Saturday, May 20, 2017

Strong Execution On IoT Is Taking Silicon Labs To A New Level

Chip company Silicon Labs (NASDAQ:SLAB) was already doing pretty well with its Internet of Things (or IoT) business back in the summer of 2016, but I underestimated the company's ability to continue to leverage that driver. As IoT is becoming an increasingly real driver, it is having a solidly positive influence on Silicon Labs' performance, and the shares are now about 40% higher than when I last wrote on the company.

Silicon Labs isn't going to have the IoT opportunity all to itself; Qualcomm (NASDAQ:QCOM) (through NXP Semiconductors (NASDAQ:NXPI)), Microchip (NASDAQ:MCHP), Texas Instruments (NYSE:TXN), and STMicroelectronics (NYSE:STM) among others are going to be competing fiercely in this growing market. Silicon Labs' strong positioning across the range of connectivity options and in mesh networking are important drivers, but other rivals have their own areas of strength in MCUs, security, sensing, and so on. What's more, the valuation is now considerably more demanding, and with it come much higher expectations for the lead IoT and Infrastructure businesses.

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Strong Execution On IoT Is Taking Silicon Labs To A New Level

Turbulence Creates Another Opportunity At Mellanox

If you like to trade, Mellanox (NASDAQ:MLNX) may be the stock for you, as there is more than average uncertainty and volatility around these shares as the company looks to benefit from growing adoption of high-speed connectivity products but also faces competitive threats from well-run rivals like Intel (NASDAQ:INTC) and Broadcom (NASDAQ:AVGO).

Although the company has been on an unfortunate run of weaker-than-expected quarters (and weaker guidance), the shares are still up about 15% from the time of my last article (ahead of Intel, weaker than Avago, and in line with the Nasdaq), and expectations have come down significantly. While the competitive threat of Intel still looks manageable, the last few quarters have highlighted that for all of the growth potential in Mellanox's core markets, that growth isn't going to come in predictable clockwork fashion. While I have gotten a little more cautious with my modeling, I still believe these shares are undervalued even with a double-digit discount rate.

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Turbulence Creates Another Opportunity At Mellanox

F5's Headwinds Aren't Letting Up

When I last wrote about F5 Networks (NASDAQ:FFIV) in the summer of 2016, I was skeptical that the company's new product launch/refresh cycle was going to deliver as much growth as the bulls hoped. So far, that call looks to be working out. Although the shares are up around 5% since that last article, that performance lags that of the NASDAQ and a broad peer group of companies like Cisco (NASDAQ:CSCO), Juniper (NYSE:JNPR), and A10 (NYSE:ATEN). What's more, numbers have been heading lower as the expected product growth has been slow to arrive.

I continue to believe that F5 is dealing with some troubling secular headwinds. Cloud service providers like Amazon (NASDAQ:AMZN) and Microsoft (NASDAQ:MSFT) are improving their ADC/load balancing services, and companies like Cisco are tough competitors in security. While I do still think there are opportunities out there for F5, I worry about how the shares will perform without stronger revenue growth. The implied return at this price isn't bad, but I think there could be further revisions to estimates before this cycle is over, and low-growth/high-margin tech stocks can be frustrating to own.

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F5's Headwinds Aren't Letting Up

Ciena Continuing To Execute Well In A Growing, And Perhaps Changing, Optical Market

Ciena (NASDAQ:CIEN) has done alright since I last wrote about the stock, with the shares up around 8% versus a 10% gain in the S&P 500, a 9% gain in Nokia (NYSE:NOK), and a slight decline in Infinera (NASDAQ:INFN), but this optical player remains a controversial and volatile name. Nobody seems to dispute that Ciena today is a stronger company both financially and competitively than it has been in a long, long time (if not ever), but some analysts and investors are still reluctant to trust that the optical equipment market has really changed and that these good times can last.

I hate "it's different this time" stories because in the vast majority of cases, it really isn't different, and investors go away with singed eyebrows. That said, telco metro deployments seem less lumpy than in past cycles, and the industry has benefited from consolidation. What's more, data center interconnect is a meaningful growth opportunity, and traffic growth seems well-supported by growing use of streaming services and increased fiber-to-the-home deployments.

Given the trends in both telco and non-telco spending, I don't think my long-term revenue forecast of 5% for Ciena is ridiculous or even all that ambitious, though I do have some concerns that the actual "flight path" along that trend line will be choppy. I'm a little more nervous about modeling double-digit FCF margins on a sustained basis, but Ciena management does seem to have the company in better shape. All told, if Cisco can, in fact, deliver 10% long-term FCF growth, a fair value in the mid-$20s is reasonable, and the shares hold some appeal here.

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Ciena Continuing To Execute Well In A Growing, And Perhaps Changing, Optical Market

AGT Food's Recent Stumble Has Created Some Indigestion, But Also An Opportunity As Expectations Reset

I had my concerns with AGT Food and Ingredients (OTCPK:AGXXF) (AGT.TO) back in October due to issues with the valuation and popularity of the stock and management's questionable strategic decisions, but I wasn't really expecting the 30% fall in the shares that has taken place. A lot of issues were pressuring the shares, including concerns about global harvest levels and harvest quality, Indian import actions, and growing impatience with the slow ramp of the Minot business, but the surprisingly weak first quarter results took 20% out of the stock relatively quickly.

Here, with AGT Food, we have a good example of the challenges that come with "buy the dip" advice. Stocks don't pull back 20%-plus relative to their benchmark index because everything is going awesome with the company. The trick, then, is to separate investor panic from real issues that mean investors should avoid a stock.

I am worried that AGT will have a rough year, as although I expect the second half of 2017 to be stronger, there will likely be some follow-on turbulence in the second quarter and maybe into the third. I also still don't really like the expansion of the bulk handling business, and I think there are some valid concerns as to whether the potential of the Minot-based ingredient business hasn't been overestimated by investors and sell-side analysts. All of that said, today's price assumes only mid-single-digit revenue growth and low single-digit FCF margins, and if AGT can ultimately lift margins closer to 5%, a fair value above C$36 is still in play.

Investors should be aware that the Canadian shares of AGT Food offer far greater liquidity and should be relatively easy to buy through most brokerages.

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AGT Food's Recent Stumble Has Created Some Indigestion, But Also An Opportunity As Expectations Reset

Painfully Complex, Cosan Remains An Undervalued Play On Brazil

As I have written before, U.S. investors are not exactly spoiled for choice when it comes to Brazilian investments. Cosan Ltd. (NYSE:CZZ) has a lot to offer, including exposure to multiple major long-term opportunities within Brazil's economy, but the holding company structure is complicated and this is a difficult company to track and model. Still, with a holding company discount rate in excess of 30%, relatively healthy underlying fundamentals for the sugar, ethanol, and retail fuel businesses, and good long-term prospects in the rail business, this is worth a look.

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Painfully Complex, Cosan Remains An Undervalued Play On Brazil

Closer To "Go Time", GenMark Diagnostics's Ability To Execute Is Still A Key Question

Hard as it can be to develop a new diagnostic system and get it though the FDA approval process, that's only part of the battle in achieving success in the diagnostics market. GenMark (NASDAQ:GNMK) has weathered some ups, downs, and delays on its path to market for its new ePlex system, but the company should receive FDA 510(k) approval for the system within weeks and begin launching a system that could deliver over (and perhaps well over) $1 billion in revenue to this small-cap med-tech company.

Of course, it's never quite that simple. GenMark has had its issues reaching the milestones laid out by management on time, and that still remains the case. With U.S. approval looming, significant questions remain regarding management's ability to execute on manufacturing and sales, to say nothing of how the ePlex will fare in the real world against competing systems from bioMerieux (OTC:BMXXY), Luminex (NASDAQ:LMNX), Danaher's (NYSE:DHR) Cepheid, and other existing or would-be players in the market.

I'd still describe myself as cautiously bullish on GenMark, as I believe ePlex is a good platform that answers many of the challenges and needs of hospital and lab customers. The shares have continued to head higher since my last update (though it has been a bumpy ride), though, and the risk/reward isn't quite as favorable as it has been.

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Closer To "Go Time", GenMark Diagnostics's Ability To Execute Is Still A Key Question

Wednesday, May 17, 2017

Rexnord Should Be Seeing A Turn Now

I liked Rexnord (NYSE:RXN) back in mid-December, and I can't really complain with how the shares have performed since. Not only is the return about 10 points above that of the S&P 500, but Rexnord has done alright next to most of its process/motion control peers like ABB (NYSE:ABB), Altra (NASDAQ:AIMC), Regal Beloit (NYSE:RBC), and SKF (OTCPK:SKFRY), as well as peers in the water products sector. Better still, short-cycle industrial activity is picking up (including in the industrial MRO space) and process industries like mining seem to be past the worst, while core food/beverage continues to perform well. Add in a slowly improving institutional water market and some longer-term strategic growth opportunities and it's a relatively solid backdrop.

Valuation is no longer so compelling, but "meh" seems to be the new "bargain-priced" in the industry sector and shaving just half a point off of my 10% discount rate would give me a fair value slightly above today's price. Provided that Rexnord can show some healthy signs in its core revenue and margins later this week when it reports fiscal fourth quarter earnings, not to mention constructive guidance in line with what other industrial-leveraged companies have said, this could still be a name with some room left to advance.

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Rexnord Should Be Seeing A Turn Now

Martin Marietta Materials Already Pricing In A Lot Of Things Going Right

Infrastructure stocks have had a good run, and especially since the November U.S. elections. For its part, Martin Marietta Materials (NYSE:MLM) is up close to 30%, which puts it ahead of Vulcan Materials (NYSE:VMC), close to Cemex (NYSE:CX) and behind Steel Dynamics (NASDAQ:STLD) over the past year. Although volume growth has been muted thus far in the aggregates business (up 1% in 2015, up 2% in 2016, and up 3% in the first quarter of 2017), pricing has been picking up and the volume outlook is pointing to higher volumes on increased road building and infrastructure activity.

My issue, not surprisingly, is with how much improvement is already baked into MLM's valuation. MLM is well-placed in states with attractive drivers for road construction (as well as overall population, housing, and non-residential construction), but quite a lot has to go right from here in terms of government-supported infrastructure spending, overall economic health, and so on just for MLM to "grow into" its valuation. With the shares already at a mid-teens multiple to 12-month EBITDA and a low-teens multiple to my mid-cycle estimate, this looks more like a momentum story to me than a value-driven story. Momentum stories in recovering markets can work, but any disappointments in federal stimulus, state spending, volume growth, and/or margin leverage could have a sharper impact on the share price.

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Martin Marietta Materials Already Pricing In A Lot Of Things Going Right

Aspen Pharmacare Has Continued To Grow And Branch Out

It has been many years since I've updated my coverage on South Africa's Aspen Pharmacare (OTCPK:APNHY)(APNJ.J), but the intervening years have seen a lot of familiar themes. Management has continued to use M&A to expand its market reach and has continued to expand beyond South Africa, while organic growth has continued to be underwhelming relatively to perpetually rosy expectations from investors and most sell-side analysts.

Assessing the shares remains a difficult exercise. On one hand, the likely underlying discounted cash flow doesn't seem to support the share price, but that has long been the case and the shares have risen despite that (up more than 20% since my last article for the ADRs and up over 100% at the interim peak price). Aspen continues to offer rare access and potential to high-potential markets like China, Brazil, Indonesia, and Sub-Saharan Africa, but price controls and consumers' ability to pay remains a real concern. I expect that investors will continue to be willing to pay a premium for this emerging market pharma story, and the price isn't so unreasonable relative to EBITDA growth, but I would remain alert to the various macro challenges, as well as the sub-standard liquidity of the ADRs.

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Aspen Pharmacare Has Continued To Grow And Branch Out

Sunday, May 14, 2017

Patheon's Execution Needs To Match Its Potential

Contract drug manufacturing is a large, growing, and attractive business. Smaller companies are making up an increasingly large percentage of new drug approvals, and many of those companies are choosing to outsource manufacturing rather than investing the capital in what could be regarded as a non-core function. Even larger companies find value in outsourcing, as providers like Patheon (NYSE:PTHN) and Catalent (NYSE:CTLT) can offer valuable, and difficult-to-replicate expertise, as well as efficient scale and "swing capacity."

However attractive a market may be, execution still matters and Patheon has had its challenges so far as a public company. Though the sources of the revenue shortfalls have been understandable and don't point to long-term strategic or competitive issues, you'd like to see a company make a better debut after its IPO. In any event, while Patheon is one of the largest players in the CDMO space and offers a rare breadth of services, the company also has a lot of debt, aggressive and well-run rivals, and a robust valuation.

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Patheon's Execution Needs To Match Its Potential

At Cognex, The Electric Eye Is Green

If you love growth, you may well like Cognex (NASDAQ:CGNX). If you like growth at a reasonable valuation, this will be a more frustrating story for you. Cognex has established itself as a high-quality leader in the machine vision and product ID space, and high-quality companies deserve premiums, but the Street seems to be baking in an exceptional amount of growth into today's valuation.

I love the prospects for Cognex to introduce new products to expand its expecting opportunities, as well as its opportunities to leverage growth in areas like factory and warehouse automation, and I have little to complain about with respect to how management runs the business. If and when we get another of those market corrections that sweeps many babies out with the bathwater, this would definitely be a name to revisit.

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At Cognex, The Electric Eye Is Green

The Tide Is Turning For Ingersoll-Rand

A year and a half ago, I thought that Ingersoll-Rand (NYSE:IR) looked undervalued, and the shares are up more than 70% since then. Now, to be fair, I thought Atlas Copco (OTCPK:ATLKY) was the better pick at that time, and Atlas's almost 80% rise since then isn't that much ahead of Ingersoll-Rand, so I think this had more to do with being generally right that the market was too worried about the long-term future of these industrial businesses.

In any case, Ingersoll-Rand's management has made progress in both improving the business and shifting the sentiment. I frankly think there's been more progress on the former than the latter, and so there could still be some upside as investors take a more "normalized" view of the company and its prospects (rather than always seemingly expecting something to go wrong). The May 10 Investor Day likely isn't going to be revolutionary for sentiment, but a clear discussion of the company's innovation and productivity initiatives as well as its plans for capital deployment could further strengthen that improving trend in sentiment.


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The Tide Is Turning For Ingersoll-Rand

Perceptron Still Searching For Stability

As an industrial tech geek, Perceptron's (NASDAQ:PRCP) industrial metrology technology holds more than a little interest for me, as well as the revenue and earnings potential that would come from successfully unlocking the opportunities outside of the auto OEM sector. Add in the fact that industrial automation giants like Rockwell (NYSE:ROK), ABB (NYSE:ABB), and Schneider (OTCPK:SBGSY) have openly talked of the importance of sensors in the evolving automation landscape, and it's at least worth taking a look at this company.

Unfortunately, the performance at Perceptron has been disappointing for quite a long time. As other Seeking Alpha writers, including Terrier Investing, have noted, this is a company that has been struggling for traction for some time. Perceptron had $65 million in revenue in 1997, $62 million in revenue in 2007, and is on pace for around $75 million in 2017. The company has never really generated meaningful free cash flow, and despite periodic runs in the stock, the last 10 years have been lackluster at best with other similar types of plays like FARO (NASDAQ:FARO) and MTS Systems (NASDAQ:MTSC) at least offering some share price growth over the last decade.

Perceptron has some interesting technology and technological capabilities, but I question whether the company has the resources to develop them to a point where it can be any meaningful threat to companies like FARO, Hexagon (OTCPK:HXGBY), and Zeiss (OTCPK:CZMWY) outside of its core auto market. I can't and won't rule out the idea that a larger automation company (or one of its main competitors) could move to buy Perceptron, but I would caution investors to listen to industry leaders like Rockwell when they talk about the challenges of transferring automation technologies across industry silos.

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Perceptron Still Searching For Stability

Halma Playing Defense With Some Aggression

Human beings are pretty much driven to categorize, so I don't really blame analysts for trying to categorize companies and their business mixes as "late-cycle" or "defensive", but those designations can sometimes hinder as much as they help. Halma (OTCPK:HLMAF) (HLMA.L) is indeed "defensive" by some metrics, but this is a company that is more than happy to go on the offensive - witness the company's roughly 10% trailing compound revenue growth rate, its double-digit FCF growth rate, its double-digit returns on invested capital, and its preference for redirecting cash flow toward continuous M&A as opposed to sending it back to shareholders.

What's also not so defensive about Halma is the valuation. Trading at around 18x my fiscal 2018 EBITDA estimate, Halma's virtues are not ignored by the Street, though I won't tell you that the low-teens FCF growth baked into the valuation is unreasonable or unattainable.

Investors will note that Halma's ADRs have that dreaded "F" at the end. Although the shares are reasonably liquid in terms of average daily trading volume, the liquidity can be very lumpy, and I would suggest that investors interested in Halma consider buying the London-listed shares.

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Halma Playing Defense With Some Aggression

Atlas Copco's Excellence Reflected In The Performance


Sweden's Atlas Copco (OTCPK:ATLKY) is a case in point as to some of the limitations of modeling and model-based valuation. This is an excellent industrial conglomerate by almost any standard and one that is well-respected and generally well-liked. When I last wrote about the company in September of 2016, I liked the company quite a bit but thought that the valuation was already very healthy. Since then, not only have the company's underlying markets come back faster and stronger than expected but so too has investor enthusiasm - pushing these shares up by a third, in line with other strong Swedish plays like SKF (OTCPK:SKFRY) and Sandvik (OTCPK:SDVKY) but well ahead of strong U.S. industrial conglomerates like Fortive (NYSE:FTV) and Illinois Tool Works (NYSE:ITW).

It's hard to connect the dots on the valuation today, unless you think long-term revenue growth will reach the high single-digits, FCF margins will move into the 20%s, and/or you're willing to accept a total return closer to the mid-single digits. I've learned over the years not to bet against Atlas Copco (or at least to do so very carefully), but even the company's announced split and ongoing recoveries in multiple markets can only do so much for a stock that already enjoys quite a bit of esteem.

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Atlas Copco's Excellence Reflected In The Performance

Wednesday, May 10, 2017

Milacron Waiting For Its Recovery To Take Hold

Although Milacron (NYSE:MCRN) shares have outperformed the S&P 500 since my last piece on the company, the reality is that a great many industrial stocks have been strong since late October and Milacron's relative performance isn't so impressive. While this is admittedly a hodgepodge, if you consider a group of peers that "sell stuff that companies use to make stuff," Milacron doesn't stack so well against the likes of Kennametal (NYSE:KMT), Nordson (NASDAQ:NDSN) and Illinois Tool Works (NYSE:ITW).

Then again, compared to a more limited sampling of companies in the machine tool space - companies like Hardinge (NASDAQ:HDNG), Hurco (NASDAQ:HURC), and DMG Mori - then the performance looks a little better again. Simply put, it's still not easy out there for machine tool companies, as order growth has remained in the low single digits in developed markets.

I'm still fairly bullish on Milacron, as I believe underinvestment in capex will start to reverse and that the company will benefit from increasing adoption of automated solutions. Add in some expense-side self-help to my underlying low-to-mid single-digit revenue growth expectation and Milacron should be able to produce free cash flow growth in the high single digits to low double-digits. That, in turn, would seem to support an expected annual return around 10%, making Milacron a name that is still worth considering.

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Milacron Waiting For Its Recovery To Take Hold

Nordson And The High Cost Of Excellence

In terms of smaller industrial companies, I'm not sure that there are many that deserve the Street's esteem (and the high multiples that tend to go with it) more than Nordson (NASDAQ:NDSN). Management has taken the company's strong technology in precision dispensing and fluid management and used it to establish strong share in its core adhesives market, as well as solid long-term revenue growth, impressive margin improvement, and good returns on capital and free cash flow. I'd also note that management has shown itself adept at M&A but is willing to return capital to shareholders (with a 50-year-plus record of raising the dividend).

The problem with good companies, particularly when their end markets are turning up, is the valuation, and that's the case here. Using a DCF model, Nordson needs to generate very high single-digit to low double-digit revenue growth (with some FCF margin improvement) to generate a high-single-digit total return. That's a high, albeit not impossible, bar to reach, and some investors may be willing to accept a lower return (and lower implied/required growth) given the company's solid prospects and above-average quality.

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Nordson And The High Cost Of Excellence

Sunday, May 7, 2017

Air Liquide Adds Value As Lincoln Electric Moves Into Recovery Mode

Lincoln Electric (NASDAQ:LECO) has continued to appreciate since my August 2016 piece, as investors have piled into a wide assortment of companies leveraged to an industrial recovery and potential infrastructure stimulus. Volume has actually turned up for Lincoln in recent quarters, with only a handful of major end-markets still weighing on results, and the prospects for sales growth over the next few years are good.

Management continues to do a good job of expanding into alloy welding and automation, but the announced acquisition of Air Liquide's (OTCPK:AIQUY) welding business is a significant opportunity to improve its European business, expand its alloy and automation opportunities, and drive real improvements in margins while making life even more challenging for Colfax (NYSE:CFX) in its core market.

At a mid-teens multiple to forward EBITDA, I cannot call these shares "cheap." But then, the implied total return in the high single-digits from my discounted cash flow model for a company that has steadily gained share, generated double-digit ROICs, and organically created new growth opportunities isn't exactly out of line either. A slowdown in the industrial recovery (whether real or imagined by the Street) is certainly a threat to the share price, but this is the sort of name you want to add to on pullbacks.

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Air Liquide Adds Value As Lincoln Electric Moves Into Recovery Mode

IPG Photonics Already Seeing A Strong Recovery

Buying good companies when they are beaten up a bit by disappointed growth-oriented investors continues to be a sound strategy, provided that the underlying market drivers are only going through a temporary patch of trouble. So it has been with IPG Photonics (NASDAQ:IPGP). I thought the slowdown in the metalworking markets, and the pressure it was creating on IPG's valuation, were an opportunity back in the summer of 2016, and the shares have moved up about 60% since then. To be fair, investors would have done even better in rival laser company Coherent (NASDAQ:COHR), or turnaround metalworking play Kennametal (NYSE:KMT), but IPG's performance stacks up pretty well with other metalworking stories like Lincoln Electric (NASDAQ:LECO) and Colfax (NYSE:CFX).

IPG Photonics continues to do a commendable job of moving the goal posts out in terms of what can be accomplished with its high-power lasers. That is creating new opportunities to take share away from non-laser systems as well as to replace old non-fiber laser installations. Looking ahead, there are still attractive opportunities in areas like cutting and welding, as well as drilling, not to mention newer applications like theater projection, OLED production, and 3D manufacturing. IPG also continues to move forward with new(er) technologies like UV and ultrafast lasers that can still add more hundreds of millions of dollars to the long-term addressable market.

With a strong recovery in revenue and strong recent growth in machine tool orders in China, I'm not surprised that investors have come back to this name. I still believe in the prospects for high-single-digit revenue growth and mid-teens FCF growth, but the high-single-digit implied total return isn't as compelling relative to the prospects a year ago.

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IPG Photonics Already Seeing A Strong Recovery

Well Rewarded For Past Performance, What Is Left For Illinois Tool Works?

I've liked Illinois Tool Works (NYSE:ITW) for a while now, and the shares have continued to reward a positive stance (up about 7% since my last update, a little below 3M (NYSE:MMM), but in line with Parker-Hannifin (NYSE:PH) and better than Dover (NYSE:DOV)). Now, though, I'm starting to wonder whether this relatively conservatively-run company can keep finding enough ways to meet ever-higher expectations in this early recovery cycle. Illinois Tool Works has already achieved a lot with its self-help initiatives, and I have to believe that the low-hanging fruit has been plucked. I'd also note that while ITW management has indicated that it will continue to pursue incremental M&A, there's nothing to suggest a major move.

Right now it looks as though the Street is factoring in some combination of high single-digit free cash flow growth or a mid-single-digit total return. Neither is really appealing at this point; not when names like Honeywell (NYSE:HON), Danaher (NYSE:DHR), Fortive (NYSE:FTV), Parker-Hannifin, and ABB (NYSE:ABB) appear to have more to offer in terms of relative valuation, near-term growth leverage, and/or self-help potential.

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Well Rewarded For Past Performance, What Is Left For Illinois Tool Works?

Roper Technologies Delivering Good Core Growth As Markets Turn

When I last wrote about Roper (NYSE:ROP), I wasn't totally sold on the valuation given some concerns I had about the business outside of energy and I thought it was a name to reconsider on a pullback into/around earnings. The shares cooperated, pulling back about 5% before a trifecta of good news (the U.S. Presidential election, the Deltek acquisition, and stronger results/orders in the fourth quarter) really stoked up the enthusiasm for these shares.

I've compared Roper to Danaher (NYSE:DHR) before, and I'll do it again - like Danaher, Roper can be a difficult stock for more value-oriented investors, as Wall Street loves the company's growth model and margins and will pay a premium for that growth. That seems particularly true now in a recovery environment where Roper not only seems poised to produce solid growth in absolute terms, but also on a relative basis.

Although Roper doesn't look like a bargain in discounted cash flow model, dropping the discount rate by just 1% gives me a fair value in line with the price today and a high single-digit expected return isn't bad, particularly for a company with good leverage to an emerging oil/gas recovery. Therein lies one of the issues with modeling and price target calculation - a modest change to an assumption or two can swing the result significantly. So while I still can't call Roper a bargain, the growth potential and strong cash flow generation capabilities leave it as a name still worth considering for more aggressive portfolios.

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Roper Technologies Delivering Good Core Growth As Markets Turn

Thursday, May 4, 2017

Rockwell Back To Work

My investing world feels more normal now that Rockwell Automation (NYSE:ROK) is back to a point of generous, if not excessive, valuation. While the shares offered investors a rare opportunity a year or so ago, the stock has been strong as industrial markets have started to turn in the company's favor.

There's a lot to like about Rockwell, as it touches multiple popular themes like manufacturing reinvestment/capex recovery, reshoring, potential favorable tax changes, natural resource recoveries, and the industrial internet of things (or IoT). Moreover, management seems to be more willing to consider M&A as a means of rounding out its offerings and enhancing its addressable market.

Valuation has been a challenge with Rockwell in the past and so again today. With the shares already pricing in close to 10% long-term free cash flow growth, I don't think you can say that the company is underrated. Good companies have a way of outperforming, and Rockwell certainly qualifies, but I'd really like to get another crack at this at a lower valuation.

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Rockwell Back To Work

Sensata Technologies Shares Going Nowhere Fast

The shares of sensor and control company Sensata (NYSE:ST) remain in that frustrating intersection of potential value and unimpressive near-term performance. Although I believe that Sensata is and remains a quality company, it is hard to get excited about a stock where management is guiding to decelerating growth through the year at a time when many industrial names are seeing signs of building momentum.

I don't think my underlying assumptions on Sensata are all that aggressive. I model a fair value of around $42 to $44 on the basis of 3% to 4% revenue growth and free cash flow margins improving into the high teens (driving FCF growth around 7%), and I expect the company to continue to diversify away from autos through both M&A and organic means. Sensata's valuation multiples have definitely shrunk as growth has slowed and there is a risk that this is a value trap. Standing against that risk is the idea that this is a quality business with meaningful margin leverage and addressable market expansion potential.

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Sensata Technologies Shares Going Nowhere Fast

General Electric And The Power Of Pessimism

It's been about two years since I last wrote on General Electric (NYSE:GE) and if I had to sum up the performance in that time it would be "blech". With the shares up only about 6%, General Electric has been dusted by Siemens (OTCPK:SIEGY), Illinois Tool Works (NYSE:ITW), 3M (NYSE:MMM), and Honeywell (NYSE:HON). Even Eaton (NYSE:ETN) and Dover (NYSE:DOV), which have had plenty of challenges from weak secular end-market cycles, have managed better performance over that stretch.

I believe there are multiple valid criticisms and concerns regarding GE. The accounting is messy, the adjusted free cash flow generation is quite weak, management accountability seems iffy, and it is hard to trust the strategic vision of a company that has demonstrated an uncanny knack for buying in at the top. The question I have is how well these issues are reflected in the share price and what could move the stock higher. I think the Street has "CEO fatigue" and news of a firm succession plan could provide a pop. I also think GE is poised to benefit from a recovering oil/gas market and reasonable medium-term outlooks for aviation and power generation. I'm not so sold on the company's digital strategy, but I can view that more as a "call option" at this point.

Below $30, I'm tempted. I can't be too comfortable with a situation where I don't really trust management and have concerns about the business mix (to say nothing of its intrinsic cash flow generation capabilities). Even so, I think GE could start to redeem its lost decade and may be worth a look for patient investors.

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General Electric And The Power Of Pessimism

Tuesday, May 2, 2017

Honeywell Has Several Options To Go From Very Good To Great

To hear some talk about Honeywell (NYSE:HON), you'd think this is a lousy business, never mind the solid margins and returns on capital. There are nits to pick with respect to organic revenue growth and free cash flow generation, I'll grant, but it's interesting to me to see what companies get a "pass" and what companies don't. Now with a new CEO in place, one who hasn't earned the benefit of the doubt from investors and analysts, there could be more pressure on Honeywell to remake the business in a more dramatic fashion.

I don't know whether or not Honeywell will restructure itself in a major way, up to and including separating from the aerospace business, but management has at least validated it as a talking point in response to a letter from an activist investor. Relative to my cash flow expectations, Honeywell shares are trading at an implied return in that space between "mid" and "high" single digits, which isn't bad, and could still offer some upside as comps get easier and the company considers its strategic options.

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Honeywell Has Several Options To Go From Very Good To Great

Danaher Needs To Win Back Some Love

While Danaher (NYSE:DHR) isn't trading below my fair value today, it's about as close as it ever gets and that tells me a lot about where sentiment is today. Looking at the performance over the last six months, only much-maligned GE (NYSE:GE) has done worse among Danaher peers/comps like Illinois Tool Works (NYSE:ITW), Honeywell (NYSE:HON), 3M (NYSE:MMM), and Thermo Fisher (NYSE:TMO), and there seems to be more angst around the company's quarterly reports and management's M&A strategy than I recall in past years.

That could be an interesting set-up for long-term investors. Although I don't think Danaher is especially well-placed for what investors seem to really want today (namely, leverage to a "metal and grease " industrial recovery), I still believe this is a well-constructed business for the long term. Mid single-digit revenue and free cash flow growth can support a fair value in the low $80s, and that makes Danaher worth considering in a market where many industrials have run ahead of fair value.

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Danaher Needs To Win Back Some Love

Parker-Hannifin Pumped Up On Recovery In Industrial Markets

I've been bullish on Parker-Hannifin (NYSE:PH) for a while, but the company and the stock have managed to exceed my expectations along the way. With the shares up close to 30% since my last piece, handily beating the likes of Eaton (NYSE:ETN), Dover (NYSE:DOV), and Illinois Tool Works (NYSE:ITW), the shares continue to reflect a strong recovery scenario - a scenario that admittedly seems a little more realistic now given the generally healthy calendar first quarter results in the sector and Parker-Hannifin's own 8% reported order growth.

Parker-Hannifin's performance has been solid even without Clarcor, a deal that although expensive is likely to prove worthwhile over time, and underlying conditions are getting better as Parker-Hannifin management sees improvement in a wide range of end-markets. Although these shares are (finally) above my fair value and the reaction to first quarter earnings suggests high expectations, the valuation is not so unreasonable on a relative basis and these shares could still have some appeal for investors who want to continue playing the industrial recovery theme.

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Parker-Hannifin Pumped Up On Recovery In Industrial Markets

Fortive Ready For The Turn

Fortive (NYSE:FTV) has done pretty well since my last update on this (relatively) new industrial conglomerate, as the shares' 13% rise more or less matches that of 3M (NYSE:MMM) and stacks up better against the likes of Dover (NYSE:DOV), Keysight (NYSE:KEYS), and Illinois Tool Works (NYSE:ITW). While some of this performance is likely a byproduct of positive coverage initiations, Fortive has managed to continue generating positive core growth and looks well placed to leverage the nascent U.S. industrial recovery.

The fundamental story at Fortive hasn't changed all that much. This is a diversified industrial conglomerate that is run along the same principles as Danaher (NYSE:DHR); principles that include continuous process improvement and responsiveness to customer needs, as well as opportunistic M&A. I believe that Fortive can generate healthy mid-single-digit revenue growth with the businesses it has, particularly given efforts to improve and grow businesses like Tektronix and Kollmorgen, and acquire at least a few percentage points more from M&A. While the shares do not look undervalued, the implied high single-digit total return isn't so bad on a relative basis and Fortive looks like one of the better names to consider in an industrial sector that offers few obvious bargains.

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Fortive Ready For The Turn

IDEX Looks Like A High-Priced Recovery Play

Up almost 30% over the past year, IDEX (IEX) has not only outperformed comps like Dover (DOV), Xylem (XYL), and Colfax (CFX), but reached pretty heady valuation levels. While IDEX does have a quality collection of businesses that includes pumps, meters, and fluidics, not to mention a lot of specialty market exposure, the company's historical growth, margin, and free cash flow performance don't convince me that it's worth paying such a robust valuation today. Although I like the company's prospects for improving organic growth over the next few years and the opportunity for incremental M&A, not to mention the possibility of a lower tax rate, a mid-teens multiple on EBITDA and an implied total return in the mid-single digits on a DCF basis don't work for me.

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IDEX Looks Like A High-Priced Recovery Play

Improving Energy Buys Dover Some Breathing Room

Conditions are getting better at Dover (NYSE:DOV), but it's certainly not a symmetrical improvement at this point. The energy market is definitely getting better, whether you look at rig counts, Dover's organic growth, or its orders, but there are still some meaningful challenges in Dover's other businesses; challenges that have to be addressed if this is going to be a long-term winner.

Dover has done alright since my last update, and I think my outlook for segments like Engineered Systems and Fluids are relatively conservative. A recovery in the energy business ought to drive meaningful improvements in margins, and coupled with an expanded retail fueling business, that bodes well for overall performance. I also believe there are long-term opportunities here in polymer equipment, energy automation, refuse, auto service, and printing/ID that shouldn't be ignored. I still think management has to re-earn some credibility, but the risk/return opportunity is a little more interesting here than with most industrial conglomerates, and there is also the potential for outperformance.

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Improving Energy Buys Dover Some Breathing Room

Sunday, April 30, 2017

3M's Rinse-And-Repeat Model Serving It Well

3M (NYSE:MMM) has traditionally not been the go-to name for playing industrial/economic recoveries, as the company's more conservative approach typically makes it more of a bear market favorite. CEO Inge Thulin has subtly changed a lot about this company, though, and it may be the case that this company is moving more toward an "all seasons" performer than is commonly thought.

In any case, 3M has done a little better than I expected since my last update, with the shares outperforming peers like Honeywell (NYSE:HON), Illinois Tool Works (NYSE:ITW), Danaher (NYSE:DHR), and General Electric (NYSE:GE). 3M shares are not cheap by any conventional sense of that word, but the shares do appear priced for a mid-to-high single-digit total return and the company's deployable capital and focus on continuous incremental improvement both argue in its favor as a holding.

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3M's Rinse-And-Repeat Model Serving It Well

K2M On Track, Gaining Share, And Continuing To Disrupt

Spine care company K2M (NASDAQ:KTWO) isn't going to be the easiest stock to own, as I expect investors to overreact to quarterly revenue trends and guidance, and I fully expect some bumps in the road as the company continues to launch and grow a portfolio of disruptive technologies for the spine care market. I also expect ongoing growth, though, as the company out-innovates its larger rivals, takes share, and ultimately leverages that into solid profits.

The shares are up about 20% since my last update, sandwiching the company between the outperforming Globus (NYSE:GMED) and underperforming NuVasive (NASDAQ:NUVA) over that time. Trading in the low $20s, the shares still look a little undervalued on the basis of medium-term revenue growth and margin outlook and look relatively appealing up to around $25. Although that doesn't leave a tremendous amount of upside from today's level, I would not be surprised if K2M outperformed, and I would keep this name in mind if the company's early May earnings report sees an overdone negative reaction.

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K2M On Track, Gaining Share, And Continuing To Disrupt

ABB Fills A Gap, But Has More Work To Do

At a 52-week high, ABB (NYSE:ABB) has nevertheless remained a relative underperformer next to peers like Siemens (OTCPK:SIEGY), Rockwell (NYSE:ROK), and Schneider (OTCPK:SBGSF), as investors fret over ABB's heavy exposure to end-markets like power gen, oil/gas, and mining and some of the gaps in its business coverage relative to its peers. Management has recently shown that it is willing to get back to M&A, though, and there is some relative undervaluation that may appeal to investors.

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ABB Fills A Gap, But Has More Work To Do

The Good Times Get Better For Advanced Energy Industries

I last wrote about Advanced Energy Industries (NASDAQ:AEIS) in September and said, "I don't think the semi-cap cycle has peaked, so growth/momentum investors may still find more room to run with Advanced Energy." The shares have shot up another 60% since then, outperforming other semiconductor equipment stocks I've liked, including MKS Instruments (NASDAQ:MKSI).
This performance hasn't been just hype and hope, as Advanced Energy has been outperforming its own guidance and seeing solid evidence that opportunities tied to new chip architectures, advanced packaging, and non-chip markets like OLEDs are converting to actual orders and revenue. Bulls may argue that these drivers will lead to a substantially greater addressable market and a longer up-cycle, and I don't necessarily disagree.

Likewise, Advanced Energy has plenty of room to grow outside of its core semiconductor market(s). All of that said, I can't make a quantitative value argument here, so these shares really only seem appropriate for investors who want to take on the risk that the good times can still get meaningfully better before valuations come back to a lower orbit.

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The Good Times Get Better For Advanced Energy Industries

Guangshen Railway Has Potential, But A Lot Rides On Reform

China's Guangshen Railway (NYSE:GSH) is a rare listed Chinese rail asset and it owns high-quality assets in Guangdong, but the nature of the Chinese rail market takes a lot of important strategic options out of management's hands. The state-owned China Railway Corporation (CRC) is getting more realistic about market-based reforms, though, and that has created some credible optimism regarding fare pricing power and the possibility of asset injections/acquisitions for Guangshen in the not-so-distant future.

Guangshen Railway's shares have done alright over the last year, but a lot of that appears predicated on those reforms that may allow the company to meaningfully increase its ticket prices. Absent those reforms, the company is likely going to find it hard to drive strong revenue growth due to competition with its Guangzhou-Shenzhen line, though an expansion of its railway operation services offers above-average revenue growth and good returns on capital (albeit less impressive margins). Guangshen's shares don't look remarkably undervalued, but with two-for-one potential profit leverage on fare hikes, slight undervaluation today and meaningful upside in a bull-case scenario merit a closer look.

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Guangshen Railway Has Potential, But A Lot Rides On Reform

Sunday, April 23, 2017

With Assets In Place, Orbcomm Ready To Drive Wider M2M Penetration

Satellite-based Internet of Things (or "IoT") datacomm services provider ORBCOMM Inc. (Orbcomm) (NASDAQ:ORBC) has spent the time and money to establish a strong end-to-end industrial IoT infrastructure, underpinned by a dedicated low-earth orbit satellite network. Now it is time for the company to demonstrate that it can sign up, and keep, enough customers in diverse fields like trucking, marine shipping, intermodal, and heavy equipment to deliver on the promise and potential of a high-margin, high-ROIC business model that can have meaningful growth from widespread adoption of industrial IoT.

This is no sure thing. The shares are down a bit over the past year (and up about 50% over the past three years), and recently reported revenue growth has been lackluster - particularly for a company that many believe should be solidly in its "growth phase." That said, the adoption and use of IoT to track mobile assets is still a relatively novel (if not experimental) concept for many of Orbcomm's customers and I wouldn't regard the relatively "missionary" aspect of today's sales process as a permanent issue. What's more, with a strong asset base now in place, I expect Orbcomm to start seeing the benefits of early adopters realizing (and reporting on) the benefits of IoT-based asset tracking and their peers moving to catch up.

If Orbcomm is in fact in the early stages of its adoption curve, there is significant uncertainty when it comes to modeling. I don't think 15x-17x forward EBITDA is unreasonable for a company that should be able to grow EBITDA faster than that over the next three, five, and 10 years; but investors will likely not be patient with the name if hardware sales don't start materializing in a bigger way in 2017.

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With Assets In Place, Orbcomm Ready To Drive Wider M2M Penetration

Ambitious Ashtead Looking To Disrupt Equipment Rental Even Further

Ashtead Group (OTCPK:ASHTY) has already accomplished a lot, as its U.S. equipment rental business Sunbelt dramatically outgrew the underlying market over the last decade or so, expanding more than 4x during a turbulent time for the overall market. Management has more in mind, though, as it believes it can eventually hold mid-teens share of a substantially larger market, as more construction companies turn to rental/leasing and as the company adds stores and bulks up in areas outside of core construction equipment rental.

Although Ashtead shares haven't done all that well year-to-date next to rivals like United Rentals (NYSE:URI) or Hertz (NYSE:HTZ), the shares are still up about 70% over the past year, with the shares up about a third since the U.S. Presidential election. Investors have already assumed a lot in regards to infrastructure stimulus and tax reform, and it is hard for me to argue that the shares are significantly undervalued on a cash flow basis. That said, management has shown an uncanny ability to grow the business and federal stimulus could stretch the company's prospects and create more M&A opportunities.

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Ambitious Ashtead Looking To Disrupt Equipment Rental Even Further

NCI Building Systems Offers More Than A Cycle Play

When I last wrote about NCI Building Systems (NYSE:NCS), I thought the shares looked as though they had some value on the prospects for a continued recovery in non-residential construction, as well as some self-help margin improvements. While the shares are up about a third since then, investors frankly would have done better investing in the S&P 500 or more residential-sensitive names like Louisiana-Pacific (NYSE:LPX) or Trex (NYSE:TREX).

I do have some concerns about what looks like modest share loss over the past couple of years at NCI, but much of that is offset by the potential of the company's expanded insulated panel business, as well as the ongoing progress in margin improvement. Although I expect a more "slow and steady" trend in non-residential construction, and I don't think past data regarding "average" peaks and troughs is all that useful, mid-single-digit growth in revenue and mid-single-digit FCF margins would support a fair value in the high teens today.

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NCI Building Systems Offers More Than A Cycle Play

Monolithic Power On Track To Deliver Exceptional Growth

With healthy margins, very strong relative growth prospects, and large addressable markets, Monolithic Power (NASDAQ:MPWR) checks a lot of the boxes that semiconductor investors like to see. That goes at least some way toward explaining why the shares have been so strong over the last one, three, and five years relative to the semiconductor industry and other power management rivals like Texas Instruments (NYSE:TXN), Maxim (NASDAQ:MXIM), and Infineon (OTCQX:IFNNY).

I like the prospects for the company to gain share in the growing auto semiconductor market, not to mention leveraging new opportunities like brushless motor control and more established opportunities like home appliances and servers. The question is how much an investor is willing to pay for that. It appears to me that the shares are already pricing in long-term revenue growth in the high-teens to low 20%'s, and it's tough to see a lot of incremental upside unless you believe Monolithic is going to significantly outperform expectations and that investors will continue to pay premiums for semiconductor stocks above past norms.

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Monolithic Power On Track To Deliver Exceptional Growth

Ajinomoto Continuing To Shift Toward Growth And Margins

A Japanese processed food company wouldn't necessarily stand out as a prime investment idea, given the sluggish growth prospects in the Japanese domestic market. Ajinomoto (OTCPK:AJINY) is an exception, though, in large part because of the company's efforts to position itself in growing emerging markets and improve the margins in its core Japanese market. Add in the potential for management to further revise and upgrade its non-food businesses and I think there is a credible case for bullishness here.

I'm expecting Ajinomoto to leverage low-single-digit revenue growth into mid-single-digit FCF growth, supporting a fair value about 5% to 10% higher than today's price. The liquidity for Ajinomoto's ADRs is not great, though, and I would encourage investors to consider the Japan-listed shares (2802.T) as a much more liquid option.

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Ajinomoto Continuing To Shift Toward Growth And Margins

Yaskawa Electric Leveraging The Automation Of China

Having established itself as a leader in multiple segments of the Japanese factory automation sector, Yaskawa Electric (OTCPK:YASKY) is trying to repeat its success in China as that country increasingly adopts automation. The company has done well thus far, but the cyclical nature of the industry and its dependence upon customer capex (not to mention forex exposure) have made for choppy share price performance over the past five years.

The shares are now off more than 10% from their recent high and look as though they could be slightly undervalued. I'm not looking for exceptional revenue growth in the coming years, but I do think the company can improve its margins and continue to leverage its strong share in servomotors. If adoption of servomotors, inverters, and robots can spread beyond today's core markets (and if Yaskawa can broaden its horizons in robotics), there could additional upside to sweeten the prospects.

Yaskawa's ADRs are not especially liquid. I would suggest that investors consider the Japan-listed shares instead.

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Yaskawa Electric Leveraging The Automation Of China

Squeezed On All Sides, Tsingtao Needs To Change

China's Tsingtao (OTCPK:TSGTY) is almost certainly the most recognizable Chinese beer brand in the United States and its flagship brand is still the leading single brand in China's large beer market, but that hasn't translated into much success lately for the company as a whole. Tsingtao has struggled to develop a cogent corporate strategy over the last five years, and the end result has been a weakening position in the attractive, growing premium categories as well as little traction in the mass-market/volume segment, not to mention steadily weakening margins.

While Tsingtao could be fixed, it is unclear to me if it will be. After two strong and successful management regimes, the approach of this management team seems muddled, unfocused, and not up to the challenges of competing with strong local rival China Resources Beer (OTCPK:CRHKY) (or "CRB") nor Anheuser-Busch InBev (NYSE:BUD) (or "ABI"). The shares are not dramatically mispriced, and Carlsberg's (OTCPK:CABGY) rumored interest in Asahi's 20% stake is encouraging, but it's hard to work up much enthusiasm for anything more than the potential of what a better-run Tsingtao could be.

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Squeezed On All Sides, Tsingtao Needs To Change

NewMarket Needs To Find New Markets To Drive Growth

NewMarket Corp. (NYSE:NEU) is an unusual company in many respects. A strong player in additives for lubricants and petroleum-based fuels, it has an enviable track record for EBITDA margins, cash flows, and returns on capital when compared to other specialty chemical companies. The company has been fairly generous about return capital to shareholders, but a lack of stock splits has led to a high absolute share price and somewhat thin trading volume, as well as minimal sell-side coverage. What's more, while NewMarket is good at what it is and generates healthy cash flow, it has taken a different path from many of its specialty chemical peers that have been looking to deploy their cash flow into diversifying acquisitions.

I like how NewMarket operates, and I think the expansion of the company's presence in Asia will improve the company's top line growth prospects. That said, I still don't believe the overall top line growth outlook is all that good, and the share price already seems to anticipate quite a bit of cash flow growth.

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NewMarket Needs To Find New Markets To Drive Growth

Monday, April 17, 2017

Methanex - Long-Term Opportunity, Or Musical Chairs?

Companies/stocks like Methanex (NASDAQ:MEOH) will earn you some early gray hairs. Methanex has long been the world leader in methanol production, with market share more than double its nearest competitor (depending upon how you treat state-owned businesses). What's more, while methanol prices and revenue have been endlessly volatile over the years, the company has always managed to generate positive EBITDA, nearly always managed to generate operating income, and typically generated positive cash flow, as well as strong returns on capital in the good years.

The problem is that this is a tough business in which to earn any sort of consistent return. Revenue actually shrunk over the last decade and EBITDA margins have swung between 5% and 30%, with long-term book value per share growth of just 3%. Looking ahead, demand for methanol in applications like fuel blending, biodiesel, and methanol-to-olefins, as well as growth in coatings, sealants, and other downstream markets, should be healthy, but I expect that state-owned enterprises in areas like the Middle East and China will be willing to add capacity in response.

Methanex's valuation is not so compelling to me, but historically these shares have done well in times of rising methanol prices. Hence the "musical chairs" part of this article's title - while I think supply curtailments and growing demand from applications like MTO can support higher spot prices (and strong cash flows for Methanex) from here, it won't go on forever and this is not a long-term buy-and-hold type of stock.

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Methanex - Long-Term Opportunity, Or Musical Chairs?

Suntory Needs To Optimize Japan And Expand Its Growth Opportunities

In contrast to Kirin (OTCPK:KNBWY), which I wrote about the other day, Suntory Beverage & Food (OTCPK:STBFY) ("Suntory") has a more promising record of managing its non-alcoholic beverage businesses and realizing value from its foreign investments. Nevertheless, while Japan's sluggish beer market isn't a concern here (Suntory Beverage & Food is a subsidiary of Suntory Holdings and doesn't participate in alcoholic beverages), Japan's non-alcoholic beverage market isn't offering much growth potential either, and Suntory will need to maximize its profitability here while exploring better growth opportunities outside Japan.

I believe management will succeed in these efforts, but there are ample risks and uncertainties regarding timing and magnitude. Suntory is already investing to develop market opportunities in Africa, but the company hasn't yet done much with China, India, or Latin America. While I'm looking for the company to generate low single-digit growth due to its heavy reliance on developed markets like Japan, Australia, and Western Europe, that is still sufficient to support a fair value about 10% above today's price.

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Suntory Needs To Optimize Japan And Expand Its Growth Opportunities

Kirin's Self-Improvement Amply Rewarded

Up more than a third over the past year (and around 30% over the past two years), Kirin (OTCPK:KNBWY) has outperformed peers like Asahi (OTC:ASBRY), Sapporo (OTC:SOOBF), and Suntory (OTCPK:STBFY) as management has made several moves to improve several underperforming segments of the business, including the sale of the long-struggling Brazilian operation to Heineken (OTCQX:HEINY). Now the question is what Kirin management can do to stimulate growth when its core market(s) offer minimal underlying growth at best and acquisition prices are steep.

Kirin shares deserved their run, but management needs to prove that it can deliver more than low single-digit FCF growth in the future. Although the underlying growth assumptions are not very high here, and the shares are undervalued on the basis of established industry M&A premiums, Kirin's best growth opportunities hinge upon the company executing well in precisely those places where it has struggled, and that's a little too aggressive for my comfort today.

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Kirin's Self-Improvement Amply Rewarded

InterXion's Data Center Opportunity Is Exciting, But The Valuation Is Demanding

Cloud adoption is accelerating in Europe, and InterXion's (NYSE:INXN) portfolio of high-quality carrier/cloud-neutral interconnection-focused data centers across major markets is a high-value asset. Utilization is healthy, margins are improving, and the company is looking down an attractive growth runway. It also doesn't hurt that InterXion is an attractive, "gettable" standalone asset that could attract M&A interest.

The "but" for me is that I struggle to find the value in the shares at this price. I won't necessarily disagree that InterXion could be taken out at a price above today's level and still make sense for the buyer, but I hate relying on M&A-based valuations as my primary valuation method. Looking at other approaches like EV/EBITDA and discounted cash flow, though, suggests that the market is already more than up to speed on the potential here, and I believe InterXion will have to produce double-digit long-term revenue growth to drive a higher price.

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InterXion's Data Center Opportunity Is Exciting, But The Valuation Is Demanding

Repeated Strategic Blunders And Regulatory Risks Weighing On Centrica

Contrary to what some seem to believe, utilities aren't foolproof toll-taking businesses that can be run on autopilot, but the U.K.'s Centrica (OTCPK:CPYYY) has committed a lot of unforced errors along the way. Although the company has done a good job of improving customer service and developing retail customer retention efforts, the company's foray into upstream oil and gas has destroyed value, and the company's efforts to generate growth from businesses like connected homes and distributed generation are uncertain at best. Making matters worse, aggressive pricing actions from competitors in the U.K. market has the government talking about taking a harder line on regulation and implementing more price controls.

Centrica offers a yield above 5%, and the company's cash flow should continue to grow from here (albeit slowly). With upstream capex now significantly de-prioritized, more of that cash could be directed towards shareholders once the company goes a little further with deleveraging. The shares look poised around fair value, with the potential of the growth opportunities balanced by the regulatory and competitive risks.

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Repeated Strategic Blunders And Regulatory Risks Weighing On Centrica

Can Rakuten Maintain Leadership ... And Will It Matter?

Market leadership is all well and good, but if you can't make much real money from it, that leadership really doesn't get you very far over the long term. With Amazon (NASDAQ:AMZN) and Yahoo! Japan (OTCPK:YAHOY) putting pressure on Rakuten (OTCPK:RKUNY) in its core e-commerce business, Rakuten has had to respond with more aggressive marketing and promotions. At the same time, though, management is trying to be more disciplined and more demanding with its numerous ancillary operations, and the company has a credible shot of driving meaningful growth in its credit card business.

Modeling Rakuten offers a few more challenges than normal, as Amazon can be a brutally competitive player. While Rakuten would seem to offer about 10% upside from here on the basis of growth opportunities like Ebates, Viber, and its card business and improving profitability in its core Rakuten e-commerce business (Rakuten Ichiba), bulls need to at least consider the risk that Amazon and Yahoo! Japan compete so aggressively that meaningful profit growth in the core business proves elusive.

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Can Rakuten Maintain Leadership ... And Will It Matter?