2023-05-31 16:54:01 ET
Summary
- Badger Meter has displayed strong growth, particularly in the past year, due to its ability to utilize free cash flow and integrate acquisitions.
- The company has consistently outperformed the S&P 500 over the past decade and has successfully integrated strategic acquisitions to achieve growth.
- Despite these positive factors, a discounted cash flow analysis indicates that the stock may be overvalued, suggesting a hold recommendation for now.
Badger Meter, Inc. ( BMI ) has displayed strong growth over the years, with particular emphasis on the past year. I believe that the stock is currently a hold due to its ability to utilize FCF, acquisition integrations, and overvaluation when assuming my DCF figures.
Business Overview
Badger Meter, Inc. is a global manufacturer and marketer of flow measurement, quality, control, and communication solutions. The company serves diverse industries across the United States, Asia, Canada, Europe, Mexico, the Middle East, and other international markets.
Their product portfolio includes mechanical and static water meters, along with related radio and software technologies, catering to municipal water utilities. They also offer flow instrumentation products such as meters, valves, and sensing instruments, which are used by original equipment manufacturers and distributed through representatives.
Badger Meter provides additional solutions like ORION for traditional fixed network applications, ORION Cellular for utility-owned fixed network infrastructure, and BEACON, a secure cloud-hosted software suite that enables alerts and consumer engagement tools for water usage management. Their flow instrumentation products find applications in water/wastewater, HVAC, and corporate sustainability markets. The company supplies directly to customers and also through resellers and representatives.
Badger Meter
Badger Meter, with a market capitalization of $4.08 billion, has demonstrated a strong Return on Invested Capital of 16%. The stock has seen significant price fluctuations, reaching a 52-week high of $143.37 and a low of $73.20. Currently trading at $139.69, Badger Meter's price is near its recent highs. However, it is important to note that the stock's Price-to-Earnings ratio based on GAAP stands at 57.48, which is higher than its industry peers. This suggests that the stock may be relatively expensive compared to its counterparts when considering earnings.
Badger Meter also offers a modest dividend yield of 0.65%, supported by a conservative payout ratio of 35.94%. While the dividend may not be substantial, it provides shareholders with a steady income stream while allowing the company to retain sufficient Free Cash Flow to invest in growth opportunities. This is particularly advantageous considering Badger Meter's impressive Return on Invested Capital. With the company's ability to achieve significant growth without requiring substantial capital investments, leveraging its strong ROIC can be highly beneficial.
Badger Meter has delivered exceptional results in Q1 2023 , surpassing expectations both in terms of revenue and earnings. The company reported earnings per share of $0.66, exceeding estimates by $0.11, and achieved revenue of $159.1 million, surpassing expectations by $16.37 million, indicating a remarkable year-over-year growth of 20.2%.
This outstanding performance is particularly notable considering the challenging economic conditions prevailing during this period. It highlights Badger Meter's effective cash allocation strategy, enabling the company to expand its core business and successfully integrate acquisitions. With strong sales performance, Badger Meter's demand environment remained robust, with strong orders and a record backlog. This positive earnings surprise, coupled with a solid backlog, demonstrates the company's long-term growth potential and its consistent ability to integrate new acquisitions seamlessly into its core operations, driving improvements across the board.
Outperforming the Broader Market
Badger Meter has consistently outperformed the S&P 500 over the past decade, demonstrating its capacity to deliver sustained returns to its shareholders over the long term.
Badger Meter Compared to the S&P 500 10Y (Created by author using Alpha Spread)
Integration of Strategic Acquisitions to Achieve Growth
In order to diversify its product offering, advance its technological capabilities, and reach new markets, Badger Meter has consistently used a strategic acquisition strategy. The 2020 purchase of s::can GmbH is one significant transaction that highlights Badger Meter's acquisition strategy.
Austria-based s::can GmbH is a well-known supplier of water quality monitoring equipment. Their specialty is in creating and producing optical sensor technology for the in-the-moment evaluation of various water quality indicators. The mission of Badger Meter to provide complete water management solutions, including flow measurement and water quality monitoring, was in line with this acquisition.
Badger Meter was able to access cutting-edge sensor technology and increase its capacity for water quality monitoring by purchasing s::can. Badger Meter was able to give clients a more comprehensive image of their water systems by incorporating s::can's solutions into its product line. This included both flow and quality data. Customers were able to make more educated decisions about water management and conservation as a result.
Additionally, the acquisition of s::can gave Badger Meter the chance to grow its global presence and explore new markets. Badger Meter was able to take advantage of its current customer base and distribution networks to further expand its business since s::can has a significant presence in Europe and other international markets.
The acquisition strategy of Badger Meter includes more than just purchasing goods and technologies. The corporation also seems appreciative of the acquired teams' talent and knowledge. Badger Meter likely saw the value of keeping the s::can team and their expertise in water quality monitoring in the instance of s::can. This helped with a seamless integration and the maintenance of the acquired company's competencies and clientele.
I strongly believe that the successful integration of various acquisitions, including the mentioned example and others, is a clear testament to Badger Meter's unwavering commitment to continuous improvement and long-term excellence. These strategic acquisitions will empower Badger Meter to leverage expertise, drive efficiencies, and enhance overall quality. As a result, the company will be able to expand its margins, capitalize on its strong ROIC, and generate additional free cash flow for future growth opportunities, in my opinion.
s::can
Analyst Consensus
Badger Meter has been given a "buy" rating by analysts based on consensus. However, the average 1-year price target for the stock is $134.33, indicating a potential downside of 3.83%.
Valuation
Prior to formulating my assumptions and conducting a discounted cash flow analysis, it is essential to calculate the Cost of Equity and Weighted Average Cost of Capital for Badger Meter using the Capital Asset Pricing Model. Taking into account a risk-free rate of 3.82%, the calculated Cost of Equity is 8.35%, as shown below.
Created by author using Alpha Spread
Based on the determined Cost of Equity value, I arrived at a calculated Weighted Average Cost of Capital of 8.35%, as demonstrated below. It is worth noting that this figure is below the industry average of 11.68%.
Created by author using Alpha Spread
Through the utilization of a DCF analysis using Free Cash Flow to the Firm without CapEX, I have determined that Badger Meter is currently overvalued by 52%, considering a fair value of approximately $67.62. This valuation was derived by applying a discount rate of 8.35% over a 5-year period. Additionally, my analysis takes into account the company's ongoing commitment to enhancing its innovations and incorporating more efficient assets, which is expected to contribute to margin expansion.
5Y Firm Model DCF Using FCFF Without CapEX (Created by author using Alpha Spread)
Risks
Supply Chain Disruptions: Badger Meter sources the raw materials and components for its products through a convoluted international supply chain. Natural disasters, trade conflicts, or transportation problems could cause supply chain disruptions that result in delays, higher costs, or inventory shortages.
Regulatory and Compliance: The highly regulated business in which Badger Meter operates could be affected by changes to compliance standards. Regulation non-compliance may result in fines, legal action, or reputational harm.
Conclusion
In conclusion, my assessment suggests that a hold for Badger Meter is appropriate, considering various factors. The company has demonstrated its capability to generate strong returns on invested capital and effectively integrate acquisitions. However, it is important to note that my discounted cash flow analysis indicates an overvaluation of the stock. Therefore, it would be prudent to closely monitor the company's performance and reassess the investment thesis based on future developments.
For further details see:
Badger Meter: Promising Future But Valuation Remains A Concern