STOCK ANALYSIS- INDUSTRIALS SECTOR The Ohio … WI12.pdf · Industrial & Construction Machinery ......

The Ohio State University: SIM

Program

STOCK ANALYSIS- INDUSTRIALS SECTOR GARRETT GANDEE, SHI TING GU, STEVEN ROEHLIG

FIN 824 - Industrials Sector Overview

 Overview of Industrials & Class Recommendation

 Review of Current SIM Holdings  Recommendations  Conclusion

AGENDA


  Sector Size  Market Cap = 1.2 Trillion

  Industries   Air Freight & Logistics   Airlines   Building Products   Commercial Printing   Construction / Engineering   Electrical Components   Industrial Conglomerates   Railroads   Industrial & Construction Machinery   Data Processing, Environmental Services   Farm Machinery

INDUSTRIALS OVERVIEW

S&P Sectors

Industrials


CLASS RECOMMENDATION


2/7/2012 – Despite “Increase to Market Weight” recommendation by industrials team, class voted to maintain current underweight status.

CURRENT SIM HOLDINGS - INDUSTRIALS


•  2.23% of SIM Portfoloio •  Unit Cost $77.76 •  Current Price $83.78 (8%)

•  3.98% of SIM Portfolio •  Unit Cost $97.17 •  Current Price $118.56 (22%)

•  3.57% of SIM Portfolio •  Unit Cost $50.53 •  Current Price $52.43 (4%)

RECOMMENDATIONS


•  2.23% of SIM Portfoloio •  Unit Cost $77.76 •  Current Price $83.76 (8%) •  Target Price $85.00 (1% Upside)

•  3.98% of SIM Portfolio •  Unit Cost $97.17 •  Current Price $118.56 (22%) •  Target Price $111.14 (-6%)

•  3.57% of SIM Portfolio •  Unit Cost $50.53 •  Current Price $52.43 (2%) •  Target Price $56.40 (7.6% Upside)

  United Technologies Corporation provides technology products and services to the building systems and aerospace industries worldwide.

  Business Consists of Six Segments:   Otis segment designs, manufactures, sells, and installs passenger and freight

elevators, escalators, and moving walkways, as well as provides maintenance and repair services.

  Carrier segment offers heating, ventilating, air conditioning, and refrigeration systems, controls, services, and energy-efficient products

  UTC Fire and Security segment provides electronic security products comprising intruder alarms, and access control and video surveillance systems

  Pratt and Whitney segment supplies aircraft engines for the commercial, military, business jet, and general aviation markets

  Hamilton Sundstrand segment supplies aerospace products and industrial products   Sikorsky segment manufactures military and commercial helicopters


UTX OVERVIEW


JUSTIFICATION – SELL UTX

  52 Week Range: $91.83 - $66.87   Current Price: $83.78 (2/17/2012)   Our Target Price: $85.00 (1% Undervalued)

  Standard & Poor’s “Fair Value Calculation”

  Key Business Drivers   Defense Spending, Aerospace, New Construction (Otis, Carrier)   Review of ROE for UTX



1 Year 3 Years 5 Years 9 Years

ROE 24.84 22.41 22.85 22.42

UTX

Analyst: Shi Ting Gu

Terminal Discount

Rate = 10.5%

Date: 01/23/12

Terminal FCF

Growth = 3.0%

Year 2011E 2012E 2013E 2014E 2015E 2016E 2017E 2018E 2019E 2020E 2021E

Revenue 58,432 62,090 71,025 73,866 76,082 78,365 80,716 83,137 85,631 88,200 90,846 % Growth 6.3% 14.4% 4.0% 3.0% 3.0% 3.0% 3.0% 3.0% 3.0% 3.0%

Operating Income 7,685 8,469 9,772 10,329 10,639 10,959 11,287 11,626 11,975 12,334 12,704 Operating Margin 13.2% 13.6% 13.8% 14.0% 14.0% 14.0% 14.0% 14.0% 14.0% 14.0% 14.0%

Interest and Other 526 745 845 591 609 627 646 665 685 706 727 Interest % of Sales 0.9% 1.2% 1.2% 0.8% 0.8% 0.8% 0.8% 0.8% 0.8% 0.8% 0.8%

Taxes 1,933 2,240 2,392 2,610 2,688 2,769 2,852 2,938 3,026 3,116 3,210 Tax Rate 27.0% 29.0% 26.8% 26.8% 26.8% 26.8% 26.8% 26.8% 26.8% 26.8% 26.8%

Net Income 4,926 5,146 6,215 7,069 7,282 7,503 7,730 7,963 8,204 8,452 8,707 % Growth 4.5% 20.8% 13.7% 3.0% 3.0% 3.0% 3.0% 3.0% 3.0% 3.0%

Add Depreciation/Amort 1,300 1,400 1,500 1,699 1,750 1,802 1,856 1,912 1,970 2,029 2,089 % of Sales 2.2% 2.3% 2.1% 2.3% 2.3% 2.3% 2.3% 2.3% 2.3% 2.3% 2.3% Plus/(minus) Changes WC (1,078) (600) (1,965) (1,256) (1,293) (1,332) (1,372) (1,413) (1,456) (1,499) (1,544) % of Sales -1.8% -1.0% -2.8% -1.7% -1.7% -1.7% -1.7% -1.7% -1.7% -1.7% -1.7% Subtract Cap Ex 900 950 1,000 1,108 1,141 1,175 1,211 1,247 1,284 1,323 1,363 Capex % of sales 1.5% 1.5% 1.4% 1.5% 1.5% 1.5% 1.5% 1.5% 1.5% 1.5% 1.5%

Free Cash Flow 4,248 4,995 4,749 6,404 6,598 6,797 7,003 7,215 7,433 7,658 7,890 % Growth 17.6% -4.9% 34.8% 3.0% 3.0% 3.0% 3.0% 3.0% 3.0% 3.0%

NPV of Cash Flows 38,511 49%

NPV of terminal value 39,922 51% Terminal

Value 108,352 Projected Equity Value 78,433 100%

Free Cash Flow Yield 5.50% Free Cash

Yield 7.28%

Current P/E 15.7 15.0 12.4 Terminal

P/E 12.4 Projected P/E 15.9 15.2 12.6

Current EV/EBITDA 12.2 11.1 9.7

Terminal EV/

EBITDA 9.5 Projected EV/EBITDA 12.3 11.2 9.8

Shares Outstanding 923

Current Price $ 83.78 Implied equity value/share $ 85.00 Upside/(Downside) to DCF 1.5%

Debt 38,033 Cash 5,966 Cash/share 6.47



STOCK VALUATION



Our Target: $85.00

  Company’s performance greatly affected by foreign market. Sales for 2011 from outside the United States were 61% of its total segment sales.

  Potential reduction in military demand: U.S. pulled out army force from Iraq in 2011, and President Barack Obama is signaling he wants to get out of Afghanistan.


DEFENSE BUDGET CUTS

  In September 2011, UTX acquired Goodrich Corp for $18.4 billion which is a global supplier of systems and services to the aerospace and defense industry.

  Economist criticized that UTX was paying too much to buy GR when the market is in a far worse shape.

  This acquisition will not be accretive to profit at least until fiscal 2013. But expected revenue 2012 will still be in the range of estimated revenue 2012.


ADDITIONAL UTX CONCERNS

  Global manufacturer of industrial pumps and related equipment for the chemical, oil, gas, and power industries

 Market Cap: $6.587 Billion   Sub-Industry: Industrial Machinery


FLOWSERVE OVERVIEW

  52 Week Range: $135.72 - $66.84   Current Price: $118.56   Our Target Price: $111.14 (6% Overvalued)


  Key Business Drivers   Capital Expenditures in Oil & Gas, Chemicals, and General Industrials

  Review of ROE for FLS


JUSTIFICATION – SELL 50% FLS


ROE 19.94 26.75 22.90 15.50




•  Price ratio valuation



Our Target: $111.14

  Time to take profits off the table. FLS has returned 22% over its unit cost of $97.17.

  FLS is currently 6% over our target price of $111.14   However, our model differs greatly from analysts’ consensus estimates

(target of $135 - $145).   Flowserve is highly correlated with the price of oil. ( )   Increased capital expenditures on oil and gas in the US (shale

plays), and in emerging markets will benefit FLS. ( )   Let’s keep 50% of our FLS shares in the game.


JUSTIFICATION- SELL 50% FLS

 Designs, manufactures and markets professional, medical, industrial and commercial products and services.

 Operates in five business segments:  Test & Measurement  Environmental  Life Sciences & Diagnostics  Dental  Industrial Technologies

 Growth is derived from segment core expansion and frequent external acquisitions.


DANAHER OVERVIEW

 Positives:  Increasing sales in foreign markets, notably those

with growing economies.  Strong sales and margin growth, including digit

core margin growth in Industrial Technologies and Test & Measurement segments. Margins now above 20% in both segments.

 Gross margin has been higher than its industry average for each of the past five years.

 The company has targeted acquisitions of companies with gross margins above 50%.


DANAHER OVERVIEW

  52 Week Range: $56.09 - $39.34   Current Price: $52.43   Our Target Price: $56.40 (7.6% Undervalued)


  Key Business Drivers   Segment core expansion and frequent external acquisitions

  Review of ROE for DHR


JUSTIFICATION – HOLD DHR


ROE 12.64 12.51 13.38 15.42


DANAHER VS. S&P 500



JUSTIFICATION- HOLD DHR




Our Target: $56.41



•  On 1/31/12, the company announced quarterly earnings of 0.81 per share, a positive surprise of 3.5% above the consensus 0.78.

•  Over the past 4 quarters, the company has reported 4 positive, 0 negative, and 0 in-line surprises.

  Over 70% of sales growth in the last 5 years has come from acquisitions.

  Increasing sales in foreign markets may slow down with rising concern in foreign markets.


DANAHER CONCERNS


NEW STOCK RECOMMENDATION

Industry

Diversified Machinery

Aerospace and Defense Products and Services

Industrial Electrical Equipment

Farm & Construc@on Machinery

Industrial Equipment & Components

Waste Management

General Building Materials

Metal Fabrica@on

Aerospace & Defense – Major Diversified

Heavy Construc@on

Residen@al Construc@on

Machine Tools & Accessories

Small Tools & Accessories

Cement

General Contractors

Tex@le Industrial

Pollu@on & Treatment Controls

Lumber, Wood Produc@on

Manufactured Housing

  A large number of the industries we assigned a positive outlook to will greatly benefit from an upturn in new construction

Construction Sub-Industries

  BUILDING MATERIALS   FARM & CONSTRUCTION

MACHINERY   RESIDENTIAL CONSTRUCTION   CEMENT   GENERAL CONTRACTORS   LUMBER/WOOD PRODUCTION   MANUFACTURED HOUSING



 Of those sub-industries, our recommendation would be to target Construction & Farm Machinery & Heavy Trucks.  Improving global economy since 2010  Global nonresidential construction markets are

improving  Domestic housing market bottoming  Robust construction growth in emerging nations  Aging equipment in mature economies  Farm income (primary driver for agricultural

equipment sales, rose by 28% in 2011. FIN 824 - Industrials Sector Overview




  Caterpillar, Inc. is the world’s largest producer of earthmoving equipment, and a big maker of electric power generators and engines used in petroleum markets, and mining equipment

  Caterpillar construction machines are in service in nearly every country in the world. 65% of sales derived outside North America.

  Current Price: $113.95   52-Week Range: $116.55 - $67.64  Market Capitalization: $72.26 Billion

  Our Target: $136.78 (20% Upside)

  S&P “Fair Value Calculation”







Our Target: $136.78



JUSTIFICATION – BUY CAT


  Class Voted to Keep Industrials Sector Underweight, and stay at 9.78% of total SIM portfolio.

  SELL 223 bps of UTX (100% of UTX in SIM Portfolio)   SELL 200 bps of FLS (50% of FLS in SIM Portfolio)   BUY 423 bps of CAT

  HOLD 198 bps of FLS   HOLD 357 bps of DHR


SIM INDUSTRIALS PORTFOLIO CHANGES

10%

90%

SIM Industrials Weight

Industrials

Rest of Portfolio

Old Holdings

23%

41%

36%

SIM Industrials

UTX FLS DHR

New Holdings

43%

20%

37%

SIM Industrials

CAT FLS DHR


SIM INDUSTRIALS PORTFOLIO CHANGES


RECOMMENDATIONS SUMMARY- INDUSTRIALS

 SELL 223 bps (ALL) of

 SELL 200 bps (HALF) of

 BUY 423 bps of

 HOLD Current Position of

 HOLD 198 BPS of

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STOCK ANALYSIS- INDUSTRIALS SECTOR The Ohio … WI12.pdf · Industrial & Construction Machinery ......

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