Macro Risk Is Rising, But Nordson's Diverse, High-Margin Niche-Oriented Businesses Should Be More Resilient

This is a tricky time to invest in industrials, and Nordson’s (NASDAQ:NDSN) multi-market diversification doesn’t really help now given the growing concerns about end-markets like semiconductors, consumer electronics, short-cycle industrial, and consumer non-durables. Likewise, this tends to be a capex-driven business with relatively little cycle visibility. On the other hand, this is a niche-oriented business with a proven track record of performance, and I like the company’s focus on managing for long-term performance (and not short-cycle optimization).

When I last wrote about Nordson, I wasn’t sold on the valuation, but thought the shares were worth watching. The shares subsequently declined about 10% through June before a sharp rebound and another recent fade that has left the share price more or less unchanged while the average industrial has lost about 10% of its value. I do remain concerned about valuation, particularly in the face of what could be a noticeable decline in capex investment over the next 12-18 months (especially in semiconductors and electronics), but this is definitely a name to keep on a watchlist and reconsider at/below $200.

 

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Macro Risk Is Rising, But Nordson's Diverse, High-Margin Niche-Oriented Businesses Should Be More Resilient

Nordson: A Slide Worth Watching

 

Nordson (NDSN) is hardly alone in having a year to forget so far in 2022, with the shares down about 15% since the start of the year and lagging the broader industrial space. While companies like Parker-Hannifin (PH) aren’t great comps from a product line standpoint, they’re both businesses where the stocks tend to struggle once the Purchasing Managers' Index starts to soften, and this has been a common theme across the industrial sector in recent months, exacerbated by increased global economic uncertainty in the wake of Russia’s invasion of the Ukraine.

Industrial stocks got quite expensive, and I do think further derating is a risk, as are downward revisions to numbers if high energy prices and other cost pressures start impacting demand. Nordson won’t be immune to that in the short-term, but I do like the story here, given Nordson’s leverage to semiconductor capex, packaging capex, and growth opportunities in areas like biopharma and EVs. The share price isn’t where I need it to be yet, but this is definitely a name for a watchlist.

 

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Nordson: A Slide Worth Watching

Nordson: A Quality Industrial Growth Name, And Priced Accordingly

It's been much, much too long since I've written on Nordson (NDSN), but how many different ways can you say "this is a great company and I love the growth opportunities, but I don't really want to buy in at this price?" To that extent, this company is quite similar to names like Graco (GGG) in that it consistently does a good job, though with some cyclicality and not that much fanfare on the Street.

Since I wrote on the company back in 2017 (when I thought it was great but expensive), the stock has generated a total annualized return of 12.6% (including reinvested dividends) - just slightly below the 12.9% return of the S&P 500. This is my issue with overpaying - sometimes, with some companies, it works out, but often there's a price to be paid sooner or later.

This is a great company, and I still like the growth opportunities - particularly in areas like advanced semiconductor fabrication and packaging. I also like how management has expanded the medical business and adjusted the business model (NBS Next) to drive better growth over the next cycle. What I don't like, of course, is the valuation and this is a watchlist name for me for the next market freakout.

 

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Nordson: A Quality Industrial Growth Name, And Priced Accordingly

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

Nordson's Growth Story Sticks

Like it or not, the U.S. economy really is recovering. Rail traffic continues to highlight that companies are shipping more and more "stuff" around the country. Grainger's (NYSE:GWW) monthly sales rates have stayed strong, and then there is the case of Nordson's (Nasdaq:NDSN) volume and order growth. 

Okay, maybe this last point needs a little more explanation, since Nordson is not exactly a household name. Nordson sells a wide range of products that dispense and apply all sorts of adhesives, coatings, sealants, surface treatments and so on. What is intriguing, though, is that this company sells into many different parts of the economy (consumer non-durables, durables, tools, appliances and tech), and if they are seeing broad order growth, that means a lot of industries are opening their wallets for cap-ex spending.

A Solid End To The Year
For the fiscal fourth quarter, Nordson reported that revenue rose 22% on the back of a 23% jump in product volume. That result puts the company at the lower end of a narrow analyst range. Growth was strongest in the advanced technology business, with 42% overall growth led by nearly 43% volume growth. The adhesive dispensing business (the company's largest) saw revenue rise about 8%, while the industrial coatings business produced sales growth of 38%. (For related reading, see Is Growth Always A Good Thing?)

Operating leverage was also fully in play this quarter. The company's gross margin improved by a full point, while the operating margin improved about six full points (adjusting the year-ago figure for some impairments). All in all, adjusted operating profits grew almost 59%, with every segment showing improvement.

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