became really saturated, causing the ensuing aggressive destocking at retailers and OEMs, in turn sapping order at FOXF. FOXF really felt the de-stocking effect in Q4/22. 2023 has been a bloodshed for the stock on reduced guidance and continued weakness in the bike segment. In the latest blow, FOXF tumbled 40% following Q3/23 earnings that reduced 2023 full year guidance by 15% and was 7% below then consensus. This reduction stemmed from continued destocking in bikes and US automaker union strikes which also impinged on the automotive segment for H2/23.

 

Now the stock is trading at its lowest valuation since IPO.

 

Recovery in bike segment. The aggressive destocking in bikes that precipitated 45% y/y decline of bike revenue in 2023 is likely to end sometimes in 2024 as retailers clear out inventory and have to order sufficient 2024/2025 models regardless of existing inventory obsolescence. This recovery of the bike segment is starting to get factored into the stock as consensus for 2024 bike segment revenue has already moved up 7% higher since November 2023 (FOXF's calamitous Q3/23 earnings). Management had guided to a soft H1/24 but stronger H2/24 based on there had been 10 months of inventory at retailer level in Nov 2023 and retailer's desired inventory of 3 months, but the last channel check I had also indicated that for mountain bikes, inventory has been clearing quicker than it has for conventional road bikes. I think mountain bike segments destocking could end sooner in H1/24, possibly in Q1/24. This is positive for FOXF which is predominant in suspension for high end mountain bikes than in other categories of bikes. Consensus currently estimates Q2/24 will see revenue $107 million - on par with Q2/23. This would imply that Q2/24 will see another 40% decline from Q2/22 peak of sale of $177 million. However, if destocking is truly winding down in H1/24, sales should be higher than that in H1/23 when destocking had just begun, so I think FOXF Q2/24 bike sale alone could be $10 million higher than consensus. That alone is a 2% beat on consensus estimate for bike revenue for the FY2024. While such a slight beat alone isn't significant, a recovery in demand that drives a Q2/24 beat could pave way for H2/24 beat as well. On the other hand, if mountain bikes do not end destocking in Q1/24 or H1/24, the market shouldn't be caught off guard as the current sentiment for bikes is still very bearish and consensus is pretty much there assuming another rather abysmal year.

 

Auto-business can still grow double digits for next several years if not another decade. The auto business has CAGRed at 27% over the past decade. Though there were some acquisitions that boosted the growth, organic growth has nonetheless been strong. The business today is comprise of selling of 1) souped up trucks to retailers; and 2) suspensions/components to OEMs and aftermarkets. Even with auto worker strikes at OEMs that sapped orders at FOXF, 2023 revenue will grow 18% y/y. For the past several years, shorts have argued that FOXF's autobusiness growth will slow because adding new nameplates (aka. becoming a contracted suspension supplier of a OEM's model of trucks) cannot be sustained. The results have proven shorts wrong over and over, with FOXF continually adding new nameplates. FOXF also said it's continued to exercise price hikes on its products and OEMs are also less demand elastic, so can take the hikes. FOXF's new truck upfitting business (selling souped up trucks) also continues to be a growth venue. Its customer is in the higher income bracket, and their demand is more resilient in recessionary environment. FOXF upfitted trucks are currently only in 2,000 retailers in US. There are 10,000 retailers in the US. Though it's unlikely and probably counterproductive for FOXF to be in all 10,000 retailers, I'd argue that the optimal number of retailers coverage is still far above the current 2,000. IOW, FOXF can still add to upfitting trucks organic growth by signing with more retailers. The business is also higher margin, further supporting growth. It's hard to quantify what future CAGR would be, but conservatively this figure should be at least 10% going forward for another 5 to 10 years (vs. 10 year historical CAGR of 28%) given the potential growth of the upfitting trucks business + FOXF's demonstrated track record of adding nameplates with OEMs + exercising price hikes.

 

Still some mileage on gross margin expansion. Specifically, FOXF's completed migration of auto-parts manufacturing from California to Georgia should still provide some uplift to margin, by another 100-200 bps, so gross margin can reach 35% in the next few years. The genesis of this migration began in Oct 31, 2018, when FOXF bought land in Georgia to expand auto-parts manufacturing from California. The transition eventually completed in Q4/21 but some inefficiency kinks were still being sorted out in 2022. Then 2023 hit FOXF hard in the bike department and in H2/23 auto-business was also disrupted by auto-worker strikes at car OEMs that in turn sapped demand for FOXF auto-parts. Both these developed weighed on FOXF's overall margin. Yet overall margin has stayed resilient, dropping from 33.2% in FY2022 to what I estimate to 32.8% in FY2023. Management also did not talk about auto-business margin gains from Georgia migration in 2023, perhaps because these other pressing development had distracted or stymied Georgia's facility efficiency work. In any event, we know that Georgia facility was still sorting out kinks so margin expansion were not done in 2022. In 2023, even with headwinds in both bike and auto business, margin still held up to almost 33%. With both auto and bike recovering in 2024 from the end of auto worker strikes and bike destocking ending, margin for 2024 (and dare I say 2025) should be buoyed.

 

FOXF well positioned to capitalize on e-bike growth. This one is more for the upside scenario. The biggest growth segment within bikes is e-bikes, which has already caught on for several years in Europe. US riders have been slower to this e-bike party but are gradually catching on. To win in the bike segment, the new frontier vital for commercial success is the e-bike market. Thus far, competitive dynamic is still not crystalized yet, so FOXF can become a leader in providing parts/suspensions in this market. My check points to FOXF along with its key competitor RoxShox already making headways in this space. In covid, because FOXF suspension were in short supply RoxShox took market share, but the competitive edge in this category goes to innovation, and FOXF has been out innovating RoxShox, so I believe FOXF is poised to retake market share / become a market leader in this space as supply chain disruptions resolve. It's hard to quantify figures right now, but FOXF has long guided to mid-high-single-digits CAGR for the bike parts/suspension segment. If FOXF e-bike segment can catch on, CAGR should be easily rise above 10%. Keep in mind that FOXF has pricing power and stable margin in the bike business, so 10% CAGR + stable margin of mid 30% is a business that should not fetch at 8x EV/EBITDA.

 

Bikes suspension manufactured in Taiwan. The migration of manufacturing from California to Taiwan in 2013-2015 make sense because many of FOXF's bike customers are in Asia/Taiwan, so lead time is greatly reduced from having the manufacturing plant near many of your customers. But this comes with its own set of geopolitical risks. With Taiwan now being a point of contention in global geopolitics, trouble in the Asian straits may disrupt FOXF's business.

 

Limitation of adding new nameplates in auto-business. A significant chunk of auto-business revenue growth has been fueled by FOXF adding more nameplates with OEMs (IOW, becoming a contracted auto/suspension parts supplier for OEMs in manufacturing of a car model). This nameplate add has given FOXF chunks of new growth every year that will not be repeated in Year 2. There will be a limit to how many nameplates that FOXF can add. The ceiling hasn't been reached yet, but when it does, growth will slow by a meaningful portion. Further, FOXF's OEMs revenue yield lower margins than that of aftermarket revenue, so nameplate revenue gain will come with the offset of lower margin. It's hard to quantify how this will impact bottom line.

 

New acquisition, Marucci sports business. In Q3/23, FOFX announced it's acquired Marucci for 11.5x trailing EBITDA ($500mm). This is a baseball bat producer, from FOXF previous PE owner compass diversified. EBITDA margin of 25%. Multiple paid is in line with previous businesses bought. expects synergies on vertical integration in supply chain, batwood manufacturing. Synergies from raw materials and sourcing side as Macurcci bats are made of aluminium, composites, as are FOXF products. Pro-forma leverage will be 2.1x. There is no guarantee at this point how this business will perform.

 

Short term bike buy destocking to continue. The biggest overhang on FOXF remains the destocking/weakened short term revenue prospects in the bike segment (selling suspensions and other bike parts). The company is guiding to this overhang lifting in H2/24; I'm see a a more protracted destocking period, ending sooner closer around Q1/24, but if the destocking continues into H2/24, then the stock can take another dip as the market fretting on an already negative problem may intensify.

 

FOXF is now trading at its lowest valuation since IPO. With the US autoworker strike ended and bike de-stocking likely to end in summer of 2024, topline growth should be at least low double digits going forward. This stock should not be trading at ~8x current year EBITDA.

 

I think this deserves to trades at least 10x EV/EBITDA, which suggests a 20% upside. A reasonably higher level I think is probably around 14-15x, in line with where FOXF had traded when it was deemed a high single-digit CAGR bike business with an auto business that weren't as proven as now. Now that rates are likely coming back down, and auto-business still going strong + bike business still holding a high-single digits CAGR outlook intact, I think it's reasonable for this to fetch a low-mid teens EBITDA multiple again. Even at a 13.5x EBITDA multiple, there is a 65% upside.

 

As for downside, I really don't see much further slide since FOXF is trading at its trough valuation since IPO. Unless there is permanent/secular impairment in the bike or auto business. The bottom in valuation is shallow at this level.

 

 

Q4/23 earnings. This should provide a concrete sense of 2023 finale and provide 2024 guidance that I think could be more bullish.

 

Announcing of new nameplates in auto-business. I'm quite bullish on the prospects of the auto-business. FOXF is a quality supplier for suspensions, new nameplates announcements should boost the stock.