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On Sep 26, 2013, we initiated our coverage on Xylem Inc. (XYL - Analyst Report) with an Underperform recommendation. White Plains, N.Y.-based Xylem engages in the sales and distribution of products like pumps, valves, heat exchangers, waste systems and membrane filtration products through direct sales force as well as independent channel partners.

Why Underperform?

Xylem has been suffering from declining demand in the European markets in the past few quarters. In the second quarter of 2013, the demand deterioration in Europe pulled down the revenues for transport, treatment and test products. The company sees little scope for improvement in the demand trend.

The overseas operations of the company expose it to various risks including foreign currency exchange and geo-political risks. Foreign currency transactions have not been in Xylem’s favor. In the last reported quarter, the appreciation of the U.S. dollar and Swedish krona against other currencies pulled down the revenues and earnings by $14 million and $3 million, respectively. As the company plans to accelerate its international operations, the risks associated with it are bound to hamper earnings.

Additionally, the competitive nature of the industry compels Xylem to keep investing in research and development to stay ahead, thereby increasing its costs. Keeping the above factors in view, Xylem has reduced its revenue expectation for 2013 to roughly $3.7 billion as against the previous estimate of $3.9 billion. The company also believes that the Industrial and Public Utility end markets will be down year over year in 2013.

The Zacks Consensus Estimate for 2013 has dropped 21.4% in the last 60 days to $1.43 per share and for 2014 the estimate declined 18.8% during the same time frame to $1.69 per share.

Other Stocks to Consider

Other stocks worth a watch in the industry include The Middleby Corporation (MIDD - Analyst Report), Altra Holdings, Inc. (AIMC - Snapshot Report) and Dover Corporation (DOV - Analyst Report). While Middleby carries a Zacks Rank #1 (Strong Buy), Altra Holdings and Dover Corp. carry a Zacks Rank #2 (Buy).

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