* All data are as of mid-day Monday, December 1, 2014. Emphasis is on company fundamentals and financial data rather than commentary.
Investors looking for an advantage in both rising and falling markets might find just what they're looking for in the Industrial Equipment Wholesale industry.
As graphed below, during the market downturn from mid 2007 until market bottom in March of 2009, where the broader market S&P 500 index [black] fell 56% and the SPDR Industrials Sector ETF (NYSE: XLI) [blue] which the industry belongs to fell 61%, the two largest U.S. companies in the Industrial Equipment Wholesale space - W.W. Grainger, Inc. (NYSE: GWW) [beige] and Fastenal Company (NASDQ: FAST) [purple] - fell only 30% and 39% respectively. The third largest U.S. company in the industry - HD Supply Holdings, Inc. (NASDAQ: HDS) - has been trading publicly only since July of 2013.
Yet not only does the industry outperform the broader market and its sector in bear markets, it also outperforms in bull markets, as graphed below.
Since the economic recovery began in March of 2009, where the S&P has gained 205% and the XLI has gained 270%, Grainger has outperformed them both with gains of 300%, while Fastenal had outperformed all until halfway through, before slipping between the market and the sector with overall gains of 245%. The third largest U.S. company in the space, HD, though trading publicly for only a year and a half, has managed a 60% gain which, when annualized, is in line with annual averages of its peers.
On an annualized basis, where the S&P has averaged 36.18% and the XLI has averaged 47.65%, HD has averaged 42.35%, Fastenal has averaged 43.24%, while Grainger has averaged 52.94% per year!
What we have in the Industrial Equipment Wholesale industry, then, is a group of companies that is in demand in all economic cycles, which consistently outperforms the broader market S&P.
Looking forward, the industry as a whole looks poised to continue surging ahead of the broader market over the longer term as tabled below, where green indicates outperformance while yellow denotes underperformance.
Only in the current quarter is the industry's earnings growth expected to underperform the broader market S&P's average earnings growth rate. After this speed bump, the industry's growth is expected to be very robust, as much as 1.92 times the broader market's growth rate next quarter, 1.65 times in 2015, and 1.72 times averaged over the next five years.
Zooming-in a little closer, the three largest U.S. companies in the space are expected to split perform as tabled below.
Where Grainger is seen under-growing its earnings relative to the broader market from the current quarter all the way into 2015, Fastenal does a little better as it slightly underperforms near term before outperforming meaningfully in 2015 and beyond.
Yet HD is expected to outgrow them all, beating the broader market's earnings growth at rates of 2.11 times in the current quarter, 4.81 times in 2015, and 4.83 times annually over the next five years.
Yet there is more than earnings growth to consider when sizing up a company as a potential investment. How do the three compare against one another in other metrics, and which makes the best investment?
Let's answer that by comparing their company fundamentals using the following format: a) financial comparisons, b) estimates and analyst recommendations, and c) rankings with accompanying data table. As we compare each metric, the best performing company will be shaded green while the worst performing will be shaded yellow, which will later be tallied for the final ranking.
A) Financial Comparisons
Market Capitalization: While company size does not necessarily imply an advantage and is thus not ranked, it is important as a denominator against which other financial data will be compared for ranking.
Growth: Since revenues and expenses can vary greatly from one season to another, growth is measured on a year-over-year quarterly basis, where Q1 of this year is compared to Q1 of the previous year, for example.
In the most recently reported quarter, Fastenal posted the greatest revenue growth year-over-year, while Grainger reported the slowest.
Since HD's earnings growth is not available, the metric will not factor in the comparison.
Profitability: A company's margins are important in determining how much profit the company generates from its sales. Operating margin indicates the percentage earned after operating costs, such as labor, materials, and overhead. Profit margin indicates the profit left over after operating costs plus all other costs, including debt, interest, taxes and depreciation.
Of our three contestants, Fastenal operated with the widest profit and operating margins, while HD contended with the narrowest.
Management Effectiveness: Shareholders are keenly interested in management's ability to do more with what has been given to it. Management's effectiveness is measured by the returns generated from the assets under its control, and from the equity invested into the company by shareholders.
For their managerial performance, Fastenal's management team delivered the greatest returns on assets, while HD's team delivered the least.
Since HD's returns on equity are not available, the metric will not factor into the comparison.
Earnings Per Share: Of all the metrics measuring a company's income, earnings per share is probably the most meaningful to shareholders, as this represents the value that the company is adding to each share outstanding. Since the number of shares outstanding varies from company to company, I prefer to convert EPS into a percentage of the current stock price to better determine where an investment could gain the most value.
Of the three companies here compared, Grainger provides common stock holders with the greatest diluted earnings per share gain as a percentage of its current share price, while HD's DEPS over current stock price is lowest.
Share Price Value: Even if a company outperforms its peers on all the above metrics, however, investors may still shy away from its stock if its price is already trading too high. This is where the stock price relative to forward earnings and company book value come under scrutiny, as well as the stock price relative to earnings relative to earnings growth, known as the PEG ratio. Lower ratios indicate the stock price is currently trading at a cheaper price than its peers, and might thus be a bargain.
Among our three combatants, HD's stock is the cheapest relative to forward earnings and 5-year PEG, while Fastenal's stock is the most overpriced.
Since HD's price to company book value is not available, the metric will not factor into the comparison.
B) Estimates and Analyst Recommendations
Of course, no matter how skilled we perceive ourselves to be at gauging a stock's prospects as an investment, we'd be wise to at least consider what professional analysts and the companies themselves are projecting - including estimated future earnings per share and the growth rate of those earnings, stock price targets, and buy/sell recommendations.
Earnings Estimates: To properly compare estimated future earnings per share across multiple companies, we would need to convert them into a percentage of their stocks' current prices.
Of our three specimens, HD offers the highest percentages of earnings over current stock price for the current quarter and 2015, while Grainger offers the highest for next quarter. At the low end of the scale, Fastenal offers the lowest percentages overall.
Earnings Growth: For long-term investors this metric is one of the most important to consider, as it denotes the percentage by which earnings are expected to grow or shrink as compared to earnings from corresponding periods a year prior.
For earnings growth, HD offers the greatest growth in all time periods for which data is available, while Grainger offers the least growth.
Since next quarter's earnings growth for HD is not available, the metric will not factor into the comparison.
Price Targets: Like earnings estimates above, a company's stock price targets must also be converted into a percentage of its current price to properly compare multiple companies.
For their high, mean and low price targets over the coming 12 months, analysts believe HD's stock offers the greatest upside potential and least downside risk, while Grainger's stock reciprocates with the least upside and greatest downside.
Buy/Sell Recommendations: After all is said and done, perhaps the one gauge that sums it all up are analyst recommendations. These have been converted into the percentage of analysts recommending each level. However, I factor only the strong buy and buy recommendations into the ranking. Hold, underperform and sell recommendations are not ranked since they are determined after determining the winners of the strong buy and buy categories, and would only be negating those winners of their duly earned titles.
Of our three contenders, HD is best recommended with 5 strong buys and 7 buys representing a combined 75% of its 16 analysts, followed by Grainger with 5 strong buy and 4 buy recommendations representing 45% of its 20 analysts, and lastly by Fastenal with 4 strong buy and 0 buy ratings representing 28.57% of its 14 analysts.
Having crunched all the numbers and compared all the projections, the time has come to tally up the wins and losses and rank our three competitors against one another.
In the table below you will find all of the data considered above plus a few others not reviewed. Here is where using a company's market cap as a denominator comes into play, as much of the data in the table has been converted into a percentage of market cap for a fair comparison.
The first and last placed companies are shaded. We then add together each company's finishes to determine its overall ranking, with first place finishes counting as merits while last place finishes count as demerits.
And the winner is… HD by a wholesale victory, outperforming in 16 metrics and underperforming in 9 for a net score of +7, followed far behind by Fastenal, outperforming in 8 metrics and underperforming in 9 for a net score of -1, with Grainger trailing in the far distance, outperforming in 3 metrics and underperforming in 9 for a net score of -6.
Where the Industrial Equipment Wholesale industry as a whole is expected to underperform the S&P broader market significantly this quarter, and outperform significantly next quarter, in 2015 and beyond, three largest U.S. companies in the space are expected to split perform in earnings growth, with Grainger growing the least, HD growing the most, and Fastenal in the middle as it gradually improves from underperforming near term to outperforming longer term.
After taking all company fundamentals into account, HD Supply Holdings, despite being the youngest of the three companies on the public board, offers the greatest overall investment value given its lowest stock price to forward earnings and PEG, highest cash/revenue/EBITDA over market cap, highest future earnings over current stock price this quarter and for 2015, highest future earnings growth overall, best price targets, and most strong buy and buy analyst recommendations - decisively winning the Industrial Equipment Wholesale industry competition.