Allison Earnings: We See Slight Upside on Valuation Following Recent Rise in Share Price

Following second-quarter earnings, we’ve elected to leave our $66 fair value estimate unchanged for Allison ALSN. The quarter showed that 2023 is shaping up to be another solid year. The on-highway business globally performed well, growing by a midteens percentage. Solid pricing growth pushed gross margins to expand by 190 basis points in the quarter compared with the same period a year ago.

The supply chain also continues to improve. Supply constraints held back demand for transmissions across various bus and truck markets. We also continue to point to elevated fleet ages as a key demand driver, even if the broader truck market softens. The potential for truck refreshes is what gives us the confidence to project 7% sales growth for the consolidated business in 2023, which would be impressive considering the tough sales comparison from a year ago (revenue grew 15% in 2022).

Allison’s shares have increased approximately 20% since the company reported first-quarter earnings. We think the market has appreciated the near-term demand story for Allison. That said, our valuation still points to Allison being slightly undervalued, by approximately 14%.

In our view, Allison should get more credit for its ability to transition to zero-emission products. New technology entrants can pose a threat, but we think the more likely scenario is that Allison takes the strong returns of its traditional business and invests it into next-generation technologies. The company has already started to do this with its hybrid-electric propulsion systems and e-axle product lines. We view this as positive, early progress on the transition to zero emission. We keep in mind that the vocational and heavy truck market is still years away from seeing meaningful zero-emission adoption. In our view, it’s likely at least a decade away, potentially even longer. There’s ample time for Allison to shift its business to respond to the changing landscape.