Toyota, Rocked By Currency And Local Scandal, Still Looks Strong

Toyota shareholders are used to the world’s biggest automaker sailing serenely through the roughest seas while its competitors seek sanctuary in calmer waters.

But Toyota has been blindsided by a couple of black swan events. Its long-term advantage from the yen’s weakness on foreign exchange markets might be over, while a local scandal involving safety certification irregularities has slashed sales on the home market.

Toyota has a habit of turning crises into advantages. The company has been criticized for its slow embrace of electric vehicles. But now it looks to be the smartest (or luckiest) kid on the block as its global competitors like GM, Ford, Volkswagen, Mercedes and Volvo rush to slash electric vehicle production as demand evaporates, while Toyota’s long-term lead in hybrid motors pays off big-time. In the U.S., Toyota hybrid sales rose 50% in 2023.

Toyota reported operating profit for the first quarter ended June 30 rose 17% compared with the same period last year to the equivalent of just over $8.4 billion, with the weak yen accounting for most of the increase, according to Reuter’s Breaking Views column. But the currency’s value has changed direction.

Meanwhile public disquiet in Japan about the company’s certification process over about 10 years has emerged, stunting demand there.

The Financial Times Lex column said sales weakness in important global markets has joined worries about foreign exchange and the certification scandal to spook investors.

“Earnings growth in the carmaker’s latest quarter was the weakest in seven quarters; group-wide sales fell 4.2% to 2.6 million vehicles. Steep declines in Toyota’s vehicle sales in key markets including Japan and China set alarm bells ringing. The automaker maintained its forecast of 4.3 trillion-yen profit for the full year, disappointing analysts expecting an upgrade,” said Lex.

But the biggest risk is that the earnings uplift from a weak yen may not last. According to Lex, the central bank has signaled the possibility of further interest rate hikes, sparking a yen rally and a sharp sell-off in the shares of Japanese exporters.

Breaking Views said not only is Japan raising interest rates, which boosts the value of the yen on foreign exchange markets, the U.S. is expected to move in the opposite direction, adding upward pressure on the yen. This is bad news for Japanese corporate earnings and share prices because 20% of revenue is generated overseas.

“A stronger yen is a problem shared for Japan Inc and for companies like Toyota, it leaves little room to hide,” Breaking Views said.

Investment bank UBS isn’t convinced the omens for Toyota are all bad, after noting demand for hybrids was strong in the first quarter and Toyota’s operating margin was over 11%.

“The announced results did allow us to confirm that there is potential for profit margins to rise due to volume growth and mix improvement, even in an environment in which industry-wide profit margins are expected to fall due to intensified competition over the medium term. It is hard to tell when profit growth might be reflected in the share price and our rating is “neutral”,” UBS said in a report.

Toyota’s share price dived about 35% from early July to early August, but has recovered some 13-1/2% over the last few days.

Fitch Solutions’ CreditSights has been reviewing Toyota’s prospects and doesn’t like its expectations of a 20% decline in operating profit for the current fiscal year ending in March 2025 or the implications of the certification scandal.

“(the profit outlook ) and its recently broadened vehicle certification scandal that tarnishes its reputation could weigh on consumer demand for its vehicles,” CreditSights said in a report.

The scandal so far though has only domestic sales implications for Toyota, although as the scandal widens, the likelihood of production disruption is increased.

The FT’s Lex pointed out that even with the sharp drop in the share price, Toyota’s financial credentials compared with Volkswagen’s, still look strong.

“Even now the stock trades at nine times forward earnings, more than twice the valuation of rival Volkswagen. The task of hanging on to that premium – and its record earnings streak – has just become tougher as monetary policy shifts at home,” Lex said.