2023-03-20 07:46:15 ET
Summary
- Motorola Solutions ended 2022 with a record backlog of $14.3 billion, which was ~1.5x its full-year 2022 revenue of $9.11 billion.
- The company's Software & Video offerings are high-margin and ARR is growing. As a result, Q4 margin increased a full 1.9 percentage points yoy.
- As a result, free cash flow is strong ($1.2 billion in Q4, or 44.4% of revenue), enabling MSI to buy back stock and continue increasing the dividend at a double-digit pace (11.4%).
- MSI stock trades at an above market multiple (P/E = 32.6x), but it's still attractive. Here's why.
Motorola Solutions ( MSI ) is all that is left of the once mighty Motorola after the mother-ship spun-off its mobility, networking, enterprise, and semiconductor businesses. However, what is leftover is a relatively recession resistant business that continues to deliver strong earnings and free-cash-flow. That is because Motorola Solutions provides first-responder solutions and services (police, fire, EMS, national security, etc) for state and local governments. Spending on public safety is not driven by traditional economic cycles, but by government spending trends. That being the case, and following a rebound after the global pandemic, MSI is seeing pent-up demand that has led to a record backlog. Its recent strong Q4 earnings report was another beat. The stock closed Friday at $264.24, trades with a forward P/E = 23.5x, pays a $3.52/share annual dividend, and yields 1.33%. Despite the relatively high valuation level, MSI is a BUY, and here's why.
Investment Thesis
In a nutshell, the slide below from the company's March Investor Overview describes why Motorola Solutions is such an attractive investment opportunity:
As I have been reporting through my Seeking Alpha articles on MSI, Motorola has a dominant position in 911 Command Center software in the U.S. and also has a large global business (30% of 2022 sales were international) in Land-Mobile Radios ("LMR") - a very sticky and entrenched mission critical business that is tied-in with MSI's proprietary network solutions that makes customer switching both a risky and relatively expensive proposition.
You've probably seen Motorola's ubiquitous push-to-talk LMR devices in use by police and other emergency responders. As I have also explained on Seeking Alpha (see articles here and here ), Motorola has - primarily through acquisitions - been adding to its two legacy businesses a relatively new primary growth vertical: Video Security & Access Control. This new market represents a $22 billion TAM - significantly larger than either of its two traditional businesses (which, in aggregate, equate to a $25 billion TAM).
Also relatively new is that MSI has embraced the SaaS-based model of annual recurring revenue ("ARR"), which is resulting in margin expansion as well as more stable and predictable revenue growth. Put it altogether and MSI is generating strong free-cash-flow, has raised its dividend by double-digits for 5-years running , and as of year-end 2022, had reduced its outstanding share count by 51% since 2011. MSI's growth trajectory is clear and - in my opinion - quite compelling:
Q4 and FY2022 Earnings
Let's dive a little deeper into MSI's Q4 EPS report (a top- and bottom-line beat ) to see just how the company is delivering for shareholders. Highlights of the report included:
- Q4 revenue was $2.7 billion (+17% yoy)
- Q4 GAAP EPS was $3.43 (+49% yoy)
- Free-cash-flow was $1.2 billion (~2x yoy) and 44.4% of revenue.
- GAAP operating margin was 25.6% of sales, up 1.9 percentage points from the year-ago quarter.
For full-year FY2022, revenue of $9.11 billion was +12% yoy, while GAAP earnings of $7.93/share were +11%. Non-GAAP earnings of $10.36/share were up 13% yoy.
The strong Q4 results was led by the Products and Systems Integration Segment, which includes LMR and Video and saw revenue increase 21% yoy.
Order flow continued to be very strong during the quarter, driven by record demand for LMR products:
Going Forward
As I mentioned in my previous Seeking Alpha articles, MSI's strong (and still growing) backlog makes the company relatively recession resistant. MSI ended FY22 with a record backlog of $14.3 billion - up $788 million yoy and more than 1.5x FY22 total sales. The Products and Systems Integrations Segment backlog was +22% ($894 million) driven by those record LMR orders previously discussed. The Software & Services Segment backlog was down 1% or $106 million. The company said the contraction in that segment's backlog was primarily driven by revenue recognition for the Airwave and ESN contracts and $367 million of unfavorable FX-currency rates. Those headwinds were partially offset by growth in multi-year software & services contracts in North America.
MSI's track-record of significantly growing its backlog is a primary and positive investment catalyst going forward. That is especially the case given that growth in the backlog is driven by Software & Services, which is relatively high-margin and supported by MSI's ARR model:
The chart above indicates that MSI is seeing pent-up demand by civil agencies that are increasing spending for system upgrades as the pandemic recedes and local and state tax revenues rise.
Near-term, MSI expects Q1 revenue to grow between 12-13% yoy.
For full-year 2023, MSI expects revenue to come in at $9.65-$9.7 billion and non-GAAP earnings per share in the range of $11.10 to $11.22 per share. The midpoint of guidance (revenue of $9.675 billion and non-GAAP EPS of $11.16/share) implies revenue growth of 6.2% yoy and non-GAAP EPS growth of 7.7% yoy.
Shareholder Returns
For all of 2022, MSI paid $1.2 billion for seven acquisitions; bought back $836 million of common stock (avg. price of $225/share); and paid-out $530 million in dividends. The company also issued $600 million of long-term debt and while repaying $275 million of outstanding long-term debt.
Last November, MSI announced it was raising the quarterly dividend to $0.88/share, up 9 cents (11.4%).
MSI's asset-light business model, combined with its proven strategy to grow both organically and by strategic acquisition, and to allocate capital accordingly, has clearly worked out very well for shareholders:
Risks
In Q4, foreign currency headwinds due to the strong U.S. dollar were $87 million. Given that international sales were 30% of revenue last year, a rising U.S. dollar could have a significant impact on FY23 results.
MSI is not immune to a weakening global economy, the potential for reduced government spending, and increased competition. The LMR business ($7 billion of FY22 revenue) is likely a target by many competitors. Specifically, the LTE network poses a potential threat to MSI's LMR business. However, and as mentioned previously, MSI's LMR devices typically work on proprietary MSI networks that makes customer-switching both an expensive and risky proposition.
The biggest risk for MSI is likely its current valuation: P/E = 32.6x and a forward P/E = 23.5x.
Summary & Conclusions
Yes, MSI is trading at a significant premium to the S&P500 ( P/E = 20.9x ). However, with a very strong and record backlog, its free-cash-flow profile, a relatively recession resistant business model, as well as a clear line-of-sight into continued stock buybacks and double-digit dividend increases, the stock appears to be worth the market premium in my opinion. MSI is a BUY. I am not the only investor who thinks so: after the Q4 report, JPMorgan upgraded MSI to "overweight" with a $305 price-target.
I'll end with a chart comparing the 5-year total returns of MSI to the broad market indexes as represented by the Vanguard S&P 500 ETF ( VOO ) and the Nasdaq-100 ( QQQ ):
For further details see:
Motorola Solutions: Asset-Light Business Model Generating Strong Returns