Trimble Navigation Now a Sell

Trimble Navigation Ltd. (TRMB - Snapshot Report) is an OEM [original equipment manufacturer] of GPS-based products and control systems. We like the stock long-term, but one segment has us worried over the next 6 quarters.

The Engineering and Construction (E&C) segment is the largest unit, accounting for 56% of fiscal 2008 revenue. Primary applications include surveying, machine control and construction layout products, which target the building, highway, marine, mining and general construction verticals.

The E&C unit shrunk to 49% of revenue in the last quarter. The revenue share has been declining gradually, as the TFS [Trimble Field Solutions] and TMS [Trimble Mobile Solutions] segments experienced stronger growth. The problems in this business continued in the last quarter, with revenue declining double-digits, both sequentially and year over year.

The Middle East is undergoing temporary softness due to the fall-off in oil revenues. The traditionally strong U.S. and European construction markets experienced unprecedented weakness.

A couple of factors indicate that the weakness could continue. The first is the slower economy, which resulted in weaker demand for new construction products. The second is related to the uncertainty in the credit market. As construction companies are less certain about the availability of funds, they have cut back investment in new contruction equipment.

While a lot of the order pullback may return as revenue, delayed decision making is likely to continue for the next few quarters. Customers depleted inventories in the last quarter in favor of using cash for new equipment.
 
The survey business has benefited from a more consolidated market, geographical expansion and technology replacements. There is considerable operating leverage in this business, so margins show a big improvement when positive seasonality boosts sales (as in the 1st half of the year).

The 2nd half is usually a drop-off from the first. The company is currently penetrating emerging markets with its entry-level products. Despite the temporary margin pressure, management believes that it is just a matter of time before the cost structure could be realigned to match these revenues.

Additionally, the initial capture of market share with entry level products opens up opportunity to sell higher-margin products in the future. Management stated that it was taking share at the lower-end, while maintaining position through its value proposition at the higher-end.

The residential exposure is around 5%, therefore the softness in this market has had a relatively small impact on overall revenue. On the other hand, the company has benefited from stronger residential markets in China, India, Russia, South Africa and Eastern Europe. Management expressed optimism about infrastructure spending in China, which represents a good growth opportunity for the business.

Sejuti Banerjea contributed to this report.