Seeking Alpha
Growth, long/short equity, research analyst, tech
Profile| Send Message|
( followers)  

Summary

  • Emerson Electric reported its Q2 FY 2014 results and missed analysts’ expectations regarding revenues and earnings.
  • The company performed well in Q2 FY 2014 in comparison to Q2 FY 2013 if the one-off charge due to Artesyn equity investment divestiture is excluded from the results.
  • The global industrial valves market is forecasted to reach a worth of $72 billion by 2015 that will bring growth for the company’s process management segment.
  • The company’s network power segment will record more growth in the coming years due to the rise in the global data center IP traffic and telecom capex.
  • The signs and forecasts of recovery in Europe will also boost the company’s financial performance in the coming years.

Emerson Electric Co. (NYSE:EMR) is involved in crafting and supplying products and services for technology and engineering solutions to the industrial, commercial, and consumer markets. The company reported its Q2 FY 2014 results and missed analysts' expectations regarding revenues and earnings. The company's performance in Q2 FY 2014 reflected a 2.5% fall in the company's earnings in comparison to Q2 FY 2013. The company also experienced a decrease of 2.5% in its revenue due to its recent divestiture. This was a major reason behind the deterioration in the company's financial results in Q2 FY 2014. Therefore, in this article I will comment on the company's performance during the recent quarter. I will also determine some of the factors that will drive the company's performance and position in the coming periods.

Overview of the Company's Performance in Q2 FY 2014

The company's net sales declined by 2.5% in Q2 FY 2014 to $5.8 billion (see table below). The company's $5.8 billion revenue earned in Q2 FY 2014 also missed analysts' estimates of $5.9 billion. The major factor the contributed to the decline in the company's top line was the 20.9% decline in the sales from the company's network and power division. This huge fall in the sales of the company's network and power division was due to the impact of the Artesyn Embedded Technologies equity investment (formerly the embedded computing and power business) divestiture. The company asserts that repositioning Artesyn by the majority owner lines up with the company's strategy to create value over the long term.

On the other hand, sales revenue from the company's process management, industrial automation and climate technologies segments grew 4.4%, 1.6% and 5.4% respectively in Q2 FY 2014 in comparison to Q2 FY 2013. In addition to these, the company's commercial and residential solutions also recorded a minute growth of 0.7% in its sales in Q2 FY 2014 in comparison to sales logged in Q2 FY 2013.

Source: Emerson Reports Second Quarter 2014 Results

The company earned a profit of $547 million in Q2 FY 2014 that was 2.5% down from $561 million earned in Q2 FY 2013 (see table below).

Source: Emerson Reports Second Quarter 2014 Results

However, if the $34 million one-time Artesyn equity loss had not occurred during Q2 FY 2014 (see extract detailing "other deductions" below), the company would have logged a positive growth in its net income in Q2 FY 2014.

Source: Emerson Reports Second Quarter 2014 Results

The company's per share earnings remained flat at 77 cents (including 3 cents loss per share from the Artesyn equity investment divestiture) in Q2 FY 2014 in comparison to Q2 FY 2013. This was because the company has fewer shares outstanding in Q2 FY 2014 in comparison to Q2 FY 2013. Analysts expected the company to earn 81 cents per share in the recently reported quarter. Therefore, even if 3 cents per share from the Artesyn equity investment divestiture is excluded from the company's EPS, the company earned 80 cents per share. This is again short of analysts' expectations of 81 cents per share. Overall, the company's top and bottom lines would have recorded growth in Q2 FY 2014 compared to Q2 FY 2013 if the one-off adverse effects from Artesyn were not included. This indicates that the company is headed towards recovery and growth.

Process Management and Network Power Segments and Outlook

The process management and network power segments formed the company's major revenue contributing segments in the first half of the current fiscal year (see pie chart below). Therefore, I will elaborate on the company's prospects in these two fields.

Source: Emerson Reports Second Quarter 2014 Results

The company's process management orders strengthened in Q2 FY 2014 largely due to vigorous project activity in the North America energy and chemical industries. This segment supplies systems and software for control plant processes such as control values and measurement instrumentation. These industries trigger the demand for measurement devices that generated 45% of the company's process management segment's net sales in FY 2013 (see pie charts below). North America is the major revenue driving region for the company's process management segment (see pie charts below).

Source: EMR

The global industrial valves market is forecasted to reach a worth of $72 billion by 2015. The government regulations concerning emission control, accelerating demand for resources such as water and power will drive firm and persistent growth in the global valves market in the coming years. The economic recovery in mature markets and rise in investments in the emerging economies are likely to strengthen the market potential. The growth in population stresses the need for the supply of more power and energy resources and will also invite increased investments.

During Q2 FY 2014, Emerson Electric also recorded growth in its network power orders led by vigorous data center project activity in Europe. North America is also the major revenue contributing region for the company's network power segment as shown in the following pie chart.

Source: EMR

The company's network power segment supplies products that provide "grid to chip" power conditioning, reliability and control for telecommunications networks, data centers and other critical applications. The demand for products and services provided by the company's network power segment is likely to grow in the coming years due to growth in the global data center IP traffic and telecom capex in the coming years (see charts below). The company is also restructuring its network power segment in order to capitalize on the upcoming growth in the industry. The restructuring of the Artesyn Embedded Technologies equity investment by the company is part of such efforts.

Source: EMR 2014 Investor Conference

Recovery in Europe and Growth from Other Markets

Emerson Electric anticipates business confidence will gradually improve and macroeconomic conditions will gain momentum, especially in Europe. In Q2 FY 2014 the company's underlying sales from Europe went up 1% (see table below) indicating recovery.

Source: EMR Second Quarter 2014 Earnings Conference Call

Both Western and Eastern Europe are forecasted to record positive growth in gross fixed investment, GFI. Western Europe recorded negative 3.4% growth in its GFI in 2012-2013 but is projected to record 1.5% growth in GFI during 2013-2014. Moreover Eastern Europe logged negative 1% growth in GFI during 2012-2013 but a 3% growth in GFI is forecasted for Eastern Europe during 2013-2014.

Source: EMR 2014 Investor Conference

Emerson Electric is well positioned to capitalize on the long-term inclusive trends of infrastructure spending and enhanced energy efficiency. Emerson Electric's industrial automation and process management segments have been receiving more orders due to the recovery in the end markets of these two segments. The company has also been restructuring its portfolio over the past three months mainly to concentrate on the growing oil and gas and chemical markets.

Furthermore, Emerson Electric is also likely to gain from the gradual adoption of central air conditioning in Asia stimulated by the growing middle class and wider energy efficiency initiatives.

Orders Growth, Backlog and Final Take

The company recorded 2% growth in its underlying sales while orders went up 9% as disclosed for Q2 FY 2014. The company experienced strong demand across all segments driven largely by huge, multi-year industrial projects, recuperating demand for capital goods, and more favorable business environments in Europe and Asia. During the second half of March 2014, the company's orders in the month were up around 20% and backlog increased to $7 billion. This reflects stronger market conditions and recovery ahead for the industry.

The company reiterated its guidance of $3.68-$3.80 EPS and 3%-5% underlying sales growth for FY 2014. Analysts expect the company to have $3.77 in earnings per share in FY 2014.

The company would have performed well in the recently reported quarter in comparison to same quarter previous year if the one-off divestment and restructuring charge were not added to the financial results. The company is recording growth in orders for most of its segments indicating recovery in the markets. The company's process management and network power segments are major contributors to the company's revenue and are likely to capitalize on the recovery and growth in the industry due to various factors. The recovery in Europe will also boost the company's performance in the coming periods. Overall, these factors indicate bright future prospects for the company and will allow the company to meet its guidelines for FY 2014. Therefore I rate this stock as a buy.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Business relationship disclosure: The article has been written by a Gemstone Equity Research research analyst. Gemstone Equity Research is not receiving compensation for it (other than from Seeking Alpha). Gemstone Equity Research has no business relationship with any company whose stock is mentioned in this article.

Source: Emerson Electric: Bright Future Prospects Ahead