Gentex

A hidden champion of the auto industry

The equity culture in Germany is miserable. According to the Deutsches Aktieninstitut, in 2019 just 15.2 percent of the population owned stocks or equity funds. Compared internationally, we do extremely badly. One development I do particularly like, on the other hand, is that more and more younger investors are finding their way to the stock market. Generally speaking, people like buying stocks from their own country best. That's why, alongside Allianz or Deutsche Telekom, you often find shares of Daimler, Volkswagen or BMW in German portfolios. I'm not a fan of car stocks at all - but of pick-and-shovel suppliers, as I regularly mention them, I definitely am.

That's why today I'd like to introduce Gentex Corporation, the absolute market leader in auto-dimming rearview mirrors. How the small company from Zeeland (Michigan) made it to become a top automotive supplier and why I'd probably prefer this stock to any car stock - more on that in the article.

The history and business model of Gentex Corp.

The story of Gentex Corporation has its origins in January 1943, when Frederick Thomas Bauer was born in Michigan. After high school he went on to study at Michigan State University. There he chose electrical engineering as his major and economics as his minor. To earn some money, Fred, as he was usually called, took on a few smaller side jobs. For a while he not only worked at a gas station but also drove trucks and slaved away in a steel mill. He also worked for an RV manufacturer and was tinkering with his own projects early on. When Fred's father, who worked at an oven manufacturer, often complained about temperature control problems with some models, the freshly minted electrical engineer took on the issue. Without further ado, the 21-year-old developed an innovative electronic oven control unit and, in the process, founded his first company, the Simicon Company.

Together with a few colleagues he set up a makeshift production facility in an old garage, and soon the young start-up received a lucrative takeover offer. The manufacturing company Robertshaw Controls was also so impressed by Fred that it hired him right along with it. They offered him great career opportunities and the chance to keep tinkering on promising projects. Fred always asked himself the same questions: Where is there a problem & how can I solve it? So he turned to fire alarm systems, which at the time were still very prone to false alarms. With the capital from the takeover he founded Gentex Corporation in 1974 and, together with his team, developed the first dual-cell photoelectric smoke detector. Despite the remarkable innovation, quick success didn't come this time. Apart from a few smaller customers, at first it sold its products mainly to an RV manufacturer. When that customer one day threatened to use cheaper competing products, it nearly ruined the company.

Fortunately Gentex managed to gradually win more customers as they became convinced of the quality and reliability of its smoke detection systems. Fred still wasn't satisfied and was once again looking for the next big thing. When he was blinded by his rearview mirror while driving at night, he had his lightbulb moment. In fact, the auto industry had been looking for a solution to exactly this problem for several decades. Research was already very capital-intensive back then, which is why, just seven years after its founding, the decision was made to take Gentex Corporation public. After just one year it presented its first motorized rearview mirror with automatic dimming. Within a very short time the big players of the auto industry, General Motors and Ford, became regular customers of the company and ordered large quantities.

Today Gentex is a globally active and highly profitable high-tech company that, with a market share of around 93.5 percent, is the absolute market leader in its field. In 2019 alone it sold 43 million smart rearview mirrors. Its fire alarm systems and electrically dimmable aircraft windows round out the product portfolio. Gentex is the pick-and-shovel supplier to the auto industry, and on top of that it has a massive moat around it.

How could Gentex Corporation develop in the future?

Before I get to Gentex Corporation's future prospects, I'd like to take a quick look at the numbers from the most recently published quarterly report (Q3 2020). Net sales did decline by just under one percent compared to the third quarter of 2019, but at $474.6 million it's still the second-highest quarterly revenue in the company's entire history. And that, mind you, in times of the Covid-19 pandemic, when the auto industry regularly had to put up with weeks-long shutdowns. The gross margin of 39.7 percent improved significantly compared to the prior-year quarter, which is why earnings per share also rose 9 percent to $0.48. Furthermore, Gentex bought back a total of 1.2 million of its own shares in this third quarter alone.

In my opinion, the question of how Gentex's future looks can be answered quite simply - with just two words, in fact: very good. It supplies its auto-dimming and by now also highly advanced high-tech mirrors to all major car manufacturers, including Audi, BMW, Daimler, Tesla, Toyota and VW, to name just a few. If one company happens to be doing a bit worse, the many other corporate customers easily make up for it.

As an automotive supplier, Gentex definitely generates the bulk of its revenue there, but the two smaller business areas with the fire alarm systems and the aircraft windows are also running very steadily. Gentex holds 1,500 different registered patents, plus currently around 790 patents in the application process (page 5 of the 2019 annual report). To put it briefly: Gentex would have to get quite a lot wrong not to have a successful future ahead of it.

How's the dividend looking?

Gentex Corporation only began sharing its profits with its shareholders in the form of dividends in 2003. With the exception of 2010, when the dividend was kept the same as in 2009, the automotive supplier has always managed to raise the dividend since then. The dividend growth rate over the last 10 years is a solid 8.2 percent. The current dividend yield of 1.4 percent, as well as the payout ratio of just under 40 percent, are definitely respectable. In terms of the dividend, too, Gentex still has a lot of potential going forward.

Conclusion:
As a long-term investor, Gentex Corporation offers me exactly what I look for in a company: high profitability with a large market share, combined with promising future prospects and a solid moat effect. That's why I'll be adding a few Gentex shares to my portfolio at the next opportunity. Every long-term investor should definitely take a closer look at this company.