The Zacks Industrial Services industry players have been bearing the brunt of the coronavirus-induced slowdown in the form of supply challenges and weak demand. However, improved manufacturing activities and business sentiment indicates that a recovery is imminent. The surge in coronavirus cases though raises concern.
Nevertheless, rise in e-commerce activities will drive the industry. Technological advancements and the rising use of e-commerce solutions continue to grow at a rapid pace. Siemens AG (SIEGY - Free Report) , W.W. Grainger, Inc.. (GWW - Free Report) , Ashtead Group PLC (ASHTY - Free Report) and SiteOne Landscape Supply, Inc. (SITE - Free Report) are the major industry players, which are making efforts to capitalize on this scenario.
About the Industry
The Zacks Industrial Services industry comprises companies that provide industrial equipment products and MRO (maintenance, repair and operations) services. These items (repair components, cutting fluids, lubricants, safety supplies and other consumables) are utilized in production and plant maintenance but are not directly related to customers’ core products or services. The industry participants serve a wide array of customers including commercial, government, healthcare and manufacturing.
What’s Shaping the Future of Industrial Services Industry
Improving Trend in Manufacturing: Around 70% of the industry’s revenues are derived from sales in the manufacturing sector. Trends in customers’ activity have historically correlated to changes in the Metalworking Business Index (MBI), which is a sentiment index developed from a monthly survey of the U.S. metalworking industry, focusing on durable goods manufacturing. While a value above 50.0 generally indicates expansion, one below 50.0 reflects contraction. Notably, the index has remained steadfastly below 50 over March-August amid disruptions triggered by the COVID-19 pandemic. However, on a positive note, since dropping to 11-year lows in April, the index has been on an upward trajectory and came in at 48.6 in August. Gains were witnessed in production and new orders activity. The improvement in business sentiment and operational activity instills optimism regarding the industry’s recovery from the pandemic induced sluggishness.
COVID-19 Related Woes to Counter: The global spread of COVID-19 has led to significant volatility and uncertainty, and the industrial services industry has been no exception to the trend. The effects of the COVID-19 pandemic to the industry include disruptions or closures of customer and suppliers’ facilities, and supply chains. Meanwhile, the industry players have been taking every action to bolster financial condition, conserve cash and optimize profitability. These companies have been implementing cost reduction actions, which include limiting discretionary spending, temporarily furloughing employees or reducing work hours, delaying salary increases and hiring. They are also scaling back advertising spend, eliminating non-essential travel, and deferring certain discretionary capital expenditures. These initiatives are likely to help the industry sustain margins in the wake of weak demand.
E-Commerce is a Game-Changer: MRO demand has been significantly impacted by evolution of e-commerce. Customers’ demand for highly tailored solutions with real-time access to information and rapid delivery of products is on the rise. Customers basically want to execute their business activities in the most efficient way possible, which often means online. Per Statista, revenues in the e-commerce market are expected to witness a CAGR of 8.2% over the 2020-2024 time period. To capitalize on this trend, the players in the industrial services industry have increased their focus on making investments in e-commerce and digital capabilities.
Zacks Industry Rank Indicates Dismal Prospects
The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates gloomy prospects in the near term. The Zacks Industrial Services Industry, which is a 17-stock group within the broader Zacks Industrial Products Sector, currently carries a Zacks Industry Rank #220, which places it at the bottom 12% of 253 Zacks industries. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.
The industry’s positioning in the bottom 50% of the Zacks-ranked industries is a result of negative earnings outlook for the constituent companies in aggregate. Looking at the aggregate earnings estimate revisions, it appears that analysts are gradually losing confidence in this group’s earnings growth potential. Since the beginning of this year, the industry’s earnings estimates for the current year have gone down 6%.
Our proprietary Heat Map shows that the industry’s rank has remained in the bottom half over the past seven weeks.
Despite bleak near-term prospects of the industry, we will present a few stocks that have the potential to outperform the market based on a strong earnings outlook. But it’s worth taking a look at the industry’s shareholder returns and current valuation first.
Industry Lags Sector & S&P 500
The Industrial Services industry has underperformed its own sector and the Zacks S&P 500 composite over the past year.
Over this period, the industry has gained 5.3% compared with the sector’s growth of 7.2%. Notably, the Zacks S&P 500 composite has rallied 12% in the same timeframe.
One-Year Price Performance
Industrial Services Industry’s Valuation
On the basis of forward 12-month EV/EBITDA ratio, which is a commonly used multiple for valuing Industrial Services companies, we see that the industry is currently trading at 12.47x compared with the S&P 500’s 14.47x and the Industrial Products sector’s forward 12-month EV/EBITDA of 19.88x. This is shown in the charts below.
Enterprise Value/EBITDA (EV/EBITDA) F12M Ratio
Enterprise Value/EBITDA (EV/EBITDA) F12M Ratio
Over the last five years, the industry has traded as high as 13.99x and as low as 7.59x, with the median being at 12.47x.
4 Industrial Services Stocks to Keep an Eye on
Siemens AG: Munich, Germany based Siemens operates in the fields of electrification, automation, and digitalization worldwide. The company also operates in the mobility sector, and healthcare equipment/medical diagnosis. Siemens is gaining on its Vision 2020+ strategy program that is focused accelerating growth and profitability with a simplified and leaner company structure. In sync with this, it plans to complete the spin-off and public listing of Siemens Energy before the end of fiscal 2020. This will materially improve the company’s operational profile. Further, it will gain from efforts to develop business mix toward growth markets, expanding digitalization and Internet of Things (IoT) portfolio, and initiatives to outpace mobility markets. Cost saving actions, operational excellence and stringent project execution will also aid margins.
The Zacks Ranked #2 (Buy) stock has gained 29.8% over a year’s time. The Zacks Consensus Estimate for the company’s 2020 earnings has been revised upward by 14% in the past 60 days.
SiteOne Landscape Supply: The company is a national wholesale distributor of landscape supplies in the United States and has a growing presence in Canada. It will gain on the ongoing strength in residential repair & upgrade demand where stay-at-home orders are compelling homeowners to invest in their outdoor living spaces. Growth across the business combined with effective cost management and successful acquisitions position the company well for growth. Continued strength in repair & upgrade and steady maintenance demand also bode well. The company also remains focused on its e-commerce initiatives, including the relaunch of its website and the implementation of a B2B e-Commerce platform.
The Zacks Consensus Estimate for earnings for fiscal 2020 of this Roswell, GA-based company has gone up 26% in the past 60 days. The company has also gained 45.5% over the past year. It currently carries a Zacks Rank #2. You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.
Grainger: Grainger is a broad line, business-to-business distributor of MRO supplies and other related products and services to around 3.5 million businesses and institutions globally. The Lake Forest, IL-based company is well poised to gain from efforts to increase customer base through incremental marketing investments and effective marketing strategies. Investments in e-commerce and digital capabilities will also bear fruit. In 2019, online channels accounted for 64% of Grainger’s revenues, making it the 11th largest e-retailer in North America, according to Internet Retailer. Surge of COVID-19 pandemic related product sales such as personal protective equipment (PPE) and safety products will drive its top line, while cost control measures undertaken by the company will sustain margins.
Notably, Grainger has gained 19.8% over the past year. This Zacks Ranked #3 (Hold) stock has an estimated long-term earnings growth rate of 9.60%. The company’s consensus estimate for 2020 earnings has witnessed upward revision of 7% in the past 60 days.
Ashtead Group: This London, U.K. based company engages in the construction, industrial, and general equipment rental business. It offers a broad range of construction and industrial equipment across a wide variety of applications to a diverse customer base. The company is well poised to deliver strong results backed by its diverse end markets and products, lower debt levels, and efforts to strengthen market position. Moreover, the company’s initiatives to optimize cash flow, reduce capital expenditure and operating costs are likely to yield results. Backed by a good quality fleet and a strong financial position, the company is well positioned to navigate through the turbulent times. The company also continued to invest in its digital transformation program that will enhance customer experience.
The Zacks Consensus Estimate for 2020 earnings has been revised upward by 3% in the past 60 days. The stock has gained 29.7% over the past year. It has a Zacks Rank #3.