Halma PLC (LSE:HLMA, Financial) stands out as one of the most exceptional companies on the London Stock Exchange with a GF Score of 97 out of 100. Since I wrote about the stock at the end of last year, the company has announced another record profit, marking the 20th consecutive year of record profits.
As a niche, innovative and problem-solving enterprise, Halma, headquartered in leafy Buckinghamshire, England, has demonstrated a remarkable track record of delivering organic growth, making astute acquisitions and consistently rewarding shareholders with dividends. Under its expert guidance, the company's three main divisions operate in growth areas of the economy, providing solutions to customer needs and achieving stellar growth over the years.
Over the past decade, Halma has been a fantastic investment, outperforming the FTSE All-Share index by a significant margin, delivering total shareholder returns of 344% compared to the index's 72%. The company's commitment to paying dividends is equally impressive, having increased them by at least 5% annually for an impressive 44 consecutive years.
The transformation of Halma began 20 years ago when the company appeared to have lost its way. Despite being highly profitable with excellent returns on investment, it relied heavily on acquisitions and its core business lacked direction. However, everything changed with the appointment of Andrew Williams as CEO in 2004. He successfully instilled a new culture and organization, creating a simple yet powerful business model. Williams' retirement last year saw the continuity of this strategy under Marc Ronchetti, who was previously Halma’s chief financial officer.
Sustainable growth model
As a holding company, Halma oversees 46 individual companies that operate independently, fostering entrepreneurialism and long-term vision. The company has an overriding strategy called the Sustainable Growth Model that guides decision-making and has contributed to a multiyear track record of strong financial performance.
The company's primary responsibility is to steer the overall strategy of these businesses and support their growth. By focusing on problem-solving products that cater to customers in long-term growth markets, Halma has established itself as a leader in several industries.
The three divisions—Safety, Environmental & Analysis and Healthcare—operate across a wide range of activities. The safety business produces products for fire detection, automatic door sensors, elevator safety and corrosion and erosion monitoring. Environmental and analysis specializes in water leakage detection, ultraviolet water disinfection, gas detection, sewage pipe installation and remote-operated vehicles for underwater asset monitoring. The health care division provides scientific analysis equipment, electrocardiogram recorders, blood pressure monitors, ophthalmic imaging and lenses.
Megatrends
All these divisions are exposed to favorable long-term trends, including aging populations, rising health care demand, resource protection, climate change and safety improvements. These markets are safeguarded by high levels of regulation and legislation, acting as barriers to entry for competitors and ensuring Halma's businesses remain highly profitable with resilient profit margins.
Halma's strategy involves complementing its growth markets with significant investments in research and development to innovate and enhance customer service, thereby maintaining a competitive edge.
Acquisitions record
One of Halma's strengths is its adeptness at successful acquisitions. This is more difficult than it sounds given that, according to the Harvard Business Review, studies put the failure rate of mergers and acquisitions somewhere between 70% and 90%.
Over the last decade, the company invested $1.6 billion in acquiring companies within its selected markets. Unlike many companies that suffer from overpriced acquisitions, Halma has managed to maintain a reasonable and consistent return on capital employed. Furthermore, the company has demonstrated consistent organic profit growth, delivering impressive returns to its shareholders despite a temporary disruption caused by the Covid-19 pandemic.
While Halma's past performance is reassuring, its future growth prospects are somewhat priced in to its valuation. The company's shares have historically been richly valued, but they saw a decline when interest rates began rising. In the last three years, Halma's total returns of just over 5% cumulatively have underperformed the FTSE All-Share index's higher performance of 38% cumulatively. Currently, the shares trade at a forward price-earnings ratio of 27.60. Meanwhile, the company has a reasonable Piotroski F-Score of 6 out of 9 and a very strong Altman Z-Score of 6.28.
While excellent companies like Halma deserve decent valuations, relying on ever higher valuation multiples in the face of still rising interest rates seems fanciful. However, given Halma’s track record and exposure to industrial growth themes, nearly double-digit earnings per share growth in the short and medium term, justify the valuation in my opinion. With governments around the world putting in robust industrial policies, the industrial goods and services sector seems less exposed to the economic questions around if a soft landing can be achieved or not.
Conclusion
In summary, Halma has undoubtedly earned its reputation as one of the best quality U.K. stocks, delivering organic growth, making smart acquisitions and maintaining a solid dividend record. Its strategic approach to directing investment to growth markets has resulted in impressive profitability and success. The stock is rated significantly undervalued by the GF Value Line and, therefore, earns a place on my investment watchlist.
