Joy Global: A Great Long-Term Play On Macro Recovery

| About: Joy Global (JOY)
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Joy Global's (NYSE:JOY) investors were delighted to know that despite a weak outlook for mining activity, the company managed to post impressive results in the fourth quarter. This article is not a mere earnings review. I intend to discuss the key takeaways from the conference call that will help us to take a final position in the stock.

Investors Concerns From the Earnings Release

The Q4 earnings release sent bullish signals to the market. The stock is up 4% since the announcement. EPS of $2.13 does not account for the restructuring costs ($0.06/share), the pension curtailment charges ($0.07/share), and the first-year purchase accounting charges ($0.01/share). After adjusting for these charges, the final EPS comes out to be $1.99.

Before the earnings release, investors were also worried about the bookings (orders). However, the company posted solid bookings in terms of sequential progress. The bookings were up 18% sequentially to $1.09 billion (excluding LeTourneau and IMM acquisitions), and up 22% to $1.32 billion sequentially including the acquisitions. However, the bookings declined by 5% on a year-over-year basis. The management claims that Q4 bookings reflect increased orders in several international regions, including a several-unit wheel loader order in South America and roof supports exported to Australia.

Management's guidance for 2013 revenue at $4.90 billion to $5.20 billion is significantly lower than the prior consensus estimate of $5.17 billion. Also, the revised EPS forecast of $5.75-$6.35 is way lower than the consensus estimate of $6.65, suggesting that the Street estimates will likely be revised downward.

Earnings Conference Call Color

The mining capex is expected to be down 10%-15% in 2013. This is something that I also emphasized in my article on Caterpillar (NYSE:CAT). The current slate of mining projects consists of mostly Brownfield or Greenfield projects with existing infrastructure. By this I mean that customers do not seem to have the appetite for more expensive projects that require significant infrastructure investment at this time.

The current order book covers 75% of 2013 revenues, and the test for 2014 will be whether customers move to the next round of (early phase) projects after completing the projects currently under way. Going into 2013, JOY will be undertaking two kinds of restructuring activities:

  1. In the first half of 2013, it will continue to focus on the cost reduction through the headcount and capacity reductions as it did in the last half of 2012.
  2. In the second half of 2013, the focus will shift to strategic initiatives like moving the manufacturing capacity nearer to end markets with better growth opportunities.

The backlogs in this quarter included several large orders. JOY is working on a few large projects that are expected to materialize in the first quarter of 2013, or the latest by early Q2 2013. Beyond these projects, JOY has little visibility.

The aftermarket revenue stream remains a company priority, and the skill shortage in the mining industry presents a significant opportunity. The aftermarket revenues improved by 6.3% year over year to $808,095. This product stream accounted for almost 51% of the total revenues generated by this company in this quarter.

With 30% of revenues leveraged to the U.S. coal, the company continues to face near-term risks as producers deal with an excess supply of coal and the longer-term risk of a secular decline as utilities switch to natural gas. Additionally, the global mining companies continue to reassess their capex plans and are slowing the development of large-scale greenfield mines to focus on smaller-scale brownfield upgrades. As a result, I believe that there is significant earnings risk to 2013. Also, the earnings for 2014 are at more risk (this has already been discussed above). Therefore, there is a significant risk to the multiple that investors will be willing to assign to the stock.

Upside Risks

While orders slowed through 2012 and the macro environment remains volatile, the environment seems to be stabilizing, at least in China. Most people have high expectations from the new leadership in China. A stable Chinese economy will bring surprise orders in the second half of 2013. Furthermore, the company could benefit from improving sentiment around its U.S. coal business if the winter weather proves exceptionally cold and/or natural gas prices continue to increase. In addition, the company could deliver higher-than-forecast earnings supported by its restructuring actions.

Downside Risks

Continuing secular declines in U.S. coal production could result in lower-than-expected earnings growth this cycle, and following the recent industry consolidation, the new competition with broader product services and scale may gain share as customers look to optimize their existing operations. Additionally, should the results of its integration of LeTourneau and IMM underperform market expectations, JOY may have to write down goodwill in the future.

My Take

The stock is trading at a five-year low forward multiple of eight times. The stock pays a dividend yield of 1.16%. A year-to-date performance of -32% might indicate that the stock has already been punished due to a weak U.S. coal market. However, I will still suggest that investors keep away from the stock in the near term, given the prevalent uncertainty in the macroeconomic environment. However, in the long run the stock is suggested as a buy due to its cheap valuations.

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