One bright spot regarding market sell offs is that investors can often find high-quality stocks trading at much more attractive prices. When the market is in decline, investors rush for the exits on even the best names. This can provide opportunities for long-term investors who have been waiting for prices to drop.
Take Air Products & Chemicals Inc. (APD, Financial) for example. Shares of this Dividend Aristocrat are down nearly 15% year-to-date, which is very close to the decline in the S&P 500 Index. Air Products & Chemicals is a leader in its industry, has a storied dividend history and a solid yield. The stock also trades well below its GF Value after the recent decline.
Let’s look closer at Air Products & Chemicals, its most recent quarter, dividend history and valuation to see why I believe the stock could offer enticing return potential for those with a long view.
Quarterly highlights
Air Products & Chemicals reported its fiscal second-quarter earnings results on May 5. Revenue surged 18% year-over-year to $2.9 billion, but came up $100 million lower than what Wall Street analysts had anticipated. Adjusted earnings of $2.38 per share compared favorably to $2.08 in the prior-year quarter and was 1 cent above expectations.
Growth came on multiple fronts. Volumes improved 8% while higher pricing and energy cost pass-through both added 6%. These gains were partially offset by unfavorable currency exchange.
Breaking down the company’s quarter by geographical segment, the Americas grew 12% to $1.2 billion due to a 6% volume growth, a 5% addition from net realized prices and a small contribution from higher energy cost pass-through.
Asia was up 8% to $751 million. Volume here also grew 6%, which was driven by an increase in volume related to traditional industrial gas plants that recently came online. Pricing and energy cost pass-through each added 1%.
Europe was the best performer for the company, with revenue growing 32% to $739 million. Higher energy cost pass-through accounted for 24% growth. This wasn’t the only area that the region stood out. Pricing was up 14% across the all areas of the region, with volumes up 2%. However, an 8% headwind from currency exchange materially impacted results. The region saw a 5% increase in sales sequentially as well.
Corporate and other improved 46% to $240 million to due to better demand for equipment. Middle East and India income more than quadrupled to $71 million as a result of a joint venture.
Following second-quarter results, Air Products & Chemicals maintained its prior guidance of adjusted earnings per share in a range of $10.20 to $10.40 for the full fiscal year, which would be a 14% improvement at the midpoint.
Takeaways
Second-quarter top-line results did miss estimates by a small amount, but showed significant improvement from the prior year. The important part here is that sales were up 13% in the same quarter of the prior year, so Air Products & Chemicals has a two-year stacked revenue growth rate of 31%. This reflects ongoing strength in demand for the company’s products as Air Products & Chemicals wasn’t benefiting from a weak comparison.
Pricing remains a positive for the company as well, with Air Products & Chemicals’ three largest business units, the Americas, Asia and Europe, seeing improvements on this front.
On a year-over-year basis, earnings per share also improved at a mid-teens rate even as the net income margin fell 90 basis points to 18.2%. The decline here was due almost entirely to a decrease from higher energy cost pass-through. Even so, adjusted net income was still up 15%.
On an adjusted basis, Ebitda of $1.02 billion improved 9% year-over-year even as higher costs and lower energy cost pass through caused a 270 basis point decline to 34.6%.
Compared to the fiscal first quarter of 2022, the adjusted operating margin and the adjusted Ebitda margin expanded 160 basis points and 110 basis points, respectively, so Air Products & Chemicals is seeing an improvement on both metrics sequentially at least.
Air Products & Chemicals benefits from its positioning as one of the leading providers of industrial gases. These products tend to be a small portion of client’s expenses, but are essential to keep production running. Air Products & Chemicals typically has long dated contracts with customers, which keeps switching costs high for customers, ultimately benefiting the company.
Another way the company increases its business is through strategic acquisitions and investments. For example, two companies specializing in liquid bulk, packaged gases and specialty gases in the United Arab Emirates were recently added to the portfolio. More recently, Air Products & Chemicals announced in early May that it had brought online two air separation units for a leading semiconductor company in southern Taiwan as part of $400 million investment in the region.
Air Products & Chemicals is far from done acquiring new businesses or investing in new projects, as the company has reiterated its prior forecast of the intention to spend more than $30 billion on capital projects between fiscal year 2018 and fiscal year 2027. So far, Air Products & Chemicals has already agreed to deals and projects totaling $25 billion.
These investments will likely help to grow its business, which in turn should lead to future dividend increase as the company returns capital to shareholders.
Dividend and valuation analysis
Following an 8% dividend increase for the May 9 payment date, Air Products & Chemicals has extended its dividend growth streak to 40 consecutive years. This qualifies the company as a Dividend Aristocrat, of which there are less than 70 in the market.
The company’s dividend has a compound annual growth rate of 10.2% since 2012, according to Value Line, so the most recent increase isn’t too far off the typical raise. Shares of Air Products & Chemicals yield 2.6% as of Friday, which is just above the stock’s 10-year average yield of 2.5%. The current yield is considerably better than the 1.5% average yield for the S&P 500 Index.
Air Products & Chemicals has a projected payout ratio of 63%, slightly ahead of the 10-year average payout ratio of 54%, but more in-line with the five-year average of 60%. Given this, the company’s dividend looks safe.
Valuation
Shares of Air Products & Chemicals traded at $252.27 to close the week, implying a forward price-earnings ratio of 24.5 using the midpoint of company gudiance. This isn’t too far off the 10-year average multiple of 22 times earnings.
Air Products & Chemicals is trading below its GF Value as well:
With a GF Value of $318.83, Air Products & Chemicals has a price-to-GF-Value ratio of 0.79. This implies possible upside potential of more than 26%. Factor in the yield and total returns could begin to approach the high 20% range. Shares are rated as modestly undervalued by GuruFocus.
Final thoughts
Air Products & Chemicals turned in a good quarter, with strong top- and bottom-line growth. All major regions reported solid results. Pricing was a tailwind almost everywhere and without much of a hindrance on demand.
The company’s leadership position in its industry has allowed Air Products & Chemicals to grow its dividend over multiple economic cycles, providing evidence of the resilient and durable nature of the business model. The company is also investing heavily over the long-term to further its reach.
Despite the positives in its business, Air Products & Chemicals shares have declined in line with the S&P 500 Index. Fears of a recession could be a catalyst for the price action as the company does operate in a cyclical industry.
That said, leadership expects the company to see earnings growth in the double-digit range this fiscal year. The forward multiple is slightly ahead of the historical average, but shares look very inexpensive when looking at GF Value.
Air Products & Chemicals appears to have a strong business model and a pathway for future growth. This, coupled with attractive return potential, a long history of raising dividends and a market beating yield, suggest that Air Products & Chemicals could be an appealing option for growth, value and income investors alike, in my view.
