Summary
- Tennant Company has faced a weakening of sales, profits, and cash flows so far this year thanks to inflationary pressures and foreign currency fluctuations.
- This may cause some investors to be concerned, but actual organic growth from the company is encouraging and it should fare well long term.
- Add on top of this how affordable shares look, and the company does make for a decent prospect moving forward.
As the population of the world and most countries individually has grown, the need for facilities in order for us to live and conduct our daily business has certainly grown. Naturally, this would mean that the need to clean said facilities and maintain them would also increase over time. Given these factors, it should come as no surprise that there would be a large market dedicated to providing products and services geared toward such activities. One firm at the top of the list that deserves some attention in this space is Tennant Company ( TNC ), an enterprise that produces mechanized cleaning equipment for industrial and commercial use. They also offer other related activities like financing, rental and leasing programs, and more. Recently, the company has hit something of a soft spot from a revenue and profitability perspective. This may cause investors to be concerned in the near term. But when you factor in how affordable shares are, with the stock looking more or less fairly valued compared to similar companies but looking cheap on an absolute basis, I do think it still warrants a soft 'buy' rating at this time.
Cleaning up nicely
Back in the middle of September of this year, I took a stab at analyzing Tennant Company to see whether or not it offered investors attractive prospects. In that article , I talked about how the company had recovered from the pandemic. Even though the company was doing nicely compared to what it had been doing previously, I did point out that some of its results were rather mixed. Even so, I remained encouraged by the guidance management had offered, and I concluded that shares in the enterprise were cheap enough to warrant some upside potential. This ultimately led me to rate the company a 'buy' to reflect my view that shares should outperform the broader market for the foreseeable future. In the months since then, the company has done just that, but not necessarily to a significant degree. While the S&P 500 is up by 2.2%, shares of Tennant Company have generated upside of 4.2%.
What's really interesting about this is that, when a company does outperform the broader market, you expect it to be because of robust financial performance. But that hasn't exactly been the case here. Consider how the company fared during the third quarter of its 2022 fiscal year. This is the only quarter for which new data is available that was not available when I last wrote about it. During that time, sales came in at $262.9 million. That's down from the $272 million the business reported the same time last year. According to management, this decrease in sales is a bit deceptive. Actual organic sales for the company managed to rise 1.7% year over year. This was driven by the impact of higher selling prices across all the regions in which the company operates. The firm did experience a volume decline in its offerings, though, driven by supply chain constraints that impacted the availability of certain component parts. So it stands to reason that, absent these supply chain problems, organic growth would have been even more robust. The decline in sales, then, was driven by a 5% impact caused by foreign currency fluctuations.
As revenue fell, so too did profitability. Net income in the latest quarter totaled $15.6 million. That compares to the $21.5 million reported the same time last year. A big portion of this decline can be chalked up to the company's gross profit margin falling from 40.1% to 38.3%. This hit, according to management, was driven by multiple factors, including inflationary pressure on materials, labor, and freight costs. Inflation alone impacted results in the third quarter to the tune of $2.1 million. Naturally, other profit metrics worsened as well. Operating cash flow, for instance, dropped from $25.1 million to $15.2 million. If we adjust for changes in working capital, it would have fallen from $30.1 million to $26.7 million. And finally, EBITDA for the company also worsened, dropping from $36 million to $33.8 million.
As you can see in the chart above, the results experienced in the third quarter this year were not a one-time thing. For the first nine months of 2022 as a whole, the picture has looked much the same. Revenue fell from $814.4 million to $801.2 million. Profits also declined, dropping from $57 million to $42.5 million. During this time, we saw operating cash flow plunge from $62.9 million to negative $38.8 million. On an adjusted basis, the picture wasn't quite so bad. Year over year, the metric fell from $97.6 million to $74.2 million. A similar decline can be seen when looking at EBITDA, with the metric dropping from $97.6 million to $74.2 million.
Based on how the 2022 fiscal year has looked so far, it's likely that the year as a whole will end up worse than what the company saw last year. Based on management's own guidance , sales should be between $1.08 billion and $1.11 billion. This should translate to earnings per share of between $3.20 and $3.60. At the midpoint, this earnings figure would translate to net income of $63.6 million. The company also provided guidance for EBITDA, with the metric expected to be between $130 million and $140 million. No guidance was given when it came to other profitability metrics. But if we assume that adjusted operating cash flow will change at the same rate that EBITDA is forecasted to, then we should anticipate a reading for that this year of $113.4 million.
Using these figures, it's easy to value the company. On a forward price-to-earnings basis, the company is trading at a multiple of 18.3. This compares to the 17.9 reading that we get using data from 2021. The forward price to adjusted operating cash flow multiple should be 10.2, up from 9.8 using data from last year. And the EV to EBITDA multiple should climb from 9.9 using data from 2021 to 10.3 on a forward basis this year. As part of my analysis, I also compared the company to five similar firms. On a price-to-earnings basis, these companies ranged from a low of 5.7 to a high of 92.4. This means that two of the five companies are cheaper than our prospect. That same ranking applies when using the price to operating cash flow approach, with a range of between 5.7 and 41.5. And finally, using the EV to EBITDA approach, the range should be between 3.6 and 28. In this scenario, three of the five companies are cheaper than our target.
Company | Price/Earnings | Price/Operating Cash Flow | EV/EBITDA |
Tennant Company | 18.3 | 10.2 | 10.3 |
Mueller Industries ( MLI ) | 5.7 | 5.7 | 3.6 |
SPX Technologies ( SPXC ) | 89.7 | 41.5 | 28.0 |
Mayville Engineering Co. ( MEC ) | 92.4 | 7.6 | 9.4 |
The Timken Co. ( TKR ) | 14.2 | 16.3 | 9.0 |
Parker-Hannifin ( PH ) | 30.1 | 15.2 | 20.8 |
Takeaway
With what data we have at our disposal today, I can confidently say that 2022 is looking to be something of a wash for the company. It's not unthinkable, given current economic issues, that bottom line pain could persist through much of next year. At the same time, though, shares of the company look to be more or less fairly valued compared to similar firms. But on an absolute basis, they definitely look affordable. I wouldn't exactly call this a home run prospect by any means. But for investors who want an interesting company that should perform reasonably well in the long run, this makes for a decent prospect at this time.
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Tennant Company Can Still Move Higher Despite Recent Weakness