What does JOY Global do?
· JOY Global is a leading manufacturing company of mining machinery globally.
· JOY operates in two segments, Underground Mining Machinery and Surface Mining Equipment.
· Majority of Joy's mining segment is used to extract commodities such as coal, copper, iron ore, and diverse materials. JOY is highly levered toward the coal industry as roughly 75% of revenues is from this sector.
· JOY is the world's largest producer of high productivity mining machines for extraction of minerals. Manufacturing facilities include Australia, South Africa, the United Kingdom, China, and the United States. Products include continuous miners, shuttle cars, conveyor belts, continuous haulers, and roof bolters.
· The mining industry is heavily levered toward emerging markets. Future expansion of developing economies such as China, India, and Latin America are indicators of future growth for JOY.
What's so great about JOY Global?
· Cyclicality - JOY Global is one of the best manufacturers of mining equipment and is a great indicator for future growth in the global economy.
· Strong customer retention rates - What's unique about JOY is their Life Cycle Management program. The program provides a range of products and services for consumers over the life of the product. This is essentially a contract which JOY works with consumers to reduce upfront capital expenses for maintenance, aftermarket parts and services over the life of the contract. Costs are based on per ton or hourly basis to help match costs with revenues. Costs are fixed upfront so consumers know what the product will cost over time. We feel this program gives JOY Global a strong relationship with long-time customers and reinforces its global brand.
· Long-term revenue stream - Signing a contract with JOY can last from 1-17 years. This provides a good stable customer base over multiple years. These contracts include maintenance, parts, and services for support. Customers don't sign on with JOY unless they see long-term value in projects over years. You can definitely see why JOY has continued to generate revenue and earnings growth over the years since they work with companies to help everyone involved is successful. This shows JOY offers a great service and strong relationship bond with customers over the long-term.
· Continuous profitability & expansion - JOY has grown revenues and earnings continuously over the years. Free Cash Flow jumped 11 fold from 2011-2012. Revenues CAGR was 13.4% from 2008-2012. Earnings CAGR was 20.2% from 2008-2012. JOY has shown great ROE growth for equity investors. Although growth has slowed due to contraction from mining companies uncertain future, JOY has looked toward the future with acquisitions.
· Future growth prospects - In June 2011, JOY acquired LeTourneau Technologies, Inc. for $1.1 billion. LeTourneau designs, builds and supports equipment for the mining industry and a leader in earthmoving equipment. It operates three segments, mining, steel products, and drilling products. LeTourneau has added $144.9 million in net sales and $23.2 million in operating income in 2011. In fiscal year 2012, LeTourneau added net sales of $451.4 million and $73.8 million in operating income. The LeTourneau Technologies acquisition was accretive adding to bottom and top-line growth. In December 2011, JOY purchased the remaining shares of International Mining Machinery (IMM) for $584.6 million. Remaining shares represented 41.1% of IMM shares outstanding. The IMM acquisition was valued at $1.4 billion. IMM added $219 million in sales and $9.4 million in operating income.
· Positive rumors puts bottom in stock - JOY has been rumored to be a takeover target and the CEO of JOY Global, Mike Sutherlin, has said in the past that he'll "do the right thing for our shareholders."
· Improving trends - CEO Mike Sutherlin has been quoted as saying "significant destocking of commodities in key markets" shows commodities are starting to deplete which will lead to more project expansions and restocking of commodities.
· Potential increase in production - China is consuming more electricity in the fourth quarter of 2012 which means more coal is needed to keep China's production going. More coal consumption means more mining of coal and additional demand for JOY Global's machinery.
Recent concerns/events have created an opportunity
Declining aggregate demand in commodities due to global demand which indirectly effects commodity productivity and pricing
· Global contraction - There has been issues with the overall economy slowing from the United States to Europe's EU countries (Portugal, Italy, Ireland, Greece, and Spain) having so much debt that its bringing the value of the Euro down. China has slowed its growth due to inflation fears. With this slowdown, it also brought other countries from around the world into the mix. This global crisis brought on a lot of fear and less resources where needed. Due to the cyclical nature of the mining industry, machinery and commodities weren't in high demand and driving down prices. We feel the bottom is in on the global economy as the United States has recovered with the strong the housing market values increasing and added homes that need to be built. The rebound in EU has been shown in the value of the Euro bottoming in July 2012 at $1.21/Euro. It has risen to $1.36/Euro in as recent as February 2013. The low valuation in the Euro will increase investments and demand for European products. China has increased stimulus for $157 billion in infrastructure projects and monetary capital infusion helped to promote lending. Since these countries are the largest in the economies in the world and participate in global easing, this will increase their economies and strengthen weak points. Industrial production will also pick up as emerging economies like Brazil, Russia, India, and China (BRIC) countries will continue to need resources and commodities to bring their countries into the industrial age.
· Declining backlog - Backlogs are a good indicator of what companies future outlook look like. It's a barometer of future orders that JOY can expect in the coming quarters. Backlogs of unfilled orders are declining for both segments of Underground Mining Machinery and Surface Mining Equipment. In 2008, the economy showed signs of contraction and backlogs declined maliciously in 2009 and 2010. A rebound ensued in 2011 but quickly retracted in 2012 but not as precipitously as in 2009 or 2010. Strong backlog numbers show customers aren't going anywhere and are waiting for signs of commodity demand. We feel the supply gut will work itself off over time as China electricity use is increasing, which is majority coal, CEO Mike Sutherlin's comment on destocking of commodities as a positive sign that things are turning, and JOY's historical increases in earnings and revenues show estimates are too low. JOY has a great program in place to keep customer retention rates high. We feel the backlog declines are because of customer's concerns of long-term projected demand. As stockpiles destock, customers will come back to JOY Global to sign long-term contracts.
· Acquisition brings cautious fear - Concerns from Caterpillar's acquisition of Chinese mining machinery company ERA has surfaced with accounting fraud issues. Caterpillar resulted in an impair charge of 82% of the acquisition or approximately $580 million. This has raised concerns with JOY's similar acquisition of Chinese mining machinery company IMM. Fearful that JOY may have to write down even half of its $1.4 billion valuation would be detrimental to the value of the firm. JOY is counting on acquisitions for its growth and this would be a tremendous setback. JOY has had a majority stake in IMM representing 59%. They had plenty of time to see any accounting issues or fraudulent bookkeeping.
· Natural gas consumption - Weakness in demand of coal in US has utilities switching to natural gas. Strength in natural gas consumption means a decline in coal consumption. This is the bread and butter for JOY Global's business since less mining of coal means less machinery is needed. But this is old news in early 2012. Natural gas prices have increased from under $2 to around $4 today. This doubling of natural gas prices has shifted utilities back over to coal burning. Mike Sutherlin has said cuts in coal production have seen demand stabilize and expects US power generators to increase consumption by 50 million more tons of coal as natural gas prices will rise. He also stated metallurgical coal consumption is up at mills as inventories have dropped from 31 days to just 19 days. China is increasing consumption at its utility plants from 31 days to 18 days.
I find JOY Global just too cheap to ignore as it trades at roughly 9X next years earnings. At these valuations and growth prospects from the two acquisitions plus economic expansion in Japan and Europe, I feel JOY is a long-term buy based on this research report.
JOY is bound to weather the storm with its great customer retention program that gives them a steady stream of revenue even during recessions. It's continuing to grow with its profitability and acquisitions on the top-line and bottom-line. They've done a great job of managing LT debt at $1.3B when the two recent acquisitions cost $2.5B total.
Optimism from JOY's CEO Mike Sutherlin shows consumption of coal is increasing and stockpiles depleting. Japan and Europe will increase coal consumption because of the high cost of natural gas. The United States will start switching back to coal from natural gas as price increases above $4.
Disclosure: I am long JOY.