Mercedes Benz Group (MBG GY for the local line or MBGYY US for the ADR) is a compelling investment at current prices.

The business is pretty well-known and the investment case is pretty straightforward so I'll try to keep it concise while also addressing a few of the less obvious elements and obvious pushbacks/debates.

Mercedes sold ~2m cars in 2023. Mercedes is the ~10the largest automotive OEM in the world (I use a ~ because it can bounce around between 9 and 11 depending on the year and the economic environment).

The average wholesale price per vehicle was €55k so Mercedes Benz Cars generated ~€110b of revenue in 2023. The unit's sales split 32% Europe, 17% NAFTA, 36% China and 15% RoW. The Mercedes Benz brand competes primarily against BMW and Audi as well as Lexus (more so in the US) and JLR (more so in Europe). The bulk of the ~2m vehicles are classic Mercedes cars but there are a few higher-end franchises nestled within the group. Mercedes sold ~200k vehicles in 2023 across Maybach (mostly in China), AMG (souped-up Mercedes cars) and G-Class (i.e. G-Wagons).

Mercedes has a strong franchise in vans serving both the private market (think people carriers for large families, taxis, etc) and commercial market (think man in a van). The van volumes typically split ~30% / ~70%, respectively. They sold ~450k vans in 2023 at an average wholesale price of €45k, generating ~€20b of revenue. Mercedes' van division is more geared to Europe (~60% of sales) than cars. The balance is made up by the US (~15%), China (~10%) and RoW (~15%).

Mercedes owns and operates its own captive financing arm which supports dealers and customers within both the cars and vans divisions. This business almost exclusively operates in Europe and the US, generating minimal revenues elsewhere. This division of the company had ~€145b of total assets and ~€14b of equity at YE23. It generated a 12% Adj. RoE in 2023. The company has guided to a 10-12% Adj. RoE in 2024 and consensus is sitting at ~10%. This compares to an average Adj. RoE of 15.5% across the five years pre COVID.

Mercedes used to be in the business of manufacturing heavy-duty trucks and selling them under several different brands (inc. Freightliner, Western Star, Mercedes-Benz, FUSO, BharatBenz and RIZON). The management team spun out this business as Daimler Truck on December 1, 2021. Mercedes retained 35% of Daimler Truck (30% within the industrial business, 5% within the pension plan). The stake was subject to a 1y hard lock-up (now expired) and a 3y soft-lock up (which will expire on December 1, 2024). The company has been very clear that the 5% within the pension plan is likely to stay there but that the 30% stake is not strategic and will be monetized and/or distributed when it makes sense. The 30% stake is worth ~€10b as of current prices.

Mercedes' industrial business (i.e. excluding the FinCo) is sitting on ~€34b of net cash, marketable securities and loans to the FinCo as of the end of Q1 '24.

If I've kept you interested enough to get this far, my guess is that you're now thinking something along the lines of the following… does this joker not realise that the OEMs are overearning, are bleeding market share to Tesla/Chinese OEMs, can't make an EV/AV and even if they do make any money in their dying ICE business, you're never going to see a cent because German OEMs will always prioritise spending money on random factories and/or engineering vanity projects over returning capital to shareholders and even if they run out of ideas, you'll still never see the money because they'll just keep piling it up on the balance sheet for "strategic optionality".

The wrinkle here is… I don't actually think any of those are true in the case of Mercedes.

The management team at Mercedes is a key part of why I believe that so I'll start with some time on them and their tenure before tackling the contrathesis' main tenets.

Mercedes got a new CEO and CFO in 2019. The new CEO, Ola Källenius, was a lifer having joined Daimler-Benz in 1993 as a trainee. Källenius is Swedish and was the first non-German ever to take on the role of CEO of the company (which was then called Daimler). Källenius was only 49 when he took over as CEO. The new CFO, Harald Wilhelm, joined from Airbus where he'd spent seven years as CFO. The checks on his time at Airbus have been excellent.

The management change triggered a change in the company's philosophy. Mercedes, under Dieter Zetsche (who was CEO from 2006 to 2019), had made growth (specifically, volume growth) a priority. Källenius' strategy (which he presented in 2020) was termed "refocus" and the core of it was to focus more on the desirability of the brand, the company's more profitable models and the company's more profitable markets (both geography and customer type).

Bear Case #1 Margins

From 2015 to 2018, MB Cars & Vans averaged ~8.7% EBIT margins. In 2025, that's expected to be 10.7% and it's then expected to more or less bobble around in that range thereafter.

That's 200 bps of margin expansion.

In 2019, MB Cars sold ~2.4m units and in 2024 MB Cars is expected to sell ~2.05m cars. If we look at BMW & Audi, their volumes in 2024 are expected to be similar to where they were in 2019 so we can hypothesise that the bulk of the volume declines in MB Cars, relative to 2019, is a function of the "refocus" strategy. If we assume that the volumes they shed were lower end products (which would typically be able to support LSD/MSD EBIT margins), the impact of giving up those volumes would be to lift margins by ~75 bps.

MB cars has not just shifted away from the low end. They've also shifted towards their truly premium products (AMG, Maybach, G Wagon) which have gone from ~10% of units in 2019 to ~17% today. If we use Porsche as a benchmark for the margin profile of these brands, the impact of this mix shift should be to lift margins by ~75 bps.

From 2015 to 2018, MB Cars sold 40% of its volumes, on average, in Western Europe. That number is likely to be ~30% in 2024 (and beyond). If we assume that Western Europe is 2% less profitable than the rest of the world, that mix-shift should have lifted margins by ~25 bps.

Taken together the mix shift towards higher ASP vehicles and away from Europe more broadly should be good for ~175 bps of margin expansion. That leaves ~25 bps to bridge.

The company has also undergone a fairly rigorous fixed cost cutting exercise over the same period (they claim "fixed costs" are already down 16% vs 2019 levels) which has contributed somewhat to the margin expansion. I'm generally sceptical of the sustainability of these out of the blue "hey we're going to just spend $100m less on stuff" programs but I am more willing to believe in their potency if they're associated with management change and even more so if that change is accompanied by strategic pivot towards lower growth.

The other strongest supporting argument I've been able to find here is within BMW's results. Their cars division is the least dissimilar listed business to Mercedes and their margins in 2024 are expected to be bang in-line with the 2015-19 average. The industry at large is no longer overearning (vs pre COVID) now that supply has normalised and demand has cooled. The margin expansion at Mercedes is idiosyncratic, driven by the above factors, and therefore I find the company's arguments that it will prove sticky, more credible.

Bear Case #2 EVs 

In 2023, MB cars sold ~240k BEVs (12% of total cars sold) and ~160k PHEVs (8%). 

MB released their first EV (the EQC) in 2019 so this is their fifth year of mass producing the vehicles. I'm not saying they're great at designing or producing EVs. I'm just saying they didn't start yesterday. 

They have their EQE model which can be summed up as the Model Y with a bit more luxury trim at a healthy premium. The reviews I've read suggest that it's a surprisingly good product and feels like a Mercedes should feel but that it is priced aggressively relative to what a Tesla costs.

The reality is that time is increasingly on their side here. BEV penetration within Mercedes' business has plateaued in recent quarters (10.3% of units sold in Q1 '24, flat Y/Y). This is in line with industrywide numbers for pretty much every major market ex China. 

Mercedes' China exposure is well concentrated within the premium end of the market where BEVs really aren't present. That will change over time but does give Mercedes a more defensible position (brand equity matters more + they have longer to figure out their EV roadmap). 

Bear Case #3 AVs 

Mercedes were actually the first OEM to sell an L3 autonomous car in the US (started late 2023 / early 2024). They've also been selling them in Germany since 2022. The big difference between L2 and L3 is that the OEM takes legal responsibility for the vehicle when in control of an L3 system. The feature set is not all that impressive and has several limitations (highway-only, daytime-only, clear weather, <40 mph). That said, Mercedes' willingness to stand behind the product should at least speak to their confidence in its reliability, albeit within its fairly narrow scope.

Mercedes partnered with NVIDIA in 2020 to develop their roadmap to autonomy. The vehicles powered by that technology will begin to roll off production lines in 2025 and the L3 systems are expected to be sold across the Western world (Mercedes has separate hardware partnerships for the Chinese market). I think it's way too early to handicap consumer willingness to pay for this type of products but management's comments in the past have implied that they're expecting AV "subscription" revenues to be in excess of $1b. The numbers to get there aren't crazy either. If you say there are 2m cars sold per year, there's a fleet of 20m <10y old vehicles on the road which will become addressable over time. If 25% take the product at $1k per year, that's still $5b of revenue per annum. 

I'm not going to spend much time on the pros/cons of their system vs FSD vs other similar products on the market. This is a very dynamic space. There's a treasure trove of reviews & comments on YouTube & Reddit if you want to spend that time. The key takeaway for me is that Mercedes has chosen an eminently competent core partner (NVIDIA) and are clearly not way behind the competition here, as of today. 

Bear Case #4 FCF Conversion 

The company's "refocus" strategy has benefitted not just margin but FCF conversion too. Instead of perpetually building new plants and adding capacity, Mercedes' strategy has enabled them to shutter higher cost locations and, in some cases, sell surplus factories. This has meant that, over the last three years, CapEx (net of PP&E sold) has almost exactly matched D&A. This is even more unexpected and impressive as it's been achieved despite Mercedes ramping BEVs from 2% to 12% of total units sold over the same period.

Bear Case #5 Capital Returns

This is where things get really interesting. In early 2024, Mercedes announced that they were instituting a new policy under which they would return 100% of industrial (i.e. ex FinCo) FCF to shareholders. This would be achieved by maintaining the dividend pay-out ratio at ~40% of net income and then putting the other ~60% of industrial FCF towards an ongoing share buyback programme. The company said that within the current authorization they expect to deploy €4.7b (7% of market cap.) over the next four quarters.

Valuation 

Mercedes generated ~€11b of industrial FCF in 2023. This is likely to be more like €8.5b in 2024. That equates to a yield of ~12.5% on the current market cap. That is going to come back to shareholders in the form of dividends and buybacks, implying that - at current profitability levels - you get the market cap back in ~8 years. Will Mercedes still exist in 50 years time? I'm not sure. Will it still exist and look vaguely similar to how it looks today in 8 years time? I'm pretty sure it will.

The more interesting framing is the SoTP. The Daimler Trucks stake is worth ~€10b or ~€9 per share. This is almost certainly coming back to shareholders over the next 12-18m. The FinCo book value of ~€13b equates to ~€12 per share. The net cash/equivalents of ~€34b equates to ~€32 per share. Taken together, these balance sheet assets are worth ~€54 per share. The current share price is €66, implying you're really paying ~€12 per share for Mercedes Benz Cars & Vans. That implies the market is paying just under 1x 2024e EBIT or 1.5x 2024e industrial FCF.

It's hard to frame upside/downside skew cleanly in a situation like this but I don't think it takes much squinting to see why it's excellent here. The substantial on-balance sheet assets and aggressive buyback program should combine to limit downside while the upside is likely to come via some combination of a rerating as the durability of earnings and capital returns becomes clear and/or the passage of time with the 12.5% div/buyback yield (+ Daimler Trucks monetization).