When AMETEK (AME, Financial) reported its third-quarter results Tuesday, it continued its give-and-take story of this year: gains from recent acquisitions and losses from exposure to the oil and gas industry.
AMETEK designs and manufactures electronic instruments, electromechanical devices and other products. It specializes in products that demand high precision or accuracy, and these differentiated products help it generate strong margins.
The company’s share price has suffered this year because of slowed sales in oil and gas as well as the competitive impact of a higher U.S. dollar (despite having a substantial portion of its operations based outside the U.S.).
Thanks to the slumping share price and ability to consistently grow its earnings, AMETEK currently has a place on the Undervalued Predictable and Buffett-Munger screeners at GuruFocus. In addition, its price-earnings (P/E) and price-book (P/B) ratios are close to five-year lows, while P/S is close to a three-year low.
History
1915: The Domestic Electric company is founded by five partners in Cleveland.
1920: Entry into the electrical components business, specifically armatures and fields.
1930: Listed on the New York Stock Exchange under the name American Machine and Metals, symbol AME.
1944: It makes the first of many acquisitions in its history.
1945: Name changes to Lamb Electric, after then-President Richard Lamb.
1961: Company name changes to AMETEK Inc.; the stock symbol remains AME.
1993: The company enters Europe by purchasing three Italian electric motor companies.
2015: Wikipedia reports that AMETEK made more than five dozen major acquisitions between 2000 and 2015.
History based on information at the company website, FundingUniverse, and Wikipedia.
Comments: A company that’s now more than a century old, traded on the NYSE for more than 85 years and an extremely active buyer of other companies.
AMETEK’s business
AMETEK calls itself “a leading global manufacturer of electronic instruments and electromechanical devices with operations in North America, Europe, Asia and South America.” (Unless otherwise noted, information in this section comes from the company’s 10-K for 2015 report.)
At Morningstar, Barbara Noverini wrote:
“AMETEK manufactures industrial equipment used in specialized applications that require precision or accuracy. Anchored by a collection of patents, AMETEK's product portfolio features custom solutions that create value for customers, an ability that skews the company's mix away from commoditylike products, and more toward differentiated instrumentation and equipment that increase customer reliance and command premium prices.”
Note the reference to "away from commoditylike products."
It offers this overview in an undated (but apparently 2016) Investor Presentation:
It operates through two groups: Electronic Instruments (EIG) and Electromechanical (EMG).
Electronic Instruments designs and manufactures advanced instruments for the process, aerospace, power and industrial markets.
Electromechanical is a differentiated supplier of electrical interconnects, precision motion control solutions, specialty metals, thermal management systems and floor care and specialty motors. Its end markets include aerospace and defense, medical, factory automation, mass transit, petrochemical and other industrial markets.
Within EIG, process and analytical instrumentation sales accounted for 67% of 2015 net sales. Products include process analyzers, emission monitors, spectrometers, elemental and surface analysis instruments, level, pressure and temperature sensors and transmitters, radiation measurement devices, level measurement devices, precision pumping systems, materials- and force-testing instruments, and contact and noncontact metrology products.
At EMG, differentiated businesses accounted for 87% of EMG’s net sales in 2015; these businesses compete on performance rather than price. Products include electrical interconnects, precision motion controls, technical motors and specialty metals.
Neither group depends on any particular customer or group of customers.
Comments: AMETEK designs and manufactures electronic instruments and electromechanical devices with an emphasis on precision and accuracy. This allows a significant portion of its lines to avoid commodity pricing.
Revenue
GuruFocus reports AMETEK had revenue of $3.974 billion in 2015, and its chart of the company’s revenues shows the growth:
This image from the Investor Presentation shows the sources of that revenue (and net income):
The company reports in its 10-K that it has experienced “dramatic growth” outside of the U.S.; for 2015, it reports, though, “International sales represented 51.7% of consolidated net sales in 2015 compared with 54.6% in 2014. The decrease in international sales was primarily driven by foreign currency translation headwinds and the competitive impacts of a stronger U.S. dollar.”
GuruFocus finds AMETEK’s revenue per share growth to be:
- Three years: 6.4%.
- Five years: 9.8%.
- 10 years: 10%.
Comments: A history of good revenue growth, although it has slowed over the past few years. Growth is especially notable in international markets, which now account for more than half of sales.
Competition
With the exception of the differentiated businesses, AMETEK companies operate in what are called highly competitive markets, in the 10-K.
Hoover’s lists the following as its major competitors:
- Emerson Electric Co. (EMR, Financial).
- General Electric Co. (GE, Financial).
- Agilent Technologies Inc. (A, Financial).
AMETEK’s classification is listed as Industrial Products / Diversified Industrials.
Comments: While it does face competition, AMETEK has the luxury of competing in many differentiated businesses, meaning that it competes on performance rather than price (of course, that also means pressure to innovate for ever-increasing performance).
Moat
Barbara Noverini of Morningstar says,
“We believe AMETEK has carved a narrow economic moat by amassing technologies used in specialty industrial applications, staking its reputation on reliability and precision in order to grow the value of its intangible assets as well as customer reliance (switching costs) on its value-added, mission-critical instrumentation and equipment.”
She adds, “Today, AMETEK's legacy specialty motors and floor-care business (housed in EMG) is the only commoditylike business that remains, representing about 6% of overall sales.”
In its 10-K, the company argues that it has several important competitive advantages,
- Significant market share.
- Technological and development capabilities.
- Efficient and low-cost manufacturing operations.
- Experienced management team.
Comments: AMETEK enjoys several advantages that should provide long-term growth on the bottom and top lines: internally developed and acquired technologies, a reputation for high quality and efficient/low-cost manufacturing.
Growth
There’s a tug of war, of sorts, at play here. On one hand, the company has added new revenue and net income from its acquisitions. At the same time, though, it has experienced several challenges in the broader economic environment. They were summed up these ways in the Q4-2015 Results news release,
“EIG performed well in this slow growth environment. Lower sales in the quarter were driven by currency headwinds and weakness across our oil and gas businesses.” And
“EMG managed well through a very difficult market environment in the fourth quarter. Sales were impacted by foreign currency headwinds and weakness across our Engineered Materials, Interconnects and Packaging businesses largely as a result of continued commodity price deflation.”
It was within that context that the share price of AMETEK began its decline from the mid-$50s to the mid-$40s.
Despite the pain, the company expects to keep growing its earnings with a Corporate Growth Plan. “The goal of that plan is double-digit annual percentage growth in earnings per share over the business cycle and a superior return on total capital.”
The elements of the growth plan are summarized in this graphic in the Investor Presentation:
Comments: Despite ongoing difficulties, AMETEK has an objective of increasing its EPS by at least 10% per year over each business cycle.
Other
AMETEK is headquartered in Berwyn, Pennsylvania.
The company employed 15,400 people at its EIG, EMG and corporate operations as of Dec. 31, 2015. Of that number, about 3,500 are covered by collective agreements.
Frank S. Hermance, age 67, executive chairman of the board and previously chief operating officer and chief executive officer at AMETEK.
David A. Zapico, age 51, has been CEO since 2013. Previously he held several engineering and general management positions.
William Burke, age 54, is the chief financial officer.
Biographical information about officers from Reuters.com
Ownership
Lou Simpson (Trades, Portfolio) is the largest holder of AMETEK shares among the investment gurus followed by GuruFocus with 7,456,694 shares. Daniel Loeb (Trades, Portfolio) has the second-largest holding, at 2.7 million shares, and Mario Gabelli (Trades, Portfolio) was third with 2,413,994 shares. Altogether, 13 gurus own shares in AMETEK.
The company enjoys a high level of institutional ownership, more than 88%:
As we also see, the levels of ownership by shorts and insiders are small.
Comments: Lots of confidence among professional money managers (institutional investors), little interest among short sellers.
AMETEK by the numbers
Comments: Current share price is just above the 52-week low, and that’s after a gain of almost 2% on Nov. 1. Return on Equity comes in at a solid 17%. The company has a small dividend, and it bought back a sizable number of shares in 2015.
Financial strength
AMETEK receives a 6 out of 10 for financial strength and 8 out of 10 for profitability and growth on the GuruFocus Summary page:
This chart shows a history of the company’s long-term debt, which has risen and now positions its debt metrics as slightly worse than the Diversified Industrials sector averages. However, it has improved its standing in comparison to its debt position in the past, as indicated by the green icons.
Earnings: As we saw earlier, AMETEK’s objectives include double-digit increases in its EPS. Here’s how the company’s earnings per share increased over previous years, according to GuruFocus:
- 3 Years: 9.20% (average per year).
- 5 Years: 15.30% (average per year).
- 10 Years: 15.70% (average per year).
As we see, challenges encountered over the past year in particular and since the collapse of oil and gas prices have made that objective more difficult to achieve.
Free Cash Flow: GuruFocus reports the average free cash flow per share growth rate as follows:
- Three Years: 3.20% (average growth per year).
- Five Years: 10.00% (average growth per year).
- 10 years: 16.90% (average growth per year).
Again, we see that recent history has not been as kind to this key metric as in previous years.
Comments: While the company makes some progress on its debt, its earnings per share and free cash flow measures show the effect of recent headwinds.
Valuation
Of the thousands of stocks followed by GuruFocus, only 144 qualify for a 5-Star rating at GuruFocus. AMETEK is one of the 144. Companies receive this distinction by consistently increasing earnings from year to year. As we’ve seen, AMETEK’s average earnings per share slipped back into single digits over the past three years after averaging mid-teen increases over five- and 10-year terms.
The company’s objectives include double-digit increases, and it has the resources and management experience to get the earnings back up again. In those efforts, management will be helped by the slowly recovering price of oil (at least so far this year).
Predictability of earnings is half of the Undervalued Predictable rating; the other half looks at the company’s earning power in the context of the current share price. The following chart shows AMETEK’s P/E (ttm) ratio over the past 10 years:
The chart suggests the current P/E ratio is roughly in the middle of the range within which it’s traveled over the past decade.
Turning to a related measure, we see the PEG ration, P/E divided by five-year earnings growth rate, also sits roughly in the middle of the range established over the past 10 years:
The Discounted Fair Value calculator produces a price of $51, which is 14% higher than the Nov. 2 closing price of $44.10.
Comments: Given AMETEK’s history of growing its earnings and its objective of future growth at more than 10% per year, as well as the current economic environment, it seems reasonable to argue that the company’s shares are undervalued.
Conclusion
If we accept that the shares are undervalued, it also seems reasonable to believe the share price could recover with continued operational improvements and better economic conditions. Changes in the exchange rate and continued increases in the price of oil and gas could provide the stimulus needed for that recovery.
With its minimal dividend, AMETEK will not be a company for income investors.
For long-term investors with faith in a connection between earnings and eventual share prices, AMETEK will be worth adding to their short-lists.
Disclosure: I do not own shares in any of the companies listed in this article, and do not expect to buy any in the foreseeable future.
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