German conglomerate Siemens (SI) highlights the difference between "value" and "cheap for a reason". While management has twice come out to say that full-year targets would prove to be "ambitious" and hard to reach, they nevertheless stuck by them. Now investors have to digest some pretty troubling data on profits and orders that suggests Siemens has more self-improvement ahead of it.
Third Quarter Results Don't Impress
Although Siemens' numbers look respectable at first blush, there were more than a couple points of serious concern.
Overall reported revenue rose 10%, with organic revenue growth more on the order of 4%, and the company did exceed expectation. Healthcare and energy were strongest with 8% organic growth, while industry and infrastructure were down 2% and up 1%, respectively.
Where revenue was comfortable better than expected, margins went in the opposite direction. Sector profit rose impressively (up 59% as reported), but still came in almost 10% short of targets and margins were weak across the board, with industry and infrastructure looking especially weak.
Making matters worse, orders were well below expectation and the company's book-to-bill ratio fell to 0.91. Energy orders were especially problematic; not only is the company seeing ongoing tough pricing, but the renewables business is still quite weak. Interestingly, neither General Electric (GE) nor ABB (ABB) reported similar problems.
Things Aren't Getting Better … And May Get Worse
In stark contrast to ABB and Honeywell (HON), Siemens was not particularly optimistic about conditions in China until 2013, and the company is seeing an ongoing slowdown in other major emerging markets like Brazil and India. What's more, the company's outlook for automation seems somewhat consistent with Emerson's (EMR) recent negative trends in industrial automation orders, but nevertheless at odds with the overall tenor regarding automation from ABB, Honeywell, and Rockwell Automation (ROK).
That may not be the end of it, though. According to management, this was supposed to be the year when investors starting reaping the benefits of prior investments made into improving operational performance. Well, given the extent to which the company's margins are failing to improve as planned, it looks like more restructuring is on the way with management expecting to discuss their plans next quarter. While improved operating performance would certainly be welcome, this ongoing issue may start to remind investors of the "old Siemens" that perpetually disappointed investors.
A Few Bright Spots Offer Hope
It's not all terrible at Siemens. For starters, the company's diagnostics business is looking pretty healthy and it looks like the company (along with Abbott Labs (ABT)) is taking share from the likes of Danaher (DHR) and Roche (OTCQX:RHHBY).
The company has also seen its joint venture with Nokia (NOK), Nokia Siemens Network, come back into the black at a time when many other carrier equipment providers like Alcatel Lucent (ALU) continue to struggle. Siemens has also apparently scrapped plans for an IPO for its unpopular Osram lighting unit and will instead distribute it to shareholders through a dividend.
It's also important to remember that there are a lot of moving parts in these industrial conglomerates that interfere with straight comparisons. Siemens' exposure to China, for instance, is considerably less than ABB and a rough quarter or two in fossil power gen, transmission or infrastructure does not mean permanent share loss to ABB, GE, or Alstom.
The Bottom Line
Siemens is still undervalued relative to the company it could be, but "could" only gets you so far. Equally to the point, there are just too many solid undervalued ideas in the industrial space (to say nothing of sectors like resources or healthcare) to take a flier on this name. I realize I may well be losing faith in Siemens near its bottom, but I'd rather err in favor of stronger operators where management delivers on its targets.
As I've said before, the good news at Siemens is that such minimal expectations are baked into the stock's valuation today - just low single-digit free cash flow growth would support a valuation in a range of $100 to $120. That's a lot of pessimism and a lot of potential value, but brave would-be Siemens shareholders need to realize that the next few quarters could be pretty rocky.