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Terex: Trading with an Unwarranted European Discount
Posted by: mdhargrave (IP Logged)
Date: July 5, 2013 10:22AM
Terex (TEX) is the global manufacturer of construction equipment and heavy-duty utility vehicles. However, TEX has grossly underperformed top competition, Caterpillar, and the overall market during the last five years.
We think the next five years will paint a very different picture for TEX shareholders. We’re also not afraid of its 3.1 beta. We think this will play to the company’s advantage in 2014, allowing the company to see a nice rebound in its stock on the back of an improving economy.
The Positive Factors
For the first time since the financial crisis, TEX is back to generating more free cash flow than net income (see graph below). This is a positive development, given we believe that many analysts and investors are putting too much weight on TEX’s out-sized price to earnings ratio.
Granted, TEX is trading at a trailing 29.5x earnings, compared to Caterpillar’s 11x and Oshkosh’s 12.3x. TEX is back to generating solid cash flow -- this is why we look at its price to operating cash flow (see graph below). Even still, if we take a longer view, we see that 2014 analysts’ EPS estimates are $2.71, meaning that TEX trades at a mere 10x 2014 EPS.
We expect free cash flow generation to continue over the interim, thanks to rebounding in key markets.
So Let’s Dig a Bit Deeper
TEX is a global equipment manufacturer catering to the construction, infrastructure and surface mining industries. TEX has five key segments, with its top being Aerial Work Platforms, accounting for 29% of revenues. This segment manufactures aerial work platform equipment, power equipment, construction trailers and utility equipment. Its other big segment is materials handling at 26% of revenues, which makes industrial cranes, while its cranes (21% of revenues) segment manufactures mobile telescopic cranes, tower cranes and truck-mounted cranes.
Other segments include construction (16% or revenue), which designs and builds heavy and compact construction equipment, and its final segment is material processing (8% or revenue) that includes equipment for crushers, washing systems and screens.
The stock is down nearly 25% over the past month on the back of a weak first quarter. Earnings for the first quarter were $0.23, down 21% from the same period last year.
Part of the pressure that is weighing on the company’s multiples is the 30% revenue exposure to Europe, but a couple positive factors are that TEX has no exposure to the weakening mining market. But the company returned to profitability in 2012 and expects cost-cutting initiatives to further drive EPS growth, while the recent repayment and repricing of debt will boost cash flow thanks to lower interest payments.
For the first quarter, its key segment — [size=13px; line-height: 1.22]aerial work platforms [/size]— [size=13px; line-height: 1.22]saw revenues up 21% year over year. TEX also managed to generate free cash flow of $135 million in the first quarter; backlog was up 7.8% during the first quarter from fourth quarter 2012 to $2.16 billion.[/size]
TEX has managed to change its portfolio from a mining and construction equipment company to a more diverse manufacturer of capital goods machinery. This includes the acquisition of Demag Cranes AG.
At its previous peak, Europe was three times what the business is today, implying there is tons of room for rebounding and revenue growth in the area. TEX recently cut some 200 jobs at a crane facility in Europe to help hedge any weakness. Despite the European weakness, TEX is turning to further global expansion, including developing nations, [size=13px; line-height: 1.22]i.e. India, Brazil, Russia and the Middle East. TEX gets over 35% of revenues from these markets.[/size]
Other big positives include the fact that TEX believes that one-third of its performance depends on the macro environment and the remaining two-thirds lies within its control. The company is also targeting zero debt and looks to get margins to double-digits.
In the End
The other big tailwind we see is an improving balance sheet, which should help free up cash flow for global expansion and strategic acquisitions.
Based on the company’s growth prospects and valuation, we think TEX is a buy at currents — [size=13px; line-height: 1.22]a stock with over 100% upside. The company trades at 14.8x free cash flow and assuming that there’s no multiple expansion (thus if TEX trades at 14.8x FCF in 2015), and using our 2015 FCF estimates, we put the price target at nearly $60.[/size]
Stocks Discussed: TEX, CAT,