A Good Quarter From Manitowoc Shows The Pre-Split Thesis Remains Intact

| About: Manitowoc Company, (MTW)

Summary

MTW delivered an estimate-beating quarter, with particularly strong performance in the Cranes business.

Improved execution in their Foodservice equipment category shows the segment is likely still worth more than the entire market cap.

Despite the macro fears, this event-driven play continues to represent an attractive risk-reward.

Manitowoc (NYSE: MTW) delivered a strong quarter, topping estimates and providing a renewed sense of optimism over the upcoming split. Most surprising was the performance and higher-than-expected margins at the company's crane equipment division. MTW is working to refinance its debt before the split, which it expects will occur by the end of Q1.

Q4 Summary

The company reported fourth-quarter 2015 sales of $934.8 million, a decrease of 9.9 percent, in relation to the same period for 2014. On a GAAP basis, the company reported net earnings of $43.8 million, or $0.32 per diluted share, in the fourth quarter versus net earnings of $33.6 million, or $0.25 per diluted share, in the fourth quarter of 2014. Adjusted EPS (which excludes goodwill amortization and one-time restructuring charges) was $0.43 in Q415, as opposed to $0.27 in Q414. For the full-year, consolidated sales were $3.4B, an 11% decrease. GAAP EPS for 2015 was $0.46 ($1.05 in 2014), whereas adjusted EPS was $0.7 ($1.16 in 2014). The company is continuing with its spinoff in Q1 2016, but has noted that credit market issues have brought risks to the company's plan of refinancing foodservice debt prior to the spin.

Discussion of Foodservice

Performance at MTW's foodservice equipment business ("Foodservice") remained strong. It exhibited revenues of $391M in the fourth quarter, which was around consensus. However, margins were well-above a 16-17% consensus, at 18.6%. This means that full-year 16.5% EBIT margins should be realizable as soon as 2016, with management reiterating their commitment to realizing low 20s margins of its peers. Management also provided more color on the company's expected Depreciation, Amortization, and Corporate expenses, as well as the company's expected CapEx. Based on renewed guidance, I have updated the model from my previous article. Using 4% revenue growth, and conservatively using the high end of guidance for each item, I arrive at the following value for Foodservice.

 

Value

Food 2016E

$1,664M

EBIT Margin

16.5%

EBIT

$274.56M

Plus: D&A

$328.56M

Less: IT

$124.37M

Less: CapEx

$27.00M

Less: Corporate

$30.00M

   

Free Cash Flow

$147.19

FCF/Share

$1.08

   

2016 Value (17X)

$18.33

Click to enlarge

Valuation on an FCF (to equity) basis better represents the cash generating potential for the segment. I use a lower multiple than peers due to the very high leverage (likely at least 3X EBITDA) that the business will take on once it spins off. However, it is important to recognize that Manitowoc's foodservice business has the best potential for earnings growth, as it represents a story of above-average growth in addition to margin expansion. As stated in my previous article, MTW's foodservice segment is likely worth more than the entire company. Moreover, to the extent that Foodservice could potentially be an acquisition target, the value realized could in fact be higher. While I am not advocating M&A speculation, it is important to note that high levels of activist and hedge fund involvement improves the odds. Furthermore, it is simply a valuable option at current prices, as the valuation for Foodservice as a standalone entity (irrespective of control premium) is enough to warrant a serious look at MTW's investment merits. I reiterate my view that MTW offers an attractive event-driven play with a catalyst within just a few months.

Cranes

The outlook for MTW's crane manufacturing business ("Crane") does look poor, although the latest quarter soundly beat consensus estimates. Fourth-quarter 2015 net sales in Cranes were $543.1 million, versus $663.2 million in the fourth quarter of 2014 (down 18.1%). The decline was attributable to weakness in rough-terrain cranes and boom trucks, which are exposed to energy-related end markets. Declines were partially offset by strength in crawler cranes driven by strength in tower cranes, which are currently benefiting from improving construction markets (both residential and non-residential). Strength in VPC crawlers also helped offset the declines and contribute to the earnings beat. Perhaps most (pleasantly) surprising about the quarter was the improvement in operating margin to 4.4%, as compared to consensus of less than 1.5%. The company is guiding towards flat revenues (around $1.9B), a 4% operating margin, and $48-54M of Depreciation and Amortization charges for 2016. Most of the sell-side commentary seems to be indicating that this guidance is aggressive. With $531M in backlog and the possibility of a recovery in energy markets, it may not necessarily be. Again, the most important takeaway from the quarter is that Crane is effectively free at current stock prices, and is certainly worth more than nothing. It is difficult to imagine that cranes will be in secular decline. Rather, there are cyclical issues that will correct eventually, particularly as energy markets recover and construction markets strengthen.

I continue to hold the view that using trough EBITDA multiples on trough levels of profitability is not the correct the way to value a highly cyclical business. Based on the company's guidance for revenues, operating margins, and D&A charges, EBITDA will come to around $130M. At 5X EBITDA, the Enterprise Value for Crane will be around $650M. This seems too low for a company expected to do $1.9B in sales in 2016, and has averaged a $250M EBITDA across cycles. A rough approximation for cyclical companies at the bottom of their cycle is the P/Sales metric. Assuming flat revenues and a P/S of 0.5 (below peers), Crane will be worth $6.9 a share. Note that there is meaningful upside to this should the company return to historical levels of profitability. The combination yields a price of roughly $25, nearly 67% higher than the most recent closing price.

Risks

Most analysts see the primary risks in the Cranes segment. My valuation work leads me to believe it is being received for free, and so I see risk primarily in Foodservice. A deterioration in Foodservice could definitely derail the thesis. Given the successful execution on the cost-cutting front, it is difficult to see the segment's FCF contracting, absent a significant revenue decline. Since a revenue decline does not seem particularly visible, one should feel safe with Foodservice. Moreover, the optionality from Crane receiving a higher valuation serves as an additional mitigant for risks.

Disclosure: I am/we are long MTW.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.