Allison Transmission: Heavy-Duty Profits And Low Expectations

Forbes

a day ago

Blue bus moving on the road in city in early morning
I first made Allison Transmission (ALSN) a Long Idea in June 2020 and most recently reiterated my thesis in August 2024.
After the company beat on the bottom-line but missed top-line 1Q25 estimates, my thesis remains intact, and the stock looks poised to outperform further.
Allison Transmission runs a well-diversified business, in terms of its revenue-generating segments and customer base. Per Figure 1, in the TTM ended 1Q25, the company's revenue came from:
Further breaking down the largest segment, 30% to 40% of Allison Transmission's North America on-highway revenue is driven by municipal spending, which the company notes reduces end-market volatility.
Figure 1: Allison Transmission's Revenue by Segment in the TTM ended 1Q25
ALSN Business Segments
Allison Transmission holds majority market share in its core addressable market (which includes class 4 through 8 vehicles) within its North America on-highway segment. For example, as of 2024, the company holds a market share of:
The North American production in Allison Transmission's core addressable market is projected to grow 1% compounded annually through 2030. See Figure 2.
With its strong expertise, product development, service network, trusted brand name, and leading market share, Allison Transmission is poised to grow alongside the broader industry.
Figure 2: North American Production in Allison's Core Addressable Market: 2014 – 2030E
ALSN Projected NA Growth
In its 1Q25 presentation, Allison Transmission's management highlighted four different opportunities that it expected will each generate an additional $100 million incremental annual revenue.
These opportunities are in four separate end markets and include:
As noted, these opportunities combine to create a potential total $400 million in incremental annual revenue.
Allison Transmission is in a great spot to capitalize on the transition to electric vehicles and parts. As noted in my previous report, the company has already demonstrated the viability and success of its electric product offerings, with significant growth opportunities still ahead.
While Allison Transmission offers multiple electric/hybrid products, its electric hybrid propulsion system for buses stands out the most.
To date, the company has delivered nearly 9,800 of these systems for buses worldwide, which has resulted in an estimated savings of 457 million gallons of fuel and 3.9 billion miles of reliable operation. Since its introduction in 2003, this product line has generated over $1.5 billion in revenue.
Additionally, the global electric bus market is projected to grow 14% compounded annually, from 2024 to 2030.
Figure 3: Global Electric Bus Market Forecast: 2024 – 2030
ALSN Electric Bus Market Forecast
The company also continues to produce zero-emission electric axles for medium- and heavy-duty commercial vehicles, which provide a 'content per vehicle' opportunity that is three times higher compared to a fully automatic transmission.
Allison Transmission's newest electric product offering is an electric hybrid propulsion system for tracked combat vehicles. The transmission will allow electric hybrid propulsion and electric-only silent maneuverability. Allison will provide American Rheinmetall the next-gen electrified transmission for its Lynx vehicle, which is competing for the U.S. Army's XM30 combat vehicle program. This program is a ground modernization initiative that could replace nearly 4,000 infantry fighting vehicles.
Allison Transmission has a long track record of quality fundamentals. The company has grown revenue and net operating profit after-tax (NOPAT) by 4% and 9% compounded annually since 2014. The company's profit growth has been particularly strong since the COVID induced lows of 2020. See Figure 4.
The company improved its NOPAT margin from 15% in 2014 to 25% in the TTM while invested capital turns rose from 0.5 to 0.8 over the same time. Rising NOPAT margins and invested capital turns drive return on invested capital (ROIC) from 8% in 2014 to 19% in the TTM.
Additionally, the company's Core Earnings, a superior and cleaner earnings measure, grew 12% compounded annually from $240 million in 2014 to $745 million in the TTM.
Figure 4: Allison Transmission's Revenue and NOPAT: 2014 – TTM
ALSN Revenue & NOPAT 2014-TTM
Since 2019, Allison Transmission has paid $506 million (6% of market cap) in cumulative dividends and has increased its quarterly dividends from $0.15/share in 1Q19 to $0.27/share in 1Q25. The company's current dividend, when annualized, provides a 1.0% yield.
Allison Transmission also returns capital to shareholders through share repurchases. During the first three months of 2025, the company repurchased $150 million worth of shares. In 2024, Allison Transmission repurchased $254 million in shares.
The company has $1.4 billion authorized repurchases remaining under its current authorization. Should the company repurchase shares at the 1Q25 pace for the rest of the year, it would buy back $600 million of shares in 2025 and provide a 6.9% repurchase yield. When combined, the dividend and share repurchase yield could reach 7.9%.
Even if the company only repurchases shares at its 2024 pace, it would repurchase an additional $104 million of shares in 2025, which would represent 1.2% of the company's current market cap.
Allison Transmission has generated positive free cash flow (FCF) every year since 2013 (earliest data available).
Investors should take comfort in knowing Allison Transmission will be able to afford to pay its dividends and repurchase shares due to its large FCF generation. From 2019 through 1Q25, Allison Transmission generated $3.4 billion in FCF, which equals 31% of the company's enterprise value.
Figure 5: Allison Transmission's Cumulative Free Cash Flow: 2019 – 1Q25
ALSN Free Cash Flow 2019-1Q25
Allison Transmission's $3.4 billion FCF since 2019 is more than enough to cover its $2.6 billion in combined dividend payments ($506 million) and share repurchases ($2.1 billion).
Unlike many other riskier stocks, Allison Transmission's repurchases have also meaningfully reduced its shares outstanding from 118 million in 2019 to 84 million in 1Q25. See Figure 6.
In its 1Q25 investor presentation, the company pointed out it has repurchased nearly 64% of shares outstanding since its IPO.
I like companies that choose to return capital to shareholders instead of spending it on costly acquisitions or executive bonuses that rarely drive shareholder value creation.
Figure 6: Allison Transmission's Shares Outstanding: 2019 – 1Q25
ALSN Shares Outstanding 2019 - 1Q25
Allison Transmission is not only the leading manufacturer of fully automatic transmissions for the on-highway, medium- and heavy-duty commercial vehicle market in North America, it also has the highest profit margins in the industry.
Over the TTM, Allison Transmission has the highest NOPAT margin and third-highest ROIC among competitors, which include Caterpillar (CAT), Dana (DAN), Cummins (CMI), and more. See Figure 7.
Figure 7: Allison Transmission's Profitability Vs. Peers: TTM
ALSN Profitability vs Peers
While Allison Transmission's markets are projected to grow over the long term, the cyclical nature of each industry cannot be avoided.
Allison Transmission notes specifically in its 1Q25 earnings presentation that its mining and construction market has 'considerable end market cyclicality' even as the company believes there will be less cyclicality in its energy segment.
I show the cyclicality in production in its largest segment, North America, in Figure 2. After four straight years of production growth, production is expected to decline YoY in 2025, then fluctuate significantly through in 2026 – 2027, before rising once again through 2030.
By diversifying its end markets, Allison Transmission can minimize cyclicality on the overall business. When one segment is in a trough, another can be peaking, thereby allowing the company to generate positive cash flow throughout all economic cycles.
The good news for investors, despite a consistent track record of profitability and long-term growth drivers, Allison Transmission's stock is priced as if the company's profits will never grow again, as I'll show below.
At its current price of $105/share, ALSN has a price-to-economic book value (PEBV) ratio of 1.0. This ratio means the market expects the company's profits to never grow from TTM levels. For context, Allison Transmission has grown NOPAT by 4% compounded annually over the last five years and 9% compounded annually over the last ten years.
Below, I use my reverse discounted cash flow (DCF) model to quantify the cash flow expectations for different stock price scenarios for ALSN.
In the first scenario, I quantify the expectations baked into the current price. If I assume:
then the stock would be worth $105/share today – or equal to the current stock price. In this scenario, Allison Transmission's NOPAT would grow <1% through 2034, which is far below historical growth rates.
If I instead assume Allison Transmission's:
ALSN would be worth at least $129/share today – a 23% upside to the current price. In this scenario, Allison Transmission's NOPAT would grow just 2% compounded annually through 2034.
Should ALSN grow profits more in line with historical levels, the stock has even more upside. Figure 8 compares ALSN's historical NOPAT to the NOPAT implied in each of the above DCF scenarios.
Figure 8: Allison Transmission's Historical and Implied NOPAT: DCF Valuation Scenarios
ALSN DCF Implied NOPAT Scenarios