Tak Mau laha: Dull Near-Term Prospects for Industrial Manufacturing Stocks

The Zacks Manufacturing – General Industrial industry comprises companies that are engaged in producing a wide range of industrial equipment tools.

Some companies sell power transmission products, bearings, engineered fluid power components and systems, industrial rubber products, vapor-abrasive blasting equipment, vehicle-powered truck refrigeration systems, adhesive, gel coat equipment, flow control components, safety products and linear motion components. In addition, industrial manufacturing companies reconstruct and assemble pumps, valves, speed reducers and hydraulic motors.

These companies provide services to original equipment manufacturing, and maintenance, repair and overhaul customers. These end users belong to different types of industries, such as mining, oil and gas, forest products, agriculture and food processing, fabricated metals, chemicals and petrochemicals, transportation and utilities. Some of the notable companies belonging to this industry are Flowserve Corporation (FLS), IDEX Corporation (IEX), Illinois Tool Works Inc. (ITW), Parker-Hannifin Corporation (PH), Roper Technologies, Inc. (ROP) and Xylem Inc. (XYL).

Here are the industry’s three major themes:

The U.S. industrial manufacturing companies have been benefiting from the U.S. government's emphasis on infrastructure development and the technological advancement in manufacturing processes. In addition, President Trump’s business-friendly policies like corporate tax overhaul, impetus to streamline business regulations and higher government spending will continue aiding the industrial manufacturing companies. Notably, industrial manufacturing companies’ aggregate revenues in the last three years (2016-2018) recorded growth of 4.2% (CAGR).
The U.S manufacturing sector has been contracting for four consecutive months as evident from the Purchasing Managers’ Index (PMI) reading, which has remained below 50 since August. Per the latest Manufacturing ISM Report published on Dec 2, the PMI for November declined to 48.1%. Further, the metric registered readings of 48.3%, 47.8% and 49.1% in October, September and August, respectively. Imposition of punitive tariffs worth billions of dollars by Washington and Beijing on each other’s products are resulting in material cost inflation and pulling down margins of several U.S. manufacturing companies. As a matter of fact, the uncertain demand environment for industrial manufacturing products created by the trade tariffs is likely to continue hurting profits of manufacturing companies in the near term. In addition, a stronger U.S. dollar is weighing on the overseas trading arms of several companies.
In spite of healthy job additions in the manufacturing industry, companies are experiencing shortage of skilled laborers. In addition, the state of affairs has turned complex for U.S. manufacturers on account of persistent issues within the trucking industry. The industry is currently experiencing shortage of truck drivers. As a result, the U.S. manufactures are currently experiencing supply-side challenges related to higher freight charges. These issues are likely to continue elevating costs and hurt profits of manufacturing companies in the near term.

Zacks Industry Rank Indicates Bleak Prospects

The Manufacturing – General Industrial industry is a 38-stock group within the broader Zacks Industrial Products sector. The industry currently carries a Zacks Industry Rank #162, which places it in the bottom 36% of more than 250 Zacks industries.

The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates gloomy near-term prospects. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.

The industry’s positioning in the bottom 50% of the Zacks-ranked industries is a result of the negative earnings outlook for the constituent companies in aggregate. Looking at the aggregate earnings estimate revisions, it appears that analysts are keeping less faith in this group's earnings growth potential. Notably, the industry’s earnings estimates for the current year are down roughly 4.8% year over year.

Despite the grim outlook, we present a few stocks that have strong earnings growth prospects. Before we discuss the stocks, it’s worth taking a look at the industry’s shareholder returns and current valuation first.

Industry Outperforms Sector & S&P 500

The Zacks Manufacturing – General Industrial industry has outperformed both the S&P 500 and its sector in the past year. While stocks in this industry have collectively returned 25%, the S&P 500 has rallied 18.4%, whereas the Zacks Industrial Products sector has gained 14.6%.

One-Year Price Performance

Manufacturing – General Industrial Industry’s Valuation

EV/EBITDA ratio is commonly used for valuing manufacturing stocks.

The industry’s forward 12-month EV/EBITDA ratio is 12.27. This clearly shows that the industry is trading above the S&P 500’s forward 12-month EV/EBITDA ratio of 12.16, while below the sector’s 16.66.

Over the past five years, the industry has traded at the highest level of 12.29x forward 12-month EV/EBITDA and the lowest level of 8.25x. The median level, over the same period, was 10.47x.

Manufacturing–General IndustrialIndustry’s Valuation Versus S&P 500

Manufacturing–General Industrial Industry’s Valuation Versus Sector

Bottom Line

On account of the prevalent headwinds, we believe that investing in the industry may not be prudent at the moment. The majority of the stocks within this 38-stock industry currently carry a Zacks Rank #3 (Hold) or 4 (Sell) or 5 (Strong Sell).

Despite the industry’s poor rank, we present some stocks from the industry, which are likely to offer good returns particularly in difficult times.

Here we discuss in brief four stocks:

Kaman Corporation (KAMN): The stock of this Bloomfield, CT-based company currently sports a Zacks Rank #1 (Strong Buy). The company has rallied 18.2% over the past year. You can see the complete list of today’s Zacks #1 Rank stocks here.

The Zacks Consensus Estimate for 2019 earnings has remained stable at $1.90 in the past 60 days while the same for 2020 earnings has increased 24.1% to $2.78.

Price and Consensus: KAMN

Tennant Company (TNC): The stock of this Minneapolis, MN-based company currently sports a Zacks Rank #1. Over the past year, the stock has returned 42.6%.

The Zacks Consensus Estimate for 2019 earnings has risen 5.2% to $2.83 in the past 60 days while the same for 2020 earnings has increased 4.4% to $2.85.

Price and Consensus: TNC

Dover Corporation (DOV): The stock of this Illinois-based company currently carries a Zacks Rank #2 (Buy). The stock has gained 43.6% over the past year.

In the past 60 days, the Zacks Consensus Estimate for 2019 earnings has increased 0.3% to $5.85 for 2019 while the same for 2020 earnings has jumped 0.3% to $6.30.

Price and Consensus: DOV

DXP Enterprises, Inc. (DXPE): The stock of this Houston, TX-based company carries a Zacks Rank #2. Over the past year, the company’s stock has risen 15.1%.

In the past 60 days, the Zacks Consensus Estimate for its 2019 earnings has increased 3.3% to $2.48 for 2019 while the same for 2020 earnings has risen 1.9% to $2.74.

Price and Consensus: DXPE

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