The Goodyear Tire & Rubber Company (GT) is one of the world's largest tire companies, employing 72,000 workers at 57 facilities in 23 countries around the world, notes analyst Garrett Nelson in CFRA Research's flagship newsletter, The Outlook.

In June 2021, GT acquired Cooper Tire & Rubber Company in a $3.1 billion cash and stock transaction. We liked the acquisition, as Cooper generated significantly stronger margins than Goodyear and the deal increased GT's exposure to higher-margin replacement tires

The ongoing realization of merger synergies has also been a tailwind over the past year. In fact, last November, GT raised its estimate of the run-rate synergies from the acquisition it expects to realize by mid-2023 to $250 million from $165 million.

Investor sentiment toward GT shares has been hurt by the steep drop in global auto production and sales, as worldwide vehicle sales were down 7.8% in the first seven months of 2022. Fortunately, GT is much more levered to the higher-margin replacement tire market (79% of total sales volumes last year), where we expect demand to stay strong.

Goodyear's recent execution has been outstanding despite rising raw materials costs, as evidenced by the fact its earnings have now beaten consensus in each of the past nine quarters (the company's last earnings miss was in Q1 2020).

Goodyear is coming off a quarter in which it posted 44% Y/Y growth in adjusted EPS ($0.46 vs. $0.32 and well above the $0.35 consensus) in Q2. The beat was driven by a stronger-than-expected top line and margins, as revenue rose 31% to $5.21 billion ($230 million above consensus) and operating margins expanded 10 bps to 6.2%.

In short, GT has managed to grow its bottom line in the face of inflation through higher sales volumes and price increases. We see adjusted EPS trending from — $1.91 in 2020 and $2.09 in 2021 to $1.80 in 2022 and $2.25 in 2023. GT's liquidity position is solid, as it had untapped credit facility availability totaling $3.21 billion at the end of June.

Finally, we think the stock's recent underperformance has created a compelling entry point and we think GT might benefit from mean reversion. So far in 2022, GT shares have fallen 48% versus a 23% decline for the S&P 500, making it one of the worst performing names in our North American automotive coverage universe.

Our 12-month target price of $18 implies a 2023 P/E multiple of 8.0x, a justified discount to GT's five-year mean forward P/E of 10.1x given recessionary risks. The stock now carries CFRA's highest recommendation of 5-STARS, or Strong Buy.

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