Ferrari. Equity Research!
Exclusivity, Success in a bottle (car), and True Luxury!
The Sexiest Company in the World, that’s quite a bold statement. One can argue there are more “sexier” companies, or how can an 80-year-old car manufacturer be “sexy”? I promise that this moniker will seem appropriate by the time you will have read this report.
Table of contents
1. The Story of Ferrari
From humble beginnings in Modena, Italy Ferrari has become one of the world's most famous global brands, known for its fast cars, slick designs, and luxury. The Ferrari logo is as iconic as the company itself and is one of the most recognizable logos in the world.
“The Prancing Horse symbolises exclusivity, performance and quality all over the world.Our prestige is built upon decades of sporting success and the inimitable style of our cars, which are unique in their innovation, technology and driving pleasure.We craft exclusive, authentic and memorable experiences for our clients in everything we do.” - Ferrari About us
What is the business of Ferrari? And no, this is not a dumb question. Yes, at first glance, it might seem obvious, they sell automobiles. However, if one looks under the hood, it becomes apparent that the automobile is a delivery mechanism with whom the true product is sold. Ferrari sells Exclusivity, Success in a bottle (car), and True Luxury. It’s an absolutely beautiful delivery mechanism.
Exclusivity
The company is notoriously secretive about the exact sales numbers of particular models, what we do know is that in 2023 they sold 13.663 new cars. Globally there were around 68 million cars sold in 2022. With a minuscule market share, Ferrari volumes are a rounding error for the global market. However, Ferrari the company is anything but a rounding error.
Ferrari are masters at understanding the concept of artificial scarcity. Ferrari “812 Competizione” starts at 600.000 EUR. Well, I am not being exactly honest, you see there were only 999 cars built and they are all sold out. So even if one was so inclined to part ways with 600.000 EUR, unfortunately, they need to look elsewhere.
One of the most well-known and understood principles in economics is the relationship between supply, demand, and price. As the classic picture below illustrates, the price of a good is determined by the supply and demand of said good.
High demand and low supply leads to high prices. Low demand and high supply lead to low prices. Low prices increase the demand, whilst high prices reduce the demand. Price always shifts to create equilibrium between supply and demand under which all supply is sold. The equilibrium point is always moving as high prices incentivize higher supply, higher supply results in a price reduction, and reduced price leads to less supply and the cycle continues.
The demand and supply curve only works if neither demand, supply, nor price is artificially limited. Price controls lead to good shortages, as without higher prices, suppliers are not incentivized to increase supply to meet the demand. Another example is OPEC, recently this cartel of certain oil-producing nations agreed to cut oil production, with the hope that lower supply will create oil scarcity, thus increasing prices.
Ferrari is using this relationship between supply and demand to their advantage, by artificially limiting supply Ferrari is keeping the prices high, whilst maintaining high demand for their luxury cars. This is artificial scarcity at play.
The Cambridge Dictionary defines scarcity as “a situation in which something is not easy to find or get”. The goal of artificial scarcity is to keep the supply low, essentially creating a state of scarcity. There is no “real” reason why only 999 “812 Competizione” were made. Ferrari has the technical capability and capital to manufacture 10.000, 50.000, or even 100.000 models. With higher volumes economies of scale would allow Ferrari to cut costs significantly. This is the common manufacturing way.
Yet that is not the approach Ferrari has chosen. The reason why Ferrari is not ramping up production ASAP is precisely because Ferrari is not a common automobile manufacturer. If 50.000 812 Competizione came off the production line not only the price would decrease, but Ferrari would also lose what makes them so special, what really drives people to pay hundreds of thousands, Ferrari would lose their Exclusivity.
Success in a bottle (car)
Enzo Ferrari was famously a race car driver. In 1929 he founded a racing team “Scuderia Ferrari” to participate in various races. At first, the team used cars manufactured by other companies, but after various disputes, Enzo decided to go on his own. To raise funds for his team, Enzo had the great idea to sell cars to the public, thus in 1947 he began selling Ferrari-branded cars.
Since then, “Scuderia Ferrari” has become one of the most famous and respected car racing teams in the world, participating in Formula 1 since its inception in 1950, winning more championships than any other team. Enzo’s passion for the sport and his drive towards excellence and performance can be felt by each Ferrari driver today. And in a sense, this is what Ferrari really sells, what “Ferraristi” pay ungodly amounts of money for.
When one is sitting behind the wheel of a beautiful, powerful, and fast Ferrari, one imagines oneself at a racetrack and feels the roars of thousands of spectators, cheering, waiting for them to cross that finish line, to stand on the podium popping champagne bottles. Ferrari sells a feeling of success in a bottle (car).
True Luxury
Wealthy people for thousands of years have been seeking to acquire rare, unique, and luxurious goods. Nowadays there are more wealthy people than ever, according to the UBS 2023 Global Wealth report, there are 59 million people whose assets exceed 1 million USD. Increasingly this new cohort of rich people is looking to acquire more and more luxury goods.
But what is a luxury good? Obviously, luxury goods are expensive, and price is the biggest difference between a normal product and a luxury one. However, there are other innate qualities that define a luxury good. The perceived quality of a product is what drives sales, to achieve higher perceived quality companies use higher quality inputs that in theory should increase the useful life of a product and have superior performance.
Furthermore, the design of a luxury good often has more emphasis on aesthetics rather than practicality. However, arguably the most important feature of a luxury product is a strong brand. To cultivate brand image luxury goods companies, spend large sums on marketing and public relations. In hopes of convincing customers of the innate qualities of their products.
Many would argue Ferrari clearly checks all the boxes of a luxury product. The cars are extremely expensive and even in some circles Ferrari is considered to be a piece of art, carefully crafted, thoughtfully designed, and eternally elegant. Hard to argue with that.
However, I believe Ferrari is rather a True Luxury company.
True Luxury goes beyond the opulence of ordinary Luxury and seeks to provide an unparalleled sense of unique authenticity and an eternal state of tranquility. Most importantly true luxury is rare and invokes emotions in people. The process of buying a new Ferrari is long and detailed. The lead times for a regular Ferrari can be up to 2 years, if one wishes a custom or a limited-edition Ferrari 4 to 5 years are to be expected. There might be only a couple hundred limited edition models manufactured. It’s no surprise Ferraris are prized possessions of collectors and museums. I can only imagine what emotions the delivery of a long-awaited 800.000 EUR Ferrari would create in a customer. The sensation at the moment of delivery and during that first drive, the feeling of True Luxury, is the real product for sale by Ferrari
Cars
Ferrari operates in the performance luxury sports car market, thus the company targets customers willing and able to pay above 150.000 EUR for a vehicle. Prices for individual vehicles are generally location-dependent, taxes, import duties, and local market dynamics are all factors in determining the price. However, Ferrari recognizes that to have a piece of Ferrari in their garage customers are willing to part ways with significantly larger sums of money. Thus, there are 5 general categories of automobiles in their line-up. Range, Special Series, Icona, Supercar, and custom cars. Each has its unique characteristics and is geared towards a different customer set.
Range is the largest category, other categories have only one or a few models in them. In the picture above from their 2022 annual report, we see that they come in different shapes and colors. These cars are highly customizable and can cost upwards of 500.000 EUR and higher.
The Special Series “812 Competizione” is a limited-edition vehicle that starts at around 600.000 EUR.
Daytona SP3 is part of their ICONA series, with 819 horsepower, 0-100 km/h in 2.8 seconds. Named after the Daytona race of 1967, where Ferrari drivers took all 3 spots on the podium. The starting price is over 2M EUR. Cars of this series are based on older “iconic” Ferrari designs that are given a new life with updated modern features but with the same grace and elegance as in the 1960s.
LaFerrari is one of their SUPERCAR series cars, with 952 horsepower 0-100 km/h in less than 3 seconds, and a top speed of 350 km/h. There were only 499 models made. In resale, a 2015 model with only 818 miles on it, is available for $4.275 million, originally sold for $1 million.
The Supercar series has the latest available Ferrari technology, which will through the years cascade down to other series. These are the most expensive, rarest, most luxurious vehicles manufactured by Ferrari.
Lifestyle activities
Apart from selling amazing sports cars, Ferrari is increasingly pursuing other venues for brand development and monetization. Under the umbrella of its Lifestyle business unit, Ferrari aims to build a Luxury lifestyle brand consisting of Experiences, Collectibles, and Luxury Goods.
In 2010 Ferrari opened Ferrari World in Abu Dhabi, its first large-scale experiential theme park. Offering various Ferrari-themed activities such as theme park rides, restaurants, and rides in real production Ferrari’s. Since opening it has become a popular tourist attraction in the Emirates. One park is not enough for Ferrari, Ferrari Land in Spain was recently opened, furthermore, the company has made clear intentions to open theme parks in China and North America. The company doesn’t operate theme parks themselves, instead, Ferrari licenses its brand to various partners. Apart from theme parks, Ferrari also runs various museums and restaurants.
Under its collectibles pillar, Ferrari releases various collectible items such as watches, pens, pencils, and other memorabilia.
“Ferrari is at its core a luxury company and the most distinctive and innovative luxury brand, and we see huge opportunities lying ahead in further developing its lifestyle never compromising to be the unmatched expression of Italian excellence.” John Elkann, Ferrari Chairman, Ferrari Capital Markets Day 16. June 2022
The most promising category under the Lifestyle business unit is Luxury goods. In 2021 Ferrari launched its first full fashion line. Ferrari-branded merchandise such as perfume, clothing, and accessories have the potential to provide complementary value to its car business, by increasing brand reach and brand development. Who else is more likely to purchase these goods than potential and current Ferrari owners?
2. Business Model
Ferrari is not a car manufacturer. Ferrari is a true luxury goods company that happens to sell cars.
The company manufactures a relatively small number of units, slightly above 13 thousand. Each of the cars is carefully crafted and customized to suit the unique needs and desires of a new Ferrari owner. Ferrari sells a very expensive product to wealthy people, but who is Ferrari's target customer? Most people buy a car they can afford, that satisfies their most basic daily and weekly travel needs. Commuting to work, picking up kids from school, visiting their grandma, and maybe a road trip once or twice a year. In this sense, Ferrari is only slightly different from other car manufacturers. If one so wishes, one can visit grandma in a Ferrari, but that is not the “core objective” of Ferrari. What is a core objective, however, is to provide the customer with an exemplary product.
“Different Ferrari for different Ferraristi, different Ferrari for different moments”- Ferrari
This quote from Ferrari 2022 annual report illustrates, how the company thinks of its customers.
It’s a collection of close-knit, family members, a “Ferraristi”, not just a customer who buys a product and is never heard from again. Ferrari over the years has created deep and close relationships with their clients, many of whom own multiple Ferraris and constantly participate in various conventions and gatherings of Ferrari owners. As Ferrari has cultivated this close relationship with their “Ferraristi”, the company aims to sell multiple Ferraris for what the company calls different moments.
An owner of a Ferrari supercar will probably not go to Walmart to pick up milk in it, but they will use it on a racing track, or on a scenic road trip, whilst Ferrari Roma is a more practical vehicle that can be used daily.
With around 66% of Ferrari sales made to existing Ferrari owners, Ferrari aims to capture the more casual sports car driver looking for a luxurious, sleek, and elegant car and have them grow within the Ferrari ecosystem.
From a sportscar driver to a pilot, driving more and more high-performing vehicles. People start by buying some of the more affordable Ferraris for 150.000-250.000 EUR using these cars for years and falling in love with them. Ferrari gets their foot in the door with these wealthy people and as wealthy people tend to do, they get wealthier. This is why the average age of Ferrari owners is higher than for other brands. Ferrari doesn’t collect the ages of their owners but as their cars are very expensive, most of them are in their 40s and 50s.
Regions
Ferrari is a global company with significant operations worldwide but as a European company from Italy, 45% of revenue still comes from EMEA. Ferrari has had an incredible success growing their global footprint.
Over 50% of Ferrari’s revenue comes from outside of EMEA, the brand has incredible strength in the Americas, China, and the rest of Asia. This geographic distribution can be seen in the distribution of Ferraris dealers. North America and Europe are the mature markets where Ferrari has been operating for decades, thus around 75 % of Ferrari dealerships are there. There are only 7 dealerships in the whole of Latin America, while the big growth markets of China, the Middle East, and the rest of APAC have 21, 11, and 27 dealerships respectively.
Formula 1 Team
The racing team for all intents and purposes functions as a technology R&D lab and a marketing machine for the Ferrari brand.
Running a Formula 1 team is extremely expensive, and the series is extremely competitive. To keep up and surpass competitors, Ferrari must constantly innovate and improve. Engine, steering, brakes, battery, and even seating all play a crucial role in helping the driver cross that finish line. The innovations made on the Formula 1 side of the business flow down to the other side of Ferrari's business. Allowing Ferrari to improve their production cars and giving its Ferraristi that coveted F1 feel.
“Formula 1 racing allows us to promote and market our brand and technology to a global audience without resorting to traditional advertising activities, therefore preserving the aura of exclusivity around our brand and limiting the marketing costs that we, as a company operating in the luxury industry, would otherwise incur” – Ferrari 2022 report.
According to Ferrari 2022 report in 2021 Formula 1 racing had 445 million unique viewers on TV and a total cumulative global audience of 1.55 billion. Ferrari logo and cars are prominently visible in each race and if a Ferrari driver wins, as they sometimes tend to do, the brand receives even more attention. Historically a lot of racing teams, including Ferrari operated at a loss and were subsidized by team owners.
Nowadays, with the massive growth and popularity of F1 Ferrari not only doesn’t need to pay for the exposure but profits from it. Forbes estimates that in 2023 the Ferrari racing team had revenue of 680 million USD and EBITDA of 115 million USD. Global automotive companies spend billions on marketing to generate interest in their brand and sell products, and so do other luxury goods companies.
Apart from direct exposure to millions of TV viewers, races allow Ferrari to regularly host various off and on-track events where existing and potential Ferrari owners intermingle. Often visited by Ferrari drivers and Ferrari management these more “informal” gatherings provide guests with the opportunity to drive various Ferrari models and some chosen ones might even get a chance to drive in an actual Formula 1 vehicle. These events allow Ferrari to truly develop that close relationship with their Ferraristi, driving word of mouth and fostering a sense of exclusivity and luxury, that drives interest in the brand.
Brand Strength
For any company creating and maintaining the right brand image is almost as important as the products themselves. It's doubly so for companies in the luxury goods industry. Customers buy luxury goods not only for their objectively measurable quality characteristics but also for their perceived image. In some cases, only for the perceived brand value. In practice, there is very little difference between socks from H&M and Gucci, yet people still spend 10, 20 even 100 times more for Gucci socks. It's what they symbolize to others and oneself. Luxury goods come with an aura of prestige, that helps people feel better about themselves and improve self-esteem.
Well, there is no better product that money can buy to increase prestige and improve self-esteem than a Ferrari. Ferrari engineers, management, and Enzo Ferrari himself have worked tirelessly for decades to build the brand. This devotion has created one of the most recognizable brands in the world that makes people open their wallets almost as fast as the Ferraris themselves.
According to Interbrand 2023 “Best Global Brands” report, with a brand value of 10.8 billion USD Ferrari is the 70th best brand in the world. Ferrari ranking was 5 places higher than the prior year, growing by 16%. Furthermore, over the last 6 years, the brand value has experienced strong growth doubling in value from 4.8 billion in 2017.
Competition
Although Ferrari is certainly unique, the competition in the automotive industry is fierce and more so in the luxury segment. Per companies own statements, Ferrari competes in the 150.000 EUR and up segment.
This segment of the automotive industry has experienced significant growth, since the early 2000s the industry has grown from selling around 20.000 units a year to 45.000. Ferrari is responsible for a significant chunk of said growth.
Ferrari competes with such brands in the luxury sports car segment as Porsche, Lamborghini, and Maserati. Furthermore, Bentley, Rolls-Royce, and Bugatti are prominent manufacturers in the ultra-luxury segment, while BMW, Audi, and Mercedes-Benz operate in the more daily-use luxury segments.
Each of these brands differs in their market positioning and target audience, with varying degrees of overlap between Ferrari. Often these brands are the secondary choices for people who already have a Ferrari and are waiting for one or would like to have one but can’t afford it.
Lamborghini akin to Ferrari is known for flashy cars, beloved by rappers and other celebrities. The company was founded expressly to compete with Ferrari. Lamborghini sold over 10.000 cars in 2023, quadrupling its sales since 2014. Its Urus SUV is extremely popular with 6.087 sold in 2023, furthermore, the company has announced its foray into electric vehicles with Lazador EV, coming out in 2028. Analogous to Ferrari, although not in Formula 1, Lamborghini is active in car racing, with various active projects across the sport. Lamborghini is part of the Volkswagen Group.
Porsche, also part of the Volkswagen Group, has a broader product portfolio than Ferrari, with some relatively “affordable” models starting at 70.000 EUR. In stark contrast to low volumes of Ferrari and Lamborghini, Porche sells over 300.000 cars a year.
BMW, Audi, and Mercedes-Benz sell millions of cars a year. While they do operate in the 150.000 EUR and up segment, most of the cars sold by these brands are quite “cheap” in comparison to Ferrari’s. The second-hand market is full of very affordable models thus, I would say they are not serious competitors to Ferrari.
3. Financial Analysis
Ferrari is certainly a remarkable company with a great set of products, a famous brand, and a cult following. While impressive, investors could find it irrelevant if it doesn’t lead to great financial results, thus in this chapter, we will dive deeper into Ferrari’s financials.
Sales and Growth
In 2023 Ferrari sales reached 6 billion EUR, with a Net profit of 1.2 billion EUR. A record year with a net profit margin of 21.4%, which was the highest since 2018 (23% net margin).
The graph above shows that, while briefly disrupted by COVID-19, a trend has emerged with revenues increasing steadily, year after year. Considering how disruptive COVID-19 was, it is quite impressive that Ferrari’s revenue decreased by a mere 8% in 2020. I believe such resiliency during a challenging time for the global economy certainly speaks volumes about the strength of Ferrari’s brand and operations.
Ferrari closed 2017 with revenue of 3.4B EUR and a net profit of 537M EUR (15.7% margin). In 6 years since, Ferrari has been able to grow revenue by 75%, whilst growing net profit by 135%, that’s a CAGR of 9.75% and 15.23% respectively. Healthy revenue growth is splendid, but the CAGR of profitability being larger indicates that improving operating leverage was achieved. Operating leverage will be explored further down in this report.
If we look at Ferrari’s revenue composition, 85.7% of Ferrari’s revenue comes from the “Cars and spare parts” segment, 9.6% from “Sponsorship, commercial and brand”, 2.1% from “Engines” and 2.6% from “Other”.
The “Other” segment includes Ferrari financing activities and non-F1 sports-related activities. Cars and spare parts segment is Ferraris’s bread and butter, the sale of new vehicles and their parts to dealers, mechanics, and customers. In 2023 segment grew by 18.5%, higher than the total revenue growth of 17.2%, thus contributing meaningfully to the overall revenue growth, whilst the engine business decreased by 18.4%. This business sells engines to Maserati and rents them to other F1 teams for testing.
The sponsorship business segment includes the F1, merchandising, licensing, and royalty income from the Ferrari brand. The second largest revenue segment grew by 12.6%, slower than the overall revenue. As this segment includes Ferrari lifestyle products, the growth must accelerate for Ferrari to show their lifestyle strategy is bearing fruits. For the past 3 years, growth has been below the overall growth of Ferrari revenue, this has had an effect on the revenue composition.
If we analyze the changes in revenue composition since 2019, we see that Ferrari’s growth is driven by the sale of vehicles and parts. The share of this segment as a percentage of total revenue has increased in each subsequent year, growing from 77.7% to 85.7%. Whilst the share of sponsorship revenue has decreased from 14.3% to 9.6%.
Profitability
The automotive industry is very competitive, with dozens of manufacturers from various countries justling for the pole position. Consequently, profitability varies widely across the industry with the average net profit margins being between 5-7 % depending on the year. Fortunately for Ferrari, its margins are significantly higher.
Not only Ferrari’s margins are significantly higher, Ferrari’s margins are the highest in the industry.
In the graph above I have placed 10 automotive manufacturers with the best operating margins. This is one of my favorite graphs in the report as it really helps to visualize how unlike the rest Ferrari is. With operating margins of around 25%, there is no one even close to Ferrari. The margins of Mercedes-Benz another luxury automaker are 11 percentage points lower, whilst slightly better BMW, margins are 7.5 percentage points lower than Ferrari’s. In relative terms, this means that Ferrari’s margins are around 85% higher than Mercedes-Benz and 42% than BMW.
Whilst it is clear that Ferrari is the undisputed margin leader in the automotive industry, earlier in this report I stated that Ferrari is a luxury goods company so let’s compare Ferrari’s profitability against other luxury goods companies. According to the “Deloitte Global Powers of Luxury Goods 2023” report, the composite net profit margin of the top 100 luxury goods companies is 13.4%. Although not in the report, as Deloitte doesn’t classify Ferrari as a luxury goods company. Ferrari’s 2022 net margin of 18.4% is 5 percentage points higher than the average.
I have plotted the net profit margins of select biggest and most profitable luxury goods companies on a line graph. Hermes, Chanel, and Moncler are some of the most known and most expensive luxury brands in the world, thus it is of no surprise that their margins are above Ferrari’s. However, LVMH the world’s preeminent luxury conglomerate has a net margin of 18.6% just 0.2% above Ferrari. Furthermore, Ferrari’s margins compare favorably to the likes of Kering, Estee Lauder, Tapestry, Compagnie Financiere Richemont, PVH, and Ralph Lauren.
Operating leverage and pricing power
In simple terms, pricing power refers to a company’s ability to raise prices without causing a significant decrease in sales. Pricing power is fundamentally linked to the demand for a company’s products, high demand is a prerequisite for a company to have and maintain high pricing power. Luxury goods are known to have high pricing power as these companies have learned to master the art of artificial scarcity discussed earlier.
Ferrari has demonstrated its high pricing power by consistently rising prices while growing units. Apart from 2018, in every year since 2016, Ferrari’s revenue growth was higher than unit growth. In 2016 the average “cars and spare parts” segment revenue per unit sold was 272.000 EUR, in 2023 it’s 374.000 EUR. 38% increase over a 7-year period, a CAGR of 5%.
While pricing power is clearly visible at the top of the income statement, operating leverage is apparent at the bottom of the income statement. I view operating leverage and pricing power as somewhat linked, as often companies with high pricing power have great unit economics and high and improving operating leverage. Firms with great pricing power can have poor operating leverage if they have a high-cost basis that doesn’t allow them to increase profits.
Put simply companies with stable operating leverage grow profits in line with revenue growth, however, businesses that can’t sustain margins at higher volumes have low operating leverage leading to profits growing slower than revenues. Few truly excellent businesses have improving operating leverage allowing them to increase profits at a higher rate than revenue. Since 2016 Ferrari has grown revenue by 92%, while EBIT growth was 171%, achieving a degree of operating leverage of 1.86. The degree of operating leverage measures the sensitivity of EBIT to changes in sales.
DOL of 1.86 means that over the 7 year period, every EUR increase in revenue led to a 1.86 EUR increase in EBIT.
Cash Flow
Ferrari has been able to grow its cash flow generation significantly since 2019, from 600M EUR to 848M EUR in 2023 a CAGR of 9%. The lower CAGR is the result of Covid-19 pandemic, however, since 2021, FCF has grown by 55%, 3-year CAGR of 24%. FCF margin is still yet to recover to pre-pandemic levels of 16% but has grown immensely from 2020 lows of 3.76% to 14.2%.
Analyzing the Cash Conversion Ratio, we see that Ferrari has yet to return to its pre-pandemic cash generation when an amazing 86% of its Net profit was converted into Free Cash Flow. In 2023 67% of Net income was converted to FCF, a good 4%-point improvement over the previous year.
In the table above I have placed OCF, Capex and FCF and their growth rates since 2019. This table beautifully shows how Ferrari’s cashflow generation efficiency constantly improves. Excluding the effects of the pandemic OCF and FCF have grown with a CAGR of 15.6% and 24,6% respectively. Meanwhile, Capex CAGR was only 8.59%.
In simple terms, Ferrari was able to generate more cash flow with less relative investment.
And again, I am especially impressed with the quick recovery from the pandemic, in 2021 the company grew FCF by 320%. Ferrari’s prudent management of its finances allowed the company to not only weather the storm but to actually increase Capex spending in 2021, all while competitors were aggressively cutting Capex.
Balance Sheet
During the last 4 years, Ferrari’s cash and Net debt position has remained relatively stable.
This means that Ferrari has been able to fund capex and grow the business using its cash flow instead of acquiring new liabilities, while simultaneously not reducing its cash reserves.
Despite the Net Debt and Cash remaining relatively stable, the composition has changed significantly. Ferrari’s financing division issues car loans to its clients and uses these loans as collateral to fund its financing arm. Ferrari benefits from this structure if its cost of capital on these secured loans is lower than the interest on the car payment.
Since 2020 Ferrari’s financial services debt has risen by 53% from 820M EUR to 1.256M EUR. If Ferrari is to grow its business significantly it is highly probable that this will expand even further, as many automakers find it quite lucrative to operate their financing divisions.
To separate financial services debt and other debt, Ferrari uses what it calls Net Industrial Debt. This measure is defined as total debt – cash – net debt of financial services. Net Industrial Debt allows Ferrari to analyze its debt position without the effect of the financial services division.
In contrast to growing financial services debt, Net Industrial Debt has fallen from 543M EUR to 99M EUR, an 82% decline since 2020. This is a significant indicator that Ferrari has made a healthy balance sheet a priority, especially in a high-interest rate environment.
The above slide from Ferrari’s FY 2023 earnings presentation analyzes the relationship between Net Debt, Net Industrial Debt and Adjusted EBITDA. There is a clear downward trend in this ratio. Since 2017 Ferrari has been able to reduce the ratio of Net Debt to Adj EBITDA by 45%, whilst essentially eliminating Net Industrial debt.
This is yet another indicator that illustrates Ferrari’s ability to grow its business without excessive leverage.
Looking at Ferrari’s ability to pay its debt, Ferrari is head and shoulders above anyone else in the industry. Its current and quick ratio, a measure of a company’s ability to pay short-term liabilities, is double the industry average. Evaluating the profitability indicators, it is again apparent that Ferrari is a superior company.
Ferrari’s 42% return on equity is 8 times higher than the industry average, 15% return on assets is 7 times, while 21% return on invested capital is 3 times greater.
If one compares Ferrari’s ratios to that of LVMH, a luxury goods company, Ferrari’s financial position is rather similar to a luxury goods company, not an automotive company.
4. Opportunities
Geographic expansion
From 2017 to 2022 China’s share of Ferrari revenue grew from 7.3% to 11.7%. In 5 years, China’s revenue share increased by an incredible 60%. Furthermore, APAC share increased to 17.1% from 14.7%. This change in geographic distribution is driven by the slower growth in Ferrari’s legacy markets of the USA and Europe. Increasingly Middle Eastern and Asian sales are growing fast, driven by the growth of the economies of these regions
India is projected to grow its GDP at CAGR of 6+ % till 2026, whilst Credit Suisse is projecting the number of millionaires to double. Currently, Ferrari’s presence in India is insignificant with only a couple of dealerships, thus India is likely to become an important growth market.
The whole region of APAC is projected to be a significant driver of global GDP growth driven by a large and young workforce, considerable natural resource reserves, growth in manufacturing, digitization of the economy, and the growth of internet services. Indonesia is projected to grow its GDP by around 5% per year through 2026, Vietnam by around 6% per year, Thailand by 3%, Malaysia by 4% and Australia by 2%.
The growth of China’s and APAC economies will mint new millionaires creating a new focus for Ferrari thus likely leading to more changes in the geographic mix of revenue.
Growing active client base
Per Ferrari’s 2022 Capital Markets Day, the company grew its active client base by 25% from 2018 to 2022. As Ferrari clients skew older, the company is actively trying to attract new younger fans. By increasing its active client base Ferrari hopes to stay relevant and create new future customers.
The “Baby Boomer” generation is increasingly aging and according to 2019 Coldwell Banker research, in the US “Millennials” are set to inherit over $68 trillion by 2030. If the company increases the relevance of its brand to this new cohort of potential buyers, Ferrari has a great opportunity to capture a portion of this wealth transfer. Similar demographic trends are in full swing in other regions as well.
The recent announcement of Ferrari spending up to $100 million per season to sign Lewis Hamilton to their F1 team is a clear sign Ferrari is fully committed to growing its client base. Lewis Hamilton is one of the most successful F1 drivers of all time, winning 7 championships. Apart from bringing on-track success, Mr. Hamilton brings a large online fanbase.
With over 36M followers on Instagram, 6M on Facebook, and 8M on X (Twitter) he is one of the most popular sports stars in the world.
Ferrari will certainly use his on and off-track persona to generate positive media buzz to increase the value of Ferrari’s brand. This is where the lifestyle activities of the Ferrari brand come into focus.
Lifestyle activities
Lifestyle activities of Ferrari provide its customers with a much cheaper way to interact with the brand than 150.000 EUR cars and they appeal to a younger audience, thus these activities play a crucial role in expanding Ferrari’s active client base.
Ferrari theme parks are great at building brand recognition and increasing sales of Ferrari cars, collectibles, and accessories. Ferrari has already expressed their goal of building parks in China and North America. In my opinion, by the end of the decade, there will be more parks announced in APAC and EMEA.
The company's efforts to strengthen its brand and build new products in the personal luxury goods market are very promising.
In 2022 this industry generated sales of EUR 353 billion and is expected to grow with a CAGR of 3.2% till 2028.
By selling collectibles, perfume, clothing, and various accessories Ferrari can generate significant revenue at high margins as the cost to manufacture these are low compared to cars.
Furthermore, I think it is likely that Ferrari will partner with a large luxury brand such as LVMH by licensing the Ferrari brand to them. In such a scenario, the revenue could even be generated at 100% margin, as the licensing partner would handle the production, whilst Ferrari would get a % of each sale. Thus, Ferrari’s lifestyle activities are complementary to Ferrari’s effort to increase margins.
Margin Expansion
If we look again at the chart below, Ferrari margins are great, but they are whole 10 percentage points below Hermes and Chanel. There is significant profit potential if this gap is to be reduced.
Last year Ferrari grew volumes by 3% yet, revenue increased by 17%.
Since 2016 Ferrari has grown the per unit revenue of its “Cars and Parts” division by a CAGR of 5%. The trend has accelerated in recent years due to rising inflation. If the 2023-2030 CAGR is to be in the range of 7-10%, with Ferrari’s pragmatic Capex policy and great cost control there is potential for operating margins to improve dramatically.
Ferrari’s brand strength, the quality of its products, and a strong secondhand market are clear signs that there is an opportunity to increase prices. Higher prices would support the second-hand market and increase Ferrari’s status as an exclusive luxury automotive brand.
5. Risks
Geopolitical risk
With a large share of revenues coming from China, and the future projections based on growth in new emerging markets comes significant geopolitical risk. Tensions between China and “The West” keep rising. The war in Ukraine already closed the potential emerging markets of Russia and Ukraine. With 28% of Ferrari’s revenue coming from China and APAC, any military action in Taiwan would be catastrophic to Ferrari’s business.
Not only Ferrari’s sales could potentially get disrupted, Ferrari’s supply chain is likely to suffer as well. The company purchases various raw materials, equipment, and parts from 100s of suppliers scattered all over the world. Disruptions in this chain could potentially delay the manufacturing of new products, leading to lost revenue and reduced brand image.
Furthermore, some governments might implement new trade restrictions that could potentially adversely affect Ferrari’s business. Higher tariffs could force capex and production expenses to increase. Trade policy could slow down manufacturing and lower volume growth. Furthermore, there is a risk that margins could stay flat or even decrease if high tariffs limit Ferrari’s ability to raise prices.
Failure to grow the active client base
Ferrari’s customers skew older, if Ferrari fails to attract young people to its brand it risks being known as the “old grandpa brand”. As the “baby boomers” generation ages and retires, a lot of legacy Ferrari owners will die in the next 10-20 years. Cars will be inherited by the owner’s children, if they don’t find the brand appealing, these cars will be sold in the secondary market. If Ferrari wishes to prevent this new supply of second-hand cars, the company needs to stay relevant and increase the “cool factor” of the Ferrari brand.
A shred of anecdotal evidence about the popularity of Lamborghini is the prevalence of its cars in rap songs and videos. Furthermore, there are plenty of scammers and get-rich-quick schemers who always boast about “Lambos’ in their garage. Both rappers and scammers are using “Lambo’s”, because they are perceived as “cool” and popular by young people. I might be wrong, but I have yet to observe Ferrari’s used in the same manner.
If Ferrari fails to maintain and increase its “cool” factor it will inevitably fail to grow its active client base. Failure to grow the active client base would lead to lower selling prices, decreasing volumes, and a collapsing second-hand market.
Brand damage
Ferrari’s sell for hundreds of thousands, even millions of EUR. These sky-high prices are based on the perceived value of Ferrari’s brand. The brand has been built by decades of on-track success and careful management of its intellectual property. If Ferrari is to increase its volumes and improve margins, the brand must stay strong.
If Ferrari’s racing activities suffer long draughts of success, the perception of Ferrari as a brand that embodies victory and success can diminish. If the aura of success and speed disappears, it is likely to reduce sales of new and used Ferraris. Additionally, attendance at its parks would likely decrease, consequently affecting sales in Ferrari’s lifestyle division.
Sales of Ferraris could decrease significantly if the engineering innovation and craftsmanship Ferrari is known for fails to keep up with competitors. All of Ferrari’s competitors are spending significant sums on the EV transition, thus failing the transition could be catastrophic. Ferrari’s brand could be irreparably damaged if the perception of Ferrari as an engineering pioneer would change.
Any scandal involving Ferrari cars could be damaging to the brand. Lapses in quality control lead to defective Ferraris, and create unsatisfied customers and bad PR. A scandal involving the behavior or actions of any Ferrari dealer, supplier, manager, or management member can cause bad press.
One of the biggest risks of any luxury brand is brand dilution. Ferrari must be careful to not increase volumes too quickly as that would dilute the brand by reducing its exclusivity. This is why geographic expansion is so important. Ferraris sold in Brazil and India, increase revenue but don’t dilute the brand in US and Germany. Ferrari could easily sell the cars in Germany, but doubling the cars on the road would cause the perceived brand value and luxury to diminish.
6. Valuation
Ferrari is certainly an amazing company, a profitable and growing business with healthy balance sheet, however, that doesn’t stop Ferrari from being a potentially bad investment.
Since the spin-off of Ferrari from Stellantis and its IPO in 2015 $RACE is up an incredible 651%, CAGR of 27%. In the previous chapter, we reviewed Ferrari’s financials, although growth has been impressive the company hasn’t grown by 651% as the stock has. This means that most of the gains have come from multiple expansion.
Ferrari is trading at a price-earnings multiple of 56, and the next 12-month multiple of 50, whilst the price-free cashflow multiple is 52 for TTM and 71 for NTM. In theory, multiples should expand when market expectations regarding the future growth prospects of a company improve. These multiples imply that Ferrari is expected to grow significantly in the future.
Investors are constantly reminded that past performance doesn’t guarantee future returns and that is certainly true. Especially in cases where multiples have expanded.
To determine if this stock has some gas left in the tank, I created 3 discounted cash flow models. The goal of each model is not to predict the future, but to analyze what assumptions the market has already baked into the stock price of RACE 0.00%↑ and how the company must perform. For these DCF models, I am using a template developed by Professor of Finance Aswath Damodaran.
Scenario A
Growth 12% for the first 5 years, 10% for the next 5.
Peak operating margin by year 10 of 40%.
An effective tax rate of 22% like in 2023 stays.
Net reinvestment is 6% of revenue.
Cost of capital of 8.5%.
Terminal year growth rate of 6% as we are in a decelerated growth stage.
In scenario A, Ferrari is an attractive investment. Strong brand allows Ferrari to increase prices while growing volumes. Capex and marketing efficiency leads to higher FCFF generation. Geographic expansion and lifestyle growth plans succeed. Terminal growth remains strong leading to constant growth for decades.
With a net present value (NPV) of all future cashflows (FCFF) being EUR 515 per share and a current share price of EUR 363, there is a significant upside potential of 33% to Ferrari’s fair value.
Scenario B
Growth stays the same as in scenario A, 12% for the first 5 years, 10% for the next 5.
Cost of capital doesn’t change from scenario A, 8.5%.
Tax rate is the same as in scenario A, 22%.
Peak operating margin by year 10 of 38%.
Net reinvestment increases to 7% of revenue.
Terminal year growth rate of 5% as we remain in a decelerated growth stage.
Scenario B entails Ferrari having significant growth in the future, with revenues almost tripling to 17 billion EUR by year 10. Improving operating margin reaches 38%. However, competition is fiercer, thus requiring Ferrari’s net reinvestment to increase to 7% leading to lower FCFF. Furthermore, a decreased terminal growth rate of 5% leads to a reduction in terminal value. Ferrari’s brand is still strong and will grow for decades but at a lower rate.
In this scenario, Ferrari is a bit overvalued, with the NPV of FCFF being EUR 347 per share, 11% below the current share price of EUR 389.
Scenario C
Peak operating margin by year 10 of 35%.
The cost of capital remains 8.5%.
The growth rate is lower than in scenarios A and B, 10% for the first five years, 8% for the remaining five.
The effective tax rate gradually increases to 25% by year 10.
Net reinvestment increases to 8% of revenue.
Terminal year growth rate of 4%, as Ferrari is no longer in a decelerated growth stage, but a mature growth stage.
In Scenario C, Ferrari still grows significantly, more than doubling revenues to 14 billion EUR. By increasing prices and growing other business lines Ferrari improves operating margins by 30% reaching 35%. However, Ferrari’s effective tax rate increases to 25%. Furthermore, net reinvestment requirements increase to 8%, despite the slower growth. Ferrari’s brand position is not as strong leading to a slower 4% terminal growth rate, barely above the GDP growth and inflation.
While still growing significantly, higher expenses compared to other scenarios lead to the NPV of FCFF being EUR 195 per share, 50% below the current share price of EUR 389.
Analysis of DCF models
I made each of these models with a certain objective. Scenario A clearly shows what has to happen to the Ferrari business for the stock to have great returns. Whilst Scenario B shows under what assumptions the stock is relatively fairly valued. Least but not last, Scenario C shows significant downside risks to the stock.
Scenario C still entails significant growth for the company, for any company to double revenues and improve margins by 30% in a decade would be a significant achievement. But as Ferrari stock is quite aggressively valued this achievement would be insufficient for investors to generate returns. Of course, it is possible that the high multiple persists, but over the long term it is likely for Ferrari to return to a lower multiple.
Scenario A shows that it is possible for investors to have great returns, but only if Ferrari executes exceptionally well on all its opportunities. If Ferrari successfully grows its lifestyle brands and creates new fans, the company should be able to increase margins and keep pricing power.
Scenario B indicates that at the current valuation simply good execution is not sufficient. Ferrari stock has risen almost 50% in the last 12 months and 13% in the last month. The management of Ferrari has been exceptional, the team has a clear understanding of what makes the brand special and how to manage it. However, even an excellent management team is not immune to risks. If any of the identified risks materialize, the stock becomes vulnerable.
7. Conclusion
Ferrari is a great company with a rich history. Its heritage as one of the world’s most successful car racing organizations has helped create one of the most truly unique and amazing brands. The prancing horse is an iconic brand, synonymous with wealth and luxury that is only available to the 1%. Ferrari sells Exclusivity, Success in a bottle (car), and True Luxury.
Through the years the company has managed to create a great business with healthy margins worthy of a luxury goods company. This has allowed the company to reinvest back into the business, keeping its engineering prowess intact. The company’s ability to manage debt has proven to be excellent, with very relatively little debt in its business. Furthermore, the company has a healthy balance sheet with plenty of funds available to capitalize on all the opportunities available.
However, Ferrari’s stock has run up a lot and is fairly valued.
Its 2023 PE of 56 means that the market has priced in significant growth. Ferrari management has executed incredibly well, not only surviving the pandemic but coming out stronger. Their strategy of growing volumes at a small pace while using pricing power to generate profits through higher margins is sound.
Using its F1 team, amusement parks, and lifestyle activities to grow its customer base and margins is the correct approach.
For a luxury goods company preserving terminal value is what matters the most.
Ultimately Ferrari’s ability to preserve terminal value is more important than short-term growth. If Ferrari achieves a 6% terminal growth the company will certainly grow, and its shareholders will be rewarded.
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Disclaimer: Global Equity Briefing by Ray Myers
The information provided in the "Global Equity Briefing" newsletter is for informational purposes only and does not constitute financial advice, investment recommendations, or an offer or solicitation to buy or sell any securities. Ray Myers, as the author, is not a registered financial advisor, and readers should consult with their own financial advisors before making any investment decisions.
The content presented in this newsletter is based on publicly available information and sources believed to be reliable. However, Ray Myers does not guarantee the accuracy, completeness, or timeliness of the information provided. The author assumes no responsibility or liability for any errors or omissions in the content or for any actions taken in reliance on the information presented.
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This was a truly excellent read - thank you for putting the effort in to create this