By Guan Wang
United Technologies Corp (UTX) is one of the most popular conglomerate stocks amongst the 350+ hedge funds we track. The number of hedge funds invested in United Technologies increased from 30 at the end of the third quarter to 34 at the end of the fourth quarter. In total, these 34 hedge funds had $1.32 billion invested in this stock at the end of 2011. Billionaire Jim Simons is one of the money managers who initiated a new position in United Technologies during the fourth quarter. His Renaissance Technologies had $83 million in the company at the end of the fourth quarter last year. Ric Dillon and Bill Miller are also bullish about this stock.
In September last year, United Technologies reached an agreement to buy Goodrich Corp (GR) for $18.4 billion, or $127.5 per share, in cash. The deal is expected to be completed in mid-2012. Goodrich generated $8 billion in sales and $1.3 billion in operating income last year. The acquisition is expected to improve United Technologies' capability of creating high-value commercial aircraft systems. However, the acquisition is also expected to dilute United Technologies' EPS. The company plans to finance the acquisition with about 25% equity and 75% debt. According to United Technologies, the equity issuance is expected to dilute its EPS by about $0.40 in 2012.
United Technologies' earnings results for the first quarter 2012 were not very strong. The company reported revenues of $12.4 billion, compared to $12.7 billion for the first quarter of 2011. Though its organic sales were up by 1%, its growth was still lower than the 6% its peer group averaged. United Technologies' net income also dropped from $1 billion to only $330 million. Luckily, the sharp decline in net income seems to be temporary as the company's net income before extra items was $1.18 billion, up from $967 million for the first quarter last year.
However, the company's earnings growth has been disappointing since last year due to the soft economy in Europe and Asia. We expect these factors to continue to have a negative impact on United Technologies in the short term. Over the next few years, United Technologies' revenues are expected to grow at just 1-2% annually, versus an average of 4% rise over the past five years.
The good news is that United Technologies is a dividend growth stock. With its dividend yield of 2.36% and its strong track record of raising its dividend payments in the past, the company can offset some loss. United Technologies also boasts a low payout ratio of 34%, which means that the company still has great potential to further increase its dividend payouts.
With regard to valuation, United Technologies has a current P/E ratio of 14.77, versus the industry average of 17.23. Analysts expect the company to make $5.51 per share in 2012 and $6.65 per share in 2013, making its forward P/E 12.2, versus 11.1 for General Electric (GE).
General Electric is also popular amongst the hedge funds we track - even more so than United Technologies. At the end of last year, there were 40 hedge funds with GE positions in their 13F portfolios. Warren Buffett's Berkshire Hathaway and Bill Miller's Legg Mason Capital Management both had nearly $140 million invested in GE at the end of the fourth quarter (see Warren Buffett's top stock picks). GE also has a decent dividend yield of 3.47% and a relatively low payout ratio of 52%.
Overall, we recommend United Technologies as a "hold" at this moment. We are a bit concerned about the slow economy, which we expect will negatively affect the company for at least the next year, maybe longer. We think General Electric is a better choice. The improving credit markets will lead to an increase in GE Capital's profitability while GE's industrial operations are expected to remain strong. We see robust growth in the company's long-cycle energy and technology businesses too, making GE a good buy in our book.