2024-01-14 07:34:51 ET
Summary
- Celestica's stock has performed exceptionally well, sustaining gains despite bears' attempts to halt the uptrend.
- The company's chart is bullish, with plenty of potential for further upside and limited downside.
- Celestica's diversification and strong revenue streams position it for future growth and robust EPS gains.
Few stocks have performed better in the past year or so than mid-cap diversified industrial Celestica ( CLS ). The stock has exploded higher and - very critically - sustained those gains as sellers have tried again and again to arrest the uptrend. Regardless of what happens short-term, Celestica's long-term picture remains extremely bright, and I think it warrants a strong buy rating as we look towards Q4 earnings in the next couple of weeks.
A fantastic looking chart
Celestica's chart is unbelievably simple in that it's been so bullish, there isn't really much else to say.
The massive move during the summer of last year resulted in a gap up in July that was never tested; such was the bullishness surrounding the stock. Since then it's been on a slow but steady grind higher, which means that if the bulls are to continue moving it up, it is not only nowhere near being overbought, momentum is actually neutral. That leaves plenty of firepower for the next leg up, and given the fundamental situation, I see downside for the stock as quite limited.
There's a huge amount of support in the area of $26 to $28 given the amount of trading that took place there, and that now coincides with the ever-rising 50-day moving average. On the downside, I would take a failure of the 50-day moving average as a sign that short-term momentum was back in favor of the bulls, but unless that happens, this chart simply looks great.
Margins fuel future upside
What's attractive about Celestica from a fundamental perspective is its diversification. It operates in some low-margin businesses - which is not attractive - but it's slowly building its profitability such that future EPS gains should continue to be robust.
The company's revenue streams are many and varied, meaning that it can rely upon the strength of one to offset weakness in another, should the need arise. The ATS segment as a whole has boosted revenue at an average rate of 17% in the past three years, and management is targeting at least 10% annual growth long-term. The intriguing thing is that the sub-segments are all expected to contribute roughly equal amounts of growth around that 10% mark, so it's not betting on some moonshot to offset weakness elsewhere.
The CCS segment has grown at about 7% annually recently, but with $2.8 billion of the $4.5 billion revenue total coming from what Celestica calls its Hyperscalers.
I won't read the slide to you but this bunch is showing enormous revenue growth, with data center capex being the tailwind behind the revenue boost for Celestica. Obviously, 48% revenue growth is unsustainable, but the Hyperscalers are set to produce at least 25% growth for 2023 (the last quarter of which has not yet been reported).
The point here is that Celestica has a lot of levers to pull and is active in a number of attractive segments. The company's portfolio transformation that was completed in 2021 has resulted in a mix of business that is obviously working extremely well, and has rewarded shareholders with enormous gains.
A bright outlook
So how does all of this translate into a tangible outlook? Celestica is still at the point where revenue growth is a primary driver of EPS, but that is not always going to be the case.
For 2024, the company is looking for at least 7.5% top line growth, and at least some margin expansion. That is set to lead to at least 14% EPS growth on an adjusted basis ($2.70+ from $2.36), so we're talking about big numbers here.
Below is trailing-twelve-months gross and operating margins to get an idea of historical context and progress on that front.
Gross margins are at their highs, having hit 9.5% in the most recent TTM period. That has translated into massive operating margin growth, however, as operating expenses are leveraged down with a higher top line. For instance, in the June 2022 TTM period, gross margins were 9.0%, with operating margins at 3.5%. In the most recent TTM period ending September 2023, gross margins were just 50bps higher, but that led to a 190bps gain in operating margins. This is operating leverage in practice and if Celestica's revenue guidance is even close to being right, there's plenty more where that came from.
What's the secret? Prudent expense management.
SG&A costs have steadily declined as revenue has grown, and you can see essentially all of the operating margin gains from above in this chart. So long as revenue is growing, this chart should continue to move down and to the right, and that means outsized EPS growth.
Longer-term, management expects ~13% adjusted EPS growth on an annual basis, pending what happens with revenue and margins.
That leaves plenty of meat on the bone here for the bulls despite the big rise in the stock we've already seen. Celestica has - in my view - transformed itself from a hopeful small cap industrial into a proven mid-cap winner. That should warrant higher EPS multiples, so I think the upside potential here is significant.
One thing we haven't mentioned is share repurchases, which Celestica has done a lot of in the past.
The share count has fallen by an average of 4% annually in the past ten years, which is very strong. I love a repurchase program because it's a direct and tangible tailwind to EPS. Celestica bought back huge numbers of shares when the stock was between $10 and $15, so it's proven to be enormously valuable to shareholders. The effectiveness of this will diminish the higher the share price goes, but this is a steady and welcomed tailwind to EPS nonetheless.
Let's value this thing
Much of the rise in the share price we've seen has been due to multiple expansion, which is generally what happens when a company is seeing outsized earnings growth. With Celestica proving itself as a long-term winner in its markets, it is my view that we've already seen the bottom in terms of earnings multiples.
Celestica traded for stupid multiples in the area of 5X forward earnings in 2022, and even into part of 2023. The run the stock has seen has the forward EPS multiple at just 10.9X, so while the stock has run a bunch, it's still really cheap in my view. We're looking at double-digit long-term earnings growth with overwhelmingly positive revisions from analysts for <11X earnings; sign me up.
That of course depends upon Celestica's ability to deliver on its forecasts, but all indications at the moment are that this shouldn't be an issue.
Finally, Seeking Alpha's Quant Rating shows a strong buy, and a rating of 4.87 out of 5.00. We can see the stock earnings high marks on all five categories, with profitability being the weakest at B-. I agree that's the weakest category for Celestica, but I also think the outlook is very bright based on the evidence above, and that it won't be long before we see that rating move higher.
I'm agreeing with the Quant Rating on this one and slapping a Strong Buy on the stock. The earnings report in a couple of weeks will likely introduce some volatility short-term, but whatever the reaction is there, unless there's some massive bombshell that torpedoes the long-term outlook, this is one to keep on your watchlist and consider owning.
For further details see:
Celestica: Why It Remains A Long-Term Strong Buy