| Has the Sell-off Created Value Stocks Among Clean Energy Conglomerates?
Posted: 28 Aug 2011 10:53 AM PDT Tom Konrad CFA The silver lining of all market declines is the chance to buy stock in quality companies at attractive prices. That opportunity has been notably absent over the last two years, which is why my focus has shifted to smaller and smaller companies in search of reasonable valuations over that time. Although I still don’t believe the market is cheap by any measure other than comparing it to a couple months ago, the volatility is starting to bring some individual bargains, especially on heavy selling days. For instance, I’ve started to acquire some of the waste management stocks that I looked at last week, although I’m still waiting on another round of selling to purchase others. In particular, I am looking for companies with high dividend yields that are well covered by free cash flow and earnings. I also want companies with low levels of debt to ensure that income would be relatively stable, even when revenues drop. Clean Conglomerates I like the waste sector because I think it will benefit as higher commodity and energy prices lead to more profitable recycling and waste to energy operations. In contrast, the companies I’ll look at today are not in any one sector, but rather they are broader industrial companies with a range of businesses in the clean energy arena that have drawn my attention over the years. Because these companies are large and well covered by mainstream analysts, I don’t feel that I have the resources to gain an informational advantage over other market participants. Instead, my strategy with companies like these is to wait until a general market downturn produces good valuations, and buy those companies which have decent dividends supported by healthy capital structures, earnings, and cash flow, with the intent on holding them for the long term. In particular, I’m looking for a dividend yield around 3% or more, with earnings and Free Cash Flow (FCF) yields considerably higher than the dividend, so that there is room for earnings and cash flow to fall without imperiling the dividend. I’m also looking for moderate levels of debt, preferring companies that are mostly equity rather than debt financed. I looked at the following seven companies: 1.ABB Ltd. (ABB), which attracts me because of their expertise in electricity transmission and distribution, especially high voltage DC transmission. They’ve recently been expanding their cleantech offerings with acquisitions in smart grid, electric vehicle, and efficient motors sectors. 2. AECOM Technology (ACM) provides planning and technical support services in the sectors as diverse as transportation, facilities, environmental, and energy markets. Since efficient infrastructure requires careful planning, a shift towards greater efficiency should mean more business for AECOM. Many renewable energy projects (such as hydropower) also require a level of planning expertise not necessary in traditional fossil fuel projects. 3. Roper Industries (ROP) makes medical and scientific imaging equipment, energy systems and controls, and radio frequency products and services. Many of their activities are focused on saving money for utilities, such as better ways to deliver water, better logistics, and leak detection systems. Such efforts do a lot to improve energy and resource efficiency as they help their customers’ bottom lines. 4. John Deere (DE) provides services and products to the agriculture and forestry industries, so I see it as a potential beneficiary of increased demand for biomass for biofuels and electricity generation. 5. Siemens (SI) is an electronics and electrical engineering company with significant wind turbine, electric transmission, and building efficiency offerings. 6. General Electric (GE) has been pushing their commitment to energy efficiency and renewable energy for most of the last decade, with green technologies accounting for a growing share of revenues. 7. Johnson Controls (JCI) is both a leading battery manufacturer, and is a leader in building automation, a key technology in increasing building efficiency. I compare the companies’ dividend, earnings, and cash flow yields, and Debt/Equity ratios in the chart below.
Conclusion Of the companies listed, only ABB, Deere, Siemens, GE, and Johnson Controls have even moderately attractive dividends. Of these, only ABB and Siemens have a level of debt I consider low enough to give it flexibility to cope with a sluggish world economy. Yet both these companies have uncomfortably low FCF to support their dividends. Free cash flow can be quite volatile, so I would want to take a closer look to decide on the cause of the current low cash flows at the companies before making an investment. Furthermore, neither stock is particularly attractive on the basis of earnings, since analyst’s predicted growth may not materialize, and both trade near 17 times 2010 earnings. Of all the companies I consider here, Roper Industries looks the healthiest, with strong alignment between earnings and cash flow and low debt, but as with ABB and Siemens, the current valuation is unattractive. Especially when you consider that company analysts tend to be overly optimistic as a whole, we should probably discount the 2011 and especially 2012 earnings estimates. None of these stocks looks like a great value at current prices, despite having fallen between 12% (ABB) and 35% (AECOM) year to date. I take the lack of great values as a sign that this market decline likely has farther to go. |
