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Robert Abbott
Robert Abbott
Articles (481)  | Author's Website |

Snap-on: Ratcheting Up Margins and Other Vital Metrics

Despite recent gains, this year’s pullback provides a good excuse to take a good look at Snap-on, the venerable tool company

Shares of Snap-on Inc. (NYSE:SNA) have jumped 13% since third-quarter earnings were announced a month ago.

Snap-on is behind all those white vans that sell wrenches and sockets at auto repair shops and dealerships. At least, that is the traditional business; it now operates three other segments that make money as well.

Across the segments, though, Snap-on has a reputation for high-quality and unique products that allow the company to charge premium prices, premium prices that show up nicely on the operating margins line.

Until this year, that has driven the share price upward for several years. As the following price chart shows, it suffered a pullback before returning to life with the third-quarter earnings announcement:

Snap-on price chart

With this price and the company on the Buffett-Munger screener, is it a value stock? Does it have the potential to go even higher, or has it run its course?

History

1920: Joseph Johnson and William Seidemann start the Snap-on Wrench Company to manufacture and sell their invention, interchangeable sockets and wrench handles (10 sockets that snap onto five interchangeable handles).

1931: The company goes international.

1950s: They began going to customer workplaces with walk-in vans.

1978: Snap-on is listed on the New York Stock Exchange.

1990s: Late in the decade, management believed improved auto quality and better warranties resulted in less repair work at independent shops and more at dealerships. Thus, a need to diversify was identified.

2013: Acquired Challenger Lifts Inc., which designs, manufactures and distributes vehicle lifts and accessories in the auto repair sector.

2014: Bought substantially all of Pro-Cut International Inc., which designs, manufactures and distributes on-car brake lathes and related equipment for auto repair facilities.

2015: Acquired the assets of Ecotechnics S.p.A., which designs and manufactures vehicle air conditioning service equipment for OEM dealerships and the automotive aftermarket worldwide.

2016: Announces intention to buy Car-O-Liner (of Sweden), a provider of collision repair equipment and information and truck alignment systems.

2016: Acquires Sturtevant Richmont, which designs, manufactures and distributes mechanical and electronic torque wrenches, as well as wireless torque error proofing systems for a variety of industrial applications.

History based on information at the company website and FundingUniverse.com.

With a 96-year history, the company's timely decision to diversify its products and services helped it immensely. As the last few entries indicate, the company has a big appetite for acquisitions.

Snap-on’s business

For decades, the company has been identified with the ubiquitous white vans bearing the Snap-on logo and a cargo of wrenches and other tools. For just as long, we have see those vans parked outside mechanical shops and auto dealer service centers.

Now, though, the company sells much more than just tools to mechanics and auto technicians. Here is a list of its primary customers, from the 10-K for 2015 (unless otherwise noted, information in this section comes from the 10-K):

  • “commercial and industrial customers, including professionals in critical industries and emerging markets;
  • “professional vehicle repair technicians who purchase products through the company’s worldwide mobile tool distribution network; and
  • “other professional customers related to vehicle repair, including owners and managers of independent and original equipment manufacturer (“OEM”) dealership service and repair shops (“OEM dealerships”).”

Snap-on operates in four reportable business segments:

  • Commercial & Industrial Group, which serves “a broad range of industrial and commercial customers worldwide, including customers in the aerospace, natural resources, government and technical education market segments (collectively, “critical industries”), primarily through direct and distributor channels.”
  • Snap-on Tools Group; “primarily serving vehicle service and repair technicians through the company’s worldwide mobile tool distribution channel.”
  • Repair Systems & Information Group; “business operations serving other professional vehicle repair customers worldwide, primarily owners and managers of independent repair shops and OEM dealerships, through direct and distributor channels.”
  • Financial Services, “business operations of Snap-on Credit LLC (“SOC”), the company’s financial services business in the United States, and Snap-on’s other financial services subsidiaries in those international markets where Snap-on has franchise operations.”

Snap-on operates in 130 countries and attributes 31% of its revenues to international business.

The company has grown well beyond its fleet of trucks traveling from American garage to American garage. It now has a diverse group of businesses built around its original competency and an international profile.

Revenue

The company has four segments and, as the following excerpt from the 10-K shows, most of the revenue originates in three of them:

SNA revenues

Snap-on has developed a diverse revenue base. Although what it calls its "legacy" business remains the biggest contributor, two other segments also make significant contributions.

The following 25-year chart shows how the company has consistently grown its revenue, with exception of the post-2008 recession period:

Snapon revenue chart

GuruFocus reports the revenue per share growth as:

  • 3 years: 4.4%
  • 5 years: 4.7%
  • 10 years: 3.2%

It also notes that the revenue per share growth rate has slowed in the past 12 months to 0.6%.

While the company’s rate of growth has slowed recently, Snap-on has continued to grow both its revenue and its revenue per share. With a broad base that extends beyond the auto market, it appears to have a solid footing for future growth.

Competition

Snap-on competes in the industrial products- tools & accessories sector. Within that group, numerous large and small companies compete with it in one or more segments.

CSIMarket lists its competitors as:

SNA competitors

Snap-on reports on competition this way in it its 10-K:

“Snap-on competes on the basis of its product quality and performance, product line breadth and depth, service, brand awareness and imagery, technological innovation and availability of financing (through SOC or its international finance subsidiaries). While Snap-on does not believe that any single company competes with it across all of its product lines and distribution channels, various companies compete in one or more product categories and/or distribution channels.”

GuruFocus includes the following on its list of competitors and peers: Stanley, Black & Decker (NYSE:SWK), Makita Corp. (MKTAY), Lincoln Electric (NASDAQ:LECO), SKF AB (SKFRY) and Techtronic Industries (TTNDY). To that list we will add Danaher (NYSE:DHR), which owns Matco Tools.

Snap-on believes it can compete on non-price elements such as quality, performance, availability of product and availability of financing. This suggests the company should be able to maintain good margins (an issue we will review in the financial strength section).

Moat

Morningstar argues that Snap-on has a narrow moat and describes it this way:

“Snap-on's competitive advantage and narrow Morningstar Economic Moat Rating are derived from its strong brand and its continual innovation. The company has the highest reputation for quality and a strong, service-oriented dealer network. Snap-on's fleet of tool-stocked vans is larger than the combined total of its two closest competitors--Stanley Works' Mac Tools and Danaher's Matco--allowing franchised dealers to focus on smaller sales territories.

“The company's reputation as a provider of premium hand tools among vehicle repair technicians enables it to garner higher margins on its products. Maintaining its premium status requires the company to constantly produce quality products that increase productivity within vehicle repair shops, a growing task as vehicles become more complex. Snap-on's returns on invested capital excluding goodwill underscore the benefit of its premium brand, averaging 23% over the past decade, well in excess of its 8.1% cost of capital.”

Behind those competitive advantages lie what Snap-on calls its Value Creation principles:

Snapon value creation

Its history of quality and ongoing Rapid Continuous Improvement give Snap-on a solid moat for at least the short-term future.

Growth

As seen above, Snap-on has had solid growth, particularly for its sector. As it goes forward, it also has a broader range of opportunities; the company puts it this way in the 10-K for 2015:

“Snap-on now defines its value proposition more broadly, extending its reach “beyond the garage” to deliver a broad array of unique solutions that make work easier for serious professionals performing critical tasks.”

It goes on to say:

“The company’s “coherent growth” strategy focuses on developing and expanding its professional customer base in its legacy automotive market, as well as in adjacent markets, additional geographies and other areas, including in critical industries, where the cost and penalties for failure can be high.”

And it notes the following growth (or non-growth) factors:

“The vehicle service and repair sector is characterized by an increasing rate of technological change within motor vehicles, vehicle population growth and increasing vehicle life, and the resulting effects of these changes on the businesses of both our suppliers and customers.”

Given the pace of acquisitions in recent years, the company no doubt sees opportunities to keep growing by identifying and buying complementary businesses.

Pulling all the strands together, the company has what it calls four runways to growth:

SNA runways to growthSNA runways to growth

Growth should continue for Snap-on as it executes on opportunities in several different areas and expands from its automotive legacy base.

Other

Snap-on is incorporated in Delaware and headquartered in Kenosha, Wisconsin.

It had about 11,500 employees at the end of fiscal 2015.

The 2015 fiscal year ended on Jan. 2, 2016.

Before joining Snap-on in 2002, Nicholas Pinchuk, the chairman, president and CEO, served in several management roles at United Technologies Corp. and Ford Motor Co.

Chief Financial Officer and Senior Vice President of Finance Aldo Pagliari has also been with the company since 2002, and in his present positions since 2010 (officer information from Reuters.com).

Ownership

Among the investing gurus followed by GuruFocus, the three with the largest holdings are John Rogers (Trades, Portfolio), Columbia Wanger (Trades, Portfolio) and Mairs and Power (Trades, Portfolio). They have 661,531 shares, 236,161 shares and 231,004 shares respectively. In total, 11 gurus have Snap-on positions.

Turning to overall ownership, we see high representation from institutional investors:

Snap on ownership

Short sellers hold a substantial number of shares and insiders own a modest number. Among the insiders is Pinchuk with 309,805 shares, or about one half of one percent of the shares outstanding.

Institutional investors must see good long-term prospects to have taken up this much of the company, especially since the company’s top executive has a significant stake.

Snap-on by the numbers

SNA key statistics

The company notes in its 2015 Annual Report that it has paid dividends every consecutive quarter since 1939 without interruption or reduction.

Snap-on is nearing its 52-week high; capitalization is closing in on the $10-billion mark; it posts respectable ROA and ROE numbers; it pays a modest dividend (and has done so continually for more than 75 years); and it did not buy back any shares in 2015.

Financial strength

The GuruFocus system gives Snap-on a middling score for financial strength and a good score for profitability and growth:

Snap-on financial strength

A couple of flashes of red alert us to potential problems with this company:

The severe warning signal, which warns us asset growth is faster than revenue growth. Presumably, the signal has been triggered by Snap-on’s slowing growth and by its acquisitions, both of which are noted above.

The second is the red indicator for cash to debt, which indicates the company’s ratio of these two is not as strong as it has been in the recent past. To follow up on this issue, look at the company’s long-term debt over the past decade:

Snapon long-term debt

While long-term debt is certainly higher than it was before 2009, it has come down since 2011. In the nearly one year since that chart ended, long-term debt is up by $2 million to $864 million.

Earnings have grown steadily over the past 10 years:

SNA EBITDA

Over the past 12 months, EBITDA has grown from $14.30 (fiscal 2015) to $15.12 per share.

Free cash flow has also grown along with the company’s other metrics:

Snap-on free cash flow

As noted earlier, we will check Snap-on’s operating margins, having noted that it does not face significant pricing pressure:

SNA operating margins

As shown, the operating margin has expanded, giving investors comfort that the company should be able to handle any financial issues that may or may not occur in the next few years.

While Snap-on’s long-term debt has grown and its assets are currently growing faster than its revenue, there should be relatively little concern. EBITDA, free cash flow and the operating margin have all increased as well.

Valuation

Snap-on has a 4-Star rating (out of 5), which means its earnings have grown quite consistently and can be predicted with some confidence. The rating also indicates the company is unlikely to be in a capital loss position if the stock is held for an extended period.

GuruFocus says, “Snap-on Inc is more suitable for Earnings Power Based valuation methods. This includes 1) Median P/S Value 2) Peter Lynch Fair Value. The Median P/S Value of Snap-on Inc. for today is 69.78. The Peter Lynch Fair Value of Snap-on Inc for today is 104.83.”

With a price of $168.55 at the close of trading today (Monday, Nov. 21), the share price would appear to be grossly overvalued.

However, we get a different opinion from the Discounted Cash Flow calculator:

SNA discounted cash flow calculator

The DCF calculator produces a price that’s nearly 20% higher than the current level (margin of safety).

Turning to the price-earnings (P/E) ratio, we see it has pulled back, reflecting the lower share prices this year:

Snap-on P=ESnap-on P=E

According to GuruFocus, the present P/E level is close to the industry median, “NYSE:SNA's P/E Ratio(ttm) is ranked higher than 54% of the 1857 Companies in the Global Tools & Accessories industry.”

Although Snap-on is not a particularly fast-growing stock, we can see the PEG (price-earnings divided by earnings erowth) ratio is also low in a historical context:

Snap on PEG

The current PEG ratio of 1.31 puts its share price in the lower end of the fair value range.

The analysts followed by NASDAQ.com are bullish about Snap-on:

Snap-on analysts

Their 12-month consensus price target is $176.00, modestly above the Nov. 21 closing price of $168.55. They also expect earnings to increase by 12.39% in fiscal 2016, while the industry does 19.5%.

The evidence suggests a modestly bullish outlook for the Snap-on share price. Assuming the price were to track earnings, a 12.5% increase in the share price would take it to $189.45, between the DCF figure and the analysts’ estimates.

Conclusion

Does this stock, or at least its share price, still have room to grow? Is it a value stock?

I would suggest yes is the answer to both of those questions; this is a company that has a vision and a plan to keep growing. Along with that growth should come higher share prices, above their current level.

It is a solid company. To pick just one metric, it has paid dividends every consecutive quarter for 76 years.

Most important, perhaps, is its increasing margins, a metric that not only helps the earnings but also gives us confidence this company has a strong moat and the ability to exploit it.

The dividend is modest, so this will not be a stock for an income investor. But with its margins and growing earnings, it deserves a place on the shortlists of value investors.

Disclosure: I do not own shares in any of the companies listed in this article, nor do I expect to buy any in the next 72 hours.

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About the author:

Robert Abbott
Robert F. Abbott has been investing his family’s accounts since 1995 and in 2010 added options -- mainly covered calls and collars with long stocks.

He is a freelance writer, and his projects include a website that provides information for new and intermediate-level mutual fund investors (whatisamutualfund.com).

As a writer and publisher, Abbott also explores how the middle class has come to own big business through pension funds and mutual funds, what management guru Peter Drucker called the "unseen revolution." In his book, "Big Macs & Our Pensions: Who Gets McDonald's Profits?" he looks at the ownership of McDonald’s and what it means for middle-class retirement income.

Visit Robert Abbott's Website


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