Debt Keeps Johnson Controls a Hold

We rate Johnson Controls, Inc. (JCI - Analyst Report) a Hold, as anemic demand, high inventory levels and continuous loss of market share at original equipment manufacturers keep plaguing the diversified manufacturer. The company is experiencing weakness in North America, following a general softness in the industry. Although it has a healthy backlog that would drive automotive sales in the long run, launch costs could weigh on near-term results. A weak product mix is also affecting Johnson Controls.

On a positive note, Johnson Controls’ cost reduction efforts, accretive acquisitions, and healthy operating cash flows are driving the stock. We believe the company will further benefit further as it begins to integrate the Delphi Battery business. JCI has a reputation for stronger-than-average growth prospects relative to other automotive suppliers, due to strong market positions it enjoys across its fairly diverse businesses.

Currently, JCI shares trades at about 13.1x our 2008 estimate of $2.51. The company is expected to report higher earnings in the coming years, backed by acquisition benefits and success in overcoming increasing raw material costs and weakening prices. However, it has debt that will take three-to-four years to be repaid. The higher debt levels will raise interest expenses and thereby hurt margins. We set a target price of $35 on the stock, which is 14.0x our 2008 EPS estimate.

Read the full analyst report on JCI