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Is It Safe? Toyota, Honda Shares Overpriced

Toyota and Honda's high share prices imply profit growth that could be a stretch in the car business.

TSC Ratings provides exclusive stock, ETF and mutual fund ratings and commentary based on award-winning, proprietary tools. Its "safety first" approach to investing aims to reduce risk while seeking solid outperformance on a total return basis.

With the futures of

General Motors




in doubt, and



a long way from profitability,


are probably wondering about the safety of Japanese automakers.

Next month,






will announce results for the year that ended in March, which was capped by a disastrous final quarter. Analysts expect an earnings drop from Honda and a loss from Toyota, according to


data. So far, the outlook isn't great for the current fiscal year, which ends next March.

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Still, investors have more confidence in Toyota and Honda than their American counterparts, whose shares are trading for less than $6. But the prices of the companies' American depositary receipts are so high compared with their projected earnings that they have little room for error. And if there's an industry that's susceptible to error, it's the



Honda and Toyota companies will probably survive the global recession. The question is whether they will earn enough to warrant their expensive share prices. In other words, are there better places to put your money?

Shares of Toyota, which last year ended General Motors' 77-year streak as the world's biggest auto producer, have gained 25% this year. Honda's stock has jumped 33%. The

S&P 500

index has lost 2.7%, suggesting there might be better values out there.

Honda shares are trading at roughly 60 times projected profit and Toyota's are selling for more than 90 times. Those multiples imply that the companies will be able to increase earnings well into the next decade. In a business as competitive as cars, that might be a stretch.

Honda and Toyota's fuel-efficient hybrid cars gained popularity after gas prices topped $4 a gallon last year. These companies will be well positioned as the Obama administration and Congress push green-energy initiatives.

Americans have put off buying new cars in the face of a severe recession. Eventually, their vehicles will break down and meet their destinies in scrap yards, unleashing a wave of pent-up demand.

While Toyota and Honda will be ready to capitalize on consumers' needs, it's possible that revamped versions of GM, Ford and Chrysler will be there too.

Last week, Ford reported a first-quarter loss that was better than analysts expected. The company, which doesn't plan to seek government aid, has cut costs and debt, and reduced the amount of cash it spends by half.

Honda and Toyota have been graded C by Ratings, which amounts to a "hold" recommendation.

Richard Widows is a senior financial analyst for Ratings. Prior to joining, Widows was senior product manager for quantitative analytics at Thomson Financial. After receiving an M.B.A. from Santa Clara University in California, his career included development of investment information systems at data firms, including the Lipper division of Reuters. His international experience includes assignments in the U.K. and East Asia.