ASIX - Honeywell: Doing Well Appeal Is Improving

2023-06-20 17:36:38 ET

Summary

• Honeywell International Inc. is a greatly positioned conglomerate, deserving the license to operate as such.
• The company has smartly positioned the portfolio to growing trends, while recently announcing another bolt-on deal to add to this positioning.
• This is all welcome, and despite sound operating performance, a resulting 22 times earnings multiple for Honeywell feels a bit rich to me in this rate environment.

In December of last year, I believed that Honeywell International Inc. ( HON ) was a great-diversified empire, in fact doing very well, although a high earnings multiple left me cautious to get involved.

The company was doing well in 2022 in a toughening macro environment, as the industrial conglomerate seemed to be performing at the top of its league, in part the result of an active repositioning strategy. This included many divestments of struggling businesses (and their associated (off-balance sheet) liabilities) of companies like Garret Motion ( GTX ) , AdvanSix ( ASIX ) and Resideo Technologies ( REZI ) , among others.

A Recap

Honeywell is a diversified industrial empire, reporting its results across four divisions. The largest of these is the aerospace industry business, complemented by a sizable performance material and technology segment, as well as a smaller safety and productivity solution business, and building technology business. The company has smartly positioned itself to growing industries, as well as emerging trends like carbon capture, warehouse automation and plastic recycling, among others.

For the year 2021, the company reported sales of $34.4 billion, while posting adjusted earnings of $8.09 per share in the process. On the back of the strong positioning, the company guided for 2022 sales to increase to $35.9 billion, with earnings seen around $8.55 per share. That was the original outlook, as the strong dollar meant that the company trimmed the full year sales guidance, while actually hiking the full year earnings guidance, a move which stood in sharp contrast to other industrial names.

With shares trading near $220 in December, the $8.75 per share earnings power worked down to a 25 times earnings multiple, translating into a modest earnings yield, certainly in an uncertain macro environment and given where interest rates were trading. This left me to conclude to not get involved, but left me impressed by the positioning of the business.

Coming Down

Since December, shares have gradually come down a bit. The $220 stock fell to the $200 mark in February and traded at lows in the $180s in the spring, now having rebounded to $202 per share amidst a general market rally in recent weeks.

In February, Honeywell posted a 3% increase in full year sales to $35.5 billion, as adjusted earnings came in at $8.76 per share, with GAAP earnings posted at $7.27 per share, due to charges taken in relation to the Russian operations and pension mark-to-market expenses. Net debt of $9.4 billion looked pretty decent as the company guided for modest growth in 2023, with sales seen up modestly to $36-$37 billion and earnings seen between $8.80 and $9.20 per share.

In April, Honeywell announced its next bolt-on deal, as it acquired Compressor Control Corporation in a $670 million deal, a purchase price equal to about half a percent of the prevailing enterprise valuation of Honeywell itself. At 15 times EBITDA, the deal will add turbo machinery control and optimization technologies, primarily serving the LNG, gas processing, refining and petrochemical segments and $45 million in EBITDA in the process as well.

Later that month, the company posted first quarter results, and as a result of inflationary trends, the company hiked the full year sales guidance by four hundred million to $36.9 billion, now seeing earnings between $9.00 and $9.25 per share. Net debt ticked up to $12.0 billion due to share buybacks and NARCO buyout payments, still manageable but moving a bit higher.

The reality is that, with shares at $202, the multiple (at the midpoint of the guidance) has fallen from 25 times to 22 times earnings here. In a traditional fashion, Honeywell was often compared to the likes of 3M ( MMM ) and General Electric ( GE ), but given the idiosyncratic issues at these firms, they are not the best comparisons these days, as European peer Siemens or Japanese Hitachi are not too comparable as well, if only due to generally lower valuations applied overseas.

If we move to other specialized industrial machinery manufacturers (which covers a great part of Honeywell's business), we see names like Eaton ( ETN ) , Emerson Electric ( EMR ) , Parker Hannifin (PH) and Rockwell Automation (ROK) as comparable peers, all of these generally trade at 20-30 times earnings, being rewarded solid valuations on the back of rosy long-term outlooks.

What Now?

The reality is that the Honeywell International positioning remains very sound, with incoming CEO Vimal Kapur focusing specifically on energy transition, automation, digitization and aerospace.

Hence, the future continues to look good. Amidst a solid (and positively revised) 2023 guidance, while shares have been coming down a bit more, I am gradually turning a bit more upbeat here.

That being said, a 22 times earnings multiple in this rate environment remains somewhat demanding, which still makes it easy for me to avoid the shares here. Quite frankly, I am only happy to commit at a market multiple of around 18 times, which translates into a market entry point of $170 per share for Honeywell International.

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