Rockwell Automation Puts Up A Decent Quarter In A Challenging Macro Environment

Automation specialist Rockwell Automation (ROK) reported a decent quarter for its fiscal first quarter (calendar fourth quarter), but Rockwell's valuation isn't predicated on decent results - the valuation embeds expectations of superior growth and margins, and I'm concerned that investors may continue to be disappointed on that front, as the company's reputation can overshadow its reality. On a more positive note, the company's digital industrial initiatives do appear to be gaining some traction.

Rockwell shares are down a little from my late November update, modestly lagging the industrial peer group over that very brief time frame (though Rockwell has also underperformed a bit over the past year). That hasn't brought the shares to what I'd call an undervalued level, but I can say that the shares aren't all that more expensive than many other high-quality industrials these days in terms of prospective returns.

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Rockwell Automation Puts Up A Decent Quarter In A Challenging Macro Environment

New Tariffs Create New Headaches For Rockwell Automation

At the time of Rockwell’s (ROK) fiscal second quarter earnings report in late April, I commented that I thought investors would have an opportunity to buy shares in this high-quality automation enabler at a lower price. Since then, the shares have dropped more than 15%, significantly underperforming industrials in general, on growing concerns about a slowdown in the industrial end-markets that make up a large part of the discrete automation market. Now with the prospect of significant tariffs on Mexico on the table, Rockwell is taking another body-blow.

I do believe that Rockwell management is underestimating the risk of a broader slowdown in industrial end-markets, even though I do basically agree with its more bullish medium-to-long-term outlook. With a real risk of a “lower-for-longer” end-market demand situation and now potential pressures from new tariffs, I’m inclined to keep waiting even though Rockwell shares now trade below my estimate of fair value.

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New Tariffs Create New Headaches For Rockwell Automation

Rockwell Skids On A Weaker Auto End-Market

The last three months haven’t been particularly kind to Rockwell (ROK), as the share price of what is usually a darling among industrials has lagged the broader industrial sector, and automation peers like Yaskawa (OTCPK:YASKY), Fanuc (OTCPK:FANUY), Nidec (OTCPK:NJDCY), Emerson (EMR), Schneider (OTCPK:SBGSY), and even ABB (ABB). To be fair, it was the significant slide after second quarter earnings on Thursday that did the damage, though the shares had still been lagging most automation companies (except ABB) and were only slightly better than the average industrial before the report.

Like 3M (MMM), Sandvik (OTCPK:SDVKY), SKF (OTCPK:SKFRY), Illinois Tool Works (ITW), and the Japanese automation companies, weakness in autos is a major contributor to Rockwell’s present weakness, but I took management’s guidance and comments as reflective of some potential warnings about spreading weakness in other industrial end-markets – something that I’ve been expecting as this year rolls on. Rockwell shares are now in a tough situation valuation-wise; they’re not so clearly undervalued that I’m inclined to say “just buy and wait for the cycle to reverse), but the valuation is getting more reasonable and this is a stock to watch more carefully now.

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Rockwell Skids On A Weaker Auto End-Market

Schneider Slowing, But May Be Better Positioned For The Downturn Than The Street Thinks

Concerns have been growing about the health and durability of the short-cycle upturn, and the performance of the stocks of companies like Schneider Electric (OTCPK:SBGSY) have reflected at least some of that. While a strong post-earnings run has lifted Schneider’s performance over the average industrial and peers like Eaton (ETN) and Rockwell (ROK) since my last update, the shares spent most of the second half of 2018 lagging broader industrial indices.

I’ve made no secret of my concerns about a slowdown in the global economy, and as it pertains to Schneider, I am concerned about the near-term outlook for non-residential construction and factory automation. On the other hand, Schneider isn’t as short-cycle-dependent as in the last cycle, and the company’s position in process automation, oil/gas, grid automation, and data center could help offset some of the weakness. With a long-term growth outlook roughly similar to Emerson (EMR), and sandwiched between Eaton and Rockwell, I do think these shares are undervalued, but 2019 could be a tricky year for the stock as sentiment has seemingly shifted to a point where there is a “show me” story.

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Schneider Slowing, But May Be Better Positioned For The Downturn Than The Street Thinks

Worries About China And Energy Have Pushed Emerson To A More Interesting Level

It hasn’t been a good couple of months for Emerson (EMR). Between worries about weakening conditions in China, weaker oil prices, and relatively conservative guidance with fiscal fourth-quarter results in early November, Emerson's shares have fallen almost 20% since early October – tracking fellow process automation player Yokogawa (OTCPK:YOKEY) and lagging other comps like Rockwell (ROK), Honeywell (HON), and industrials in general. It’s worth noting, though, that Emerson has done comparatively better on a full-year basis and remains one of the better-positioned multi-industrials for a late-cycle 2019.

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Worries About China And Energy Have Pushed Emerson To A More Interesting Level

Rockwell Automation Still Poised Between Excellence And Uncertainty

Looking into 2019, Rockwell Automation (ROK) seems to be in familiar territory – nobody’s really questioning the operational excellence of this leader in discrete automation, but there are plenty of concerns about end-market health, where industrials sit in the cycle, and whether Rockwell is as well-positioned for the next phase of automation as it was for the last.

I typically shoot for double-digit returns when I invest, and Rockwell doesn’t seem priced to deliver that unless you think long-term FCF growth can reach that grey area between mid-single-digits and high single-digits – a level of performance that’s not impossible, but certainly not conservative to expect. Although I’m tempted to call today’s potential returns “good enough” for a stock that seldom gets all that cheap unless/until industrial stocks really go fan-ward, I do believe there could be another round of angst and stock weakness early in 2019 that could be an opportunity to pick up high-quality industrials like Rockwell.

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Rockwell Automation Still Poised Between Excellence And  Uncertainty

ABB Still Spinning Its Wheels

Every investor has their “enough” point, and I’m getting there with ABB (ABB). Despite a pretty healthy environment for electrical and automation products in general, and strong market positions in many of those markets, ABB has spent a lot of its recent history going nowhere fast, pulled down by weakness in the Power Grids business, weak utility demand, and a series of ongoing restructuring and M&A integration initiatives. Comparisons to companies like Honeywell (HON) aren’t really fair, but it has been a while since ABB investors really had a lot to cheer about, and third quarter results don’t really seem to represent a break with that trend.

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ABB Still Spinning Its Wheels

Schneider Electric's Business Is Outperforming, But The Stock Really Isn't

I can’t say that Schneider Electric (OTCPK:SBGSY) has been a terrible call this year, but I expected better from this European specialist in electrical and automation products than just sector-matching performance. Even though Schneider continues to outperform its peers in terms of its financials, and management continues to offer a pretty solid near-term outlook, the Street is most definitely not all-in on this name, as concerns about the health of end-markets like commercial construction and utilities remain in place and concerns are building about factory automation demand.

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Schneider Electric's Business Is Outperforming, But The Stock Really Isn't

For ABB, It's About Cycle, Self-Improvement, And Sentiment

A laggard for some time among the industrial automation and electrification players, ABB (ABB) has at least been a little “less bad” of late as sentiment has started giving the company some credit for its later-cycle end-market exposures. Now the question is whether those promising-looking exposures will deliver actual orders in the second half of the year and drive better revenue in 2019. At the same time, there is still more than casual interest in ABB’s willingness and ability to execute on some self-help moves that would largely involve slimming down and simplifying the business.

I’ve long been an owner and supporter of ABB, and I can’t say that it has done right by me. Still, compared to peers like Emerson (EMR) and Rockwell (ROK), the valuation is undemanding and offers some upside if ABB can deliver on those sentiment-shifting improvements in orders and portfolio composition.

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For ABB, It's About Cycle, Self-Improvement, And Sentiment

Rexel SA Showing A Little More Juice In Its Turnaround

It has been frustrating waiting for Rexel (OTCPK:RXEEY) (RXL.PA) to deliver on its turnaround potential, and the shares had been steadily sliding lower this year until strong second quarter results reversed the trend. Now it seems that the company’s major suppliers are seeing better trends in electrification and automation, and the company’s own plans to improve performance in the U.S. and Europe seems to be paying off a little better. With healthy trends in non-residential construction in Europe and the U.S. and signs of margin leverage, there should be more upside for Rexel from here.

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Rexel SA Showing A Little More Juice In Its Turnaround

One Quarter Doesn't Break, Or Make, Rockwell Automation

Even though I understand the demands of the world in which they work, sell-side analysts still amuse me from time to time (and I used to be one). When Rockwell Automation's (ROK) fiscal second quarter came up light on growth, you could hear the wails of anguish and the rending of garments that the cycle was doomed to roll over and crush Rockwell's multiple with it. Now Rockwell posts a stronger than expected fiscal third quarter and it's all party hats and conga lines. As I said, sell-siders serve a client base (institutional investors) where "long-term" sometimes seems to mean two quarters, but it does help explain at least some of the volatility in the share price.

For my part, I'm still a little concerned about the cycle. Many industrial CEOs have gone on record saying they think there's another 12 months or more left in this expansion, but I do think the pace is likely to slow and historically that's been a hard environment for Rockwell's share price performance. I do still like this company, and I like its partnership with PTC (PTC) and growing focus on software and services within automation. But "automation" is not a growth panacea and I have some concerns about a high-multiple stock in a possibly slowing sector that could see multiple reversion to the mean.

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One Quarter Doesn't Break, Or Make, Rockwell Automation

Schneider Electric Not Getting Much Credit For Share Gains

Sometimes you have to love Wall Street logic. Grow slower than your peers? Well, you’re losing share, so that’s a “hold”. Outgrowing your peers? Well, looks like you’re at peak growth. Better go with a “hold”. Tongue-in-cheek cynicism aside, I do wonder what it will take for Schneider Electric (OTCPK:SBGSY) (SU.PA) to please the market, as this company not only posted one of the better organic growth rates for the quarter, it saw some operating leverage, and also raised guidance.

I understand concerns about a short-cycle slowdown, but the results and guidance posted by industrials so far this quarter suggest less risk of an imminent downturn, and Schneider is looking to boost prices in the second half of the year. With the shares down another 5% or so from my last write-up (when I thought the valuation was borderline), this is starting to slide into my “buy” zone, though I will admit the negative sentiment is a little bit of a concern in the near term.

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Schneider Electric Not Getting Much Credit For Share Gains

PTC Delivering On Its IoT Promises

There was plenty of skepticism, if not outright scorn, a few years ago regarding PTC's (PTC) plan to put its industrial IoT platform ThingWorx at the center of its growth plans. Fast forward back to the present, and not only has PTC continued to grow, the IoT business has grown to roughly parity with the legacy product lifecycle management (or PLM) software business on a new bookings basis. What's more, PTC has brought in Microsoft (MSFT) Azure and Rockwell (ROK) as partners to grow the IoT business, with partnering with Ansys (ANSS) to augment its legacy Creo CAD business with simulation capabilities.

I liked these shares back in the spring of 2017, and the 80% or so move since then has been gratifying to see, particularly as the business seems to be picking up momentum. Although my growth outlook is stronger now than before, in no small part due to the big-name partnerships PTC has added for ThingWorx, the growth in valuation has exceeded the growth in my expectations. Consequently, while I do still like this business and I fully acknowledge the potential that financial outperformance could drive higher multiples, I can't find the undervaluation to call this a good buy unless you're interested in trading more on momentum than value.

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PTC Delivering On Its IoT Promises

Schneider Has Put The Pieces In Place To Drive Higher-Value Growth

Relative to what investors seem willing to pay for companies like Rockwell (ROK), Emerson (EMR), and Yaskawa Electric (OTCPK:YASKY), I'm starting to wonder if Schneider Electric (OTCPK:SBGSY) isn't in some respects an overlooked contender in some attractive markets. Not only is Schneider a leader in energy management (and with a relatively attractive mix), but it is also a strong player in both discrete and process automation and well-positioned for what looks to be a growing convergence between hardware and software in automation.

Schneider isn't exceptionally cheap, but in a market where many high-quality industrial names are quite expensive, it still looks like an interesting relative laggard on valuation. I'd really like to see a stronger ROIC here, and I believe that at least partly explains the valuation, but low-to-mid single-digit organic revenue growth can support a decent return from here.

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Schneider Has Put The Pieces In Place To Drive Higher-Value Growth

Yokogawa Electric Looks Undervalued, But Consider The Reasons Why

The last year has seen a strong recovery in a variety of industrial markets, but Japan's Yokogawa Electric (YOKEY) (6841.T) hasn't seen all that much benefit. One of the top players in distributed control systems (or DCS), Yokogawa's dependence upon petro-sector capex and its substandard margins have both created issues and led to lackluster performance. While the conglomerate nature of the process automation sector complicates comparisons (there's a lot more going on at Honeywell (HON) and Siemens (OTCPK:SIEGY) than process automation), Yokogawa's performance relative to companies like Emerson (EMR), Schneider (OTCPK:SBGSY), Rockwell (ROK), and HollySys (HOLI) hasn't been all that impressive, though it has at least outperformed industry-laggard ABB (ABB) over the past year.

Yokogawa shares do look undervalued on what I believe are reasonably conservative expectations, but the company's reliance on the petro-vertical is a long-term risk in my mind, and I cannot get that excited about the level of execution management has demonstrated over the years, with relatively weak margins and ROICs being the norm.

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Yokogawa Electric Looks Undervalued, But Consider The Reasons Why

Dassault Looks Well-Placed For The Next Era Of Manufacturing, But Valuation Is Problematic

French PLM software leader Dassault Systemes (OTCPK:DASTY) is part of the reason I’m much too gray for somebody in their 40s – while I love the business that the company is in, and its leverage to the ongoing “digitalization” of the manufacturing sector, the valuation is pretty brutal for someone who considers themselves a GARP investor. Although I think investors who put more emphasis on the “Guh” part will be happy with the growth that Dassault delivers in the coming years, the valuation is just too much of a sticking point for me right now… even though it really won’t surprise me if I’m reading this three years from now and thinking, “man… I should have just bought it anyway”.

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Dassault Looks Well-Placed For The Next Era Of Manufacturing, But Valuation Is Problematic

Taking A Cue From Siemens, Rockwell Automation Partners With PTC

With Monday’s announcement of a strategic partnership between Rockwell (ROK) and PTC (PTC), two well-respected and perpetually-expensive players in industrial automation are coming a little closer together. Although this tie-up certainly won’t bring all of the benefits of an acquisition to Rockwell, integrating PTC’s strong IoT offerings with its own FactoryTalk offerings should meaningfully boost the data-gathering and analytical capabilities and advance Rockwell’s Connected Enterprise concept. Rockwell shares still don’t look cheap, but then they rarely do, and if management is right about the increasing role software will play in factory/process automation, this is an important long-term investment.

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Taking A Cue From Siemens, Rockwell Automation Partners With PTC

3M Stumbles, And The Knives Come Out

If 3M (MMM) had in fact been benefiting from the unwind of General Electric (NYSE:GE) as the go-to multi-industrial name and a change in perception that it was no longer so sensitive to short-cycle movements, a lot of that has unwound since late January. 3M still has quite a lot of exposure to sectors like autos and electronics, not to mention "general industrial", and investors are increasingly worried that those businesses are now past their peaks. Add in growing worries about margin leverage, 3M's inability to cover input cost inflation, and a high valuation, and institutional shareholders are scrambling for the exits.

As I wrote in prior articles on 3M, the shares got too high on overheated enthusiasm about the economic cycle, and there is definitely a risk that perception will overcorrect in the other direction. 3M isn't yet at an obviously cheap level yet, though the shares are getting back to a high single-digit long-term implied return, provided that mid-single-digit FCF growth remains a valid long-term assumption.

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3M Stumbles, And The Knives Come Out

A Good Start To The Year For ABB, But Management Has To Build From Here

Owning ABB (ABB) continues to be an exercise in frustration, as the shares have lagged peers like Schneider (OTCPK:SBGSY), Emerson (EMR), and Siemens (OTCPK:SIEGY) so far this year, while only very slightly outperforming Rockwell (ROK). Stretch those comparisons out a couple of years and the story remains frustratingly consistent, as ABB has had to pay the price for its own self-inflicted wounds in years past.

I remain cautiously optimistic that better days lie ahead. ABB has gotten smarter lately with its M&A and has been reinvesting in areas like R&D and services to support better long-term growth. Likewise, I’m bullish on the long-term opportunities in higher-margin areas like grid automation, robotics, and EV charging. Although the company still has some fundamental mix issues to solve, ABB’s late-cycle skew and exposure to recovering industries like oil/gas and mining should help.

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A Good Start To The Year For ABB, But Management Has To Build From Here

ABB Is Getting There, But The Process Has Been Ugly

There’s an old joke that says if you like sausage, you should never watch how it’s made. I feel that ABB (ABB) has been a little like that – the company has spent most of the past four years restructuring and repositioning the business (including sizable M&A), and while the company is now on better footing, the whole process has left a lot of investors feeling squeamish and put off by the name.

I can’t promise that the new ABB will be a significant improvement over the old one, but I do know that this is a company with leadership in a wide range of end-markets that can (and should) provide above-average growth in the coming years. I also know that ABB is operationally leaner and more focused on businesses that can provide steadier, higher-margin revenue for the long term. I still expect relatively less from ABB than I do some of its closest peers (including Rockwell (ROK)), but mid-single-digit revenue growth and low double-digit FCF margins can support a fair value a little higher than today’s price and high single-digit total returns.

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ABB Is Getting There, But The Process Has Been Ugly