HUBB - Hubbell: No Longer A Short

Summary

• The consensus profit outlook for Hubbell has increased, leading to a stronger near-term earnings profile.
• The valuation gap between HUBB and the S&P 500 has decreased, making HUBB less attractive as a short investment.
• HUBB's Power segment is experiencing stronger growth compared to the past, due to the company's success in managing prices and costs and support from stimulus plans.

Overview

Given Hubbell Inc ( HUBB ) increased profit outlook (by consensus) and closing of valuation gap vs the S&P 500, I believe HUBB is no longer worth shorting.

My revised opinion of HUBB is largely attributable to the upward revision in consensus estimates, which is founded on a stronger-than-anticipated near-term earnings profile. Furthermore, the valuation gap has shrunk in comparison to the S&P (from 15x to 17+x today). The results of 4Q22 and the outlook for the future show that Power is experiencing stronger growth compared to the past. This is due to the company's success in managing its prices and costs. The stimulus plans also provide additional support for Power's sales. Meanwhile, HUBB is also seeing positive impacts from inflation in its non-material costs and components, which are leading to price and cost advantages.

Earnings update

The discussion of the IIJA's expected incremental impacts was the most useful part of the call for me. One slide in the company's earnings presentation estimated an annual revenue opportunity for the utility business of between one and two percent, or $150 million to $200 million (which means a growth in the middle of the percentage range by 2023 is possible). In addition, about $70 billion, or 13% of the total $550 billion in new funding, is earmarked within the IIJA for power infrastructure and grid automation. Management also estimates that between $15 and $20 billion of this could be used for grid hardening, resilience, and alterations. It is important to remember that the growth forecasted here does not account for any opportunities presented by incremental investment in sectors like rural broadband. It was made clear by management that, with additional resources, the company could outperform MSD this year.

Cost issue

Commodity price fluctuations were a central part of my previous, shorter thesis. I was surprised to see that HUBB would stick with its pricey 4Q22 strategy. A price hike of 2% is also anticipated, and the guidance calls for additional measures to back it up. However, non-material costs, such as components and other value-add materials, remain stubbornly high, causing overall costs to rise despite the recent decline in spot commodity prices. Remember that raw materials, which will benefit from lower commodity prices, account for only about 20% of the cost base, while non-material costs account for 50% of the cost base, and the remaining materials account for only about 30% of costs. With management still seeing increases in the low to mid single digits across 80% of the cost base, even a 10% drop in raw materials is not enough to cover the increased from others.

Other segments

Management expects a relatively flat organic outlook for volumes in the other segment, which accounts for over 40% of total sales. As for the 20% of the portfolio is described as "recession resilient" by management. This portion includes electrical T&D, renewables, telecom, and data centers. I estimate that an MSD growth rate is basically built into this section of the portfolio by 2023. On the flip side, home sales account for only about 15% of total revenue and are forecast to fall by 20%, wiping out any potential profits these companies might have made. The industrial and non-residential real estate markets were deemed strong, but the residential real estate market is on high alert due to the significant impact distributor de-stocking had on that sector during the quarter. So far in January, orders have increased, suggesting that the drop at the end of the year was likely due to distributors having already reached volume incentives and shifting their focus to cash generation.

Valuation update

I believe the downside to the stock is no longer attractive enough as a short. This is based on the updated consensus estimates and the reduction in valuation disparity vs the S&P 500 (supposed HUBB trades at 1x S&P 500).

Conclusion

In conclusion, I believe it is no longer recommended to short HUBB. This is due to the upward revision of consensus estimates, which is based on a stronger near-term earnings profile, and the shrinking valuation gap. The results of 4Q22 and outlook for the future indicate that Power is experiencing stronger growth compared to the past, largely due to the company's success in managing prices and costs, and support from stimulus plans.

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