Rockwell Automation Inc. (ROK, Financial), the $21.3 billion diversified industrial company, reported its third-quarter 2017 results in late July. In the past nine months, the Wisconsin-based company delivered 7% year-over-year revenue growth to $4.64 billion and an improved 14% profit growth to $621 million (13.4% margin versus 12.5% in the year earlier period).
Despite having 6% and 9.5% higher cost of sales and selling, general and administrative expenses, amounting to $3.83 billion, Rockwell still recorded better profitability in the period. Meanwhile, provision for taxes declined (-)11.7% to $142.8 million.
In addition, Rockwell indicated it sees its fiscal 2017 revenue growth at approximately 7% (versus a -6.8% decline in 2016) and diluted earnings per share in the range of $6.21 to $6.41 (versus $5.56 in 2016).
At midpoint, the expected per-share earnings would indicate a growth rate of 13.5% compared to its decline of (-)8.7% the year prior.
President and CEO Blake Moret commented on the company's performance"
“We had another quarter of strong sales and earnings performance. Organic sales grew 8%, in line with our expectations. EPS was up double digits for the third consecutive quarter, and free cash flow remained strong.
I am pleased to see broad-based sales growth across regions and industries. Growth was led by double-digit increases in Asia Pacific and Latin America. The U.S., our largest market, was up 10 percent, including the contribution from acquisitions. Transportation, food and beverage and semiconductor were strong."
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Valuations
Rockwell is overvalued compared to its peers. According to GuruFocus data, the company had a trailing price-earnings (P/E) ratio of 27.6 times versus the industry median of 23.1 times, a price-book (P/B) ratio of 9.7 times versus 1.9 times and a price-sales (P/S) ratio of 3.5 times versus 1.3 times.
The company had a trailing dividend yield of 1.84% with a 50% payout ratio.
Average 2017 revenue and earnings per share estimates indicated forward multiples of 3.4 times and 24.7 times, which are 30% higher than three-year averages collectively.
Total returns
Rockwell has outperformed the broader S&P 500 index in the past 15 years, having generated 17.4% (annualized) total returns versus the index’s 9.6%. So far this year, Rockwell has provided 23.9% gains versus the index’s 11.9%.
Rockwell Automation
According to filings, Rockwell Automation continues the business founded as the Allen-Bradley Co. in 1903.
The company was incorporated in Delaware in connection with a tax-free reorganization completed in December 1996, pursuant to which Rockwell divested its former aerospace and defense businesses (the A&D Business) to The Boeing Co. (BA, Financial).
In 2016, sales to customers in the U.S. accounted for 55% of Rockwell’s total sales. In addition, 18.6% of sales were generated in Europe, the Middle East and Africa, 13% in Asia Pacific and the rest in other countries.
Rockwell has two operating segments: architecture and software and control products and solutions.
Architecture and software
According to filings, Rockwell’s architecture and software segment is headquartered in Mayfield Heights, Ohio. The segment contains all of the hardware, software and communication components of the company’s integrated control and information architecture, which are capable of controlling the customer’s industrial processes and connecting with their business enterprise.
In the recent three quarters, revenue in the segment jumped 10.8% year over year to $2.15 billion (46% of sales) and registered a segment earnings margin (1) of 28% versus 26.6% in the same period last year.
Over the past two years, revenue in the architecture and software segment fell (-)3.8% on average.
Control products and solutions
The control products and solutions segment is headquartered in Milwaukee, Wisconsin.
The segment combines a comprehensive portfolio of intelligent motor control and industrial control products, application expertise and project management capabilities.
In the recent nine months, revenue in the division grew 3.9% to $2.5 billion (54% of sales) and recorded margins of 13.9% versus 15.4% in the prior-year period.
Like that of the other segment, the revenue average for control products and solutions fell (-)7.3%.
Sales and profits
Over the past three years, Rockwell logged an average revenue decline of (-)2.54%, profit decrease of (-)1.19% and profit margin average of 12.7%.
Cash, debt and book value
As of June, Rockwell had $1.55 billion in cash and cash equivalents and $1.84 billion in debt with a debt-equity ratio of 0.85 times versus 0.88 times in the prior-year period. Overall debt fell by $33.6 million year over year while equity rose by $56.7 million.
Of Rockwell’s $7.22 billion in assets, 18% were identified as blue sky elements (goodwill and intangibles) while book value rose 2.7% year over year to $2.18 billion.
Cash flow
In the past nine months, Rockwell’s cash flow from operations rose an impressive 37.3% year over year to $927 million as a result of higher profits and cash flow from retirement benefit expenses, advanced payments from customers and deferred revenue and compensation and benefits.
Meanwhile, Rockwell also allocated $265.9 million in investment purchases net any proceeds from it.
Capital expenditures were $97.5 million, leaving Rockwell with $829.6 million in free cash flow compared to $595.9 million the year prior. The company provided 72% of its free cash flow as dividends and share repurchases while allocating $100 million to dividend repayments net issuances.
In review, Rockwell spent $606.2 million in 2015 buying back its shares at an estimated average price of $112.26 a share. In 2016, it allocated $500 million to share buybacks, paying an average price of $108.74 a share.
The cash flow summary
Over the past three years, Rockwell allocated $381 million to capital expenditures, accumulatively generated $2.79 billion in free cash flow, raised $1.07 billion in debt net repayments and other financing activities and provided $2.64 billion in shareholder payouts, including dividends and buybacks at an average free cash flow payout ratio of 95.4%.
Conclusion
Rockwell has demonstrated the ability to reignite business growth so far this fiscal year, having a clear turnaround in sales versus its prior-year performances. Although the company has a leveraged balance sheet, current cash on hand can nearly wipe out all outstanding debt, indicating a strong financial standing, while having contained some (18%) blue sky elements in its assets.
Rockwell has been fairly prudent in its cash flow allocation in recent years, having rewarded its shareholders consistently on a near free cash flow equivalent ratio of approximately 95%.
Analysts set an average price target of $158.06 a share versus $164.97 at the time of writing. Applying average revenue estimates and 2.5 P/S multiple (three-year average) followed by a 15% margin indicated a price of $103.4 a share.
In summary, Rockwell is a pass and it could be time to reap what investors have sown.
Notes
(1) Company filings
Total segment operating earnings and total segment operating margin are non-GAAP financial measures. We exclude purchase accounting depreciation and amortization, general corporate – net, non-operating pension costs, interest expense and income tax provision because we do not consider these costs to be directly related to the operating performance of our segments. We believe that these measures are useful to investors as measures of operating performance. We use these measures to monitor and evaluate the profitability of our operating segments. Our measures of total segment operating earnings and total segment operating margin may be different from measures used by other companies.
Disclosure: I do not have shares in any of the companies mentioned.
