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3 Engineering R&D Services Stocks to Buy Despite Industry Challenges

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Supply-chain constraints and input cost headwinds are taking a toll on the Zacks Engineering – R&D Services industry. Labor constraints are making things worse. Nonetheless, the U.S. administration’s major focus on infrastructural enhancement has been creating the need for advanced construction and engineering solutions. Also, the companies’ shift toward digital transformation, mergers & acquisitions as well as operational efficiencies should lend support to the industry. Increasing investments in the decarbonization of energy efficiency and energy transition projects also appear to be growth drivers. Consistent focus on enhancing the infrastructure of the country’s defense, healthcare, communication and renewable energy is encouraging for prominent industry players like Howmet Aerospace Inc. (HWM - Free Report) , KBR, Inc. (KBR - Free Report) and ChampionX Corporation (CHX - Free Report) .

Industry Description

The Zacks Engineering – R&D Services industry primarily consists of engineering and infrastructure service providers. The companies basically provide construction, technical, engineering and professional services to a number of industries worldwide, including oil and gas, chemical and petrochemicals, transportation, mining and metals, power, agriculture, consumer applications as well as manufacturing. The companies also make engineered power transmission and fluid power solutions as well as chemistry solutions along with engineered equipment and technologies for oil and gas companies worldwide.

3 Trends Shaping the Future of Engineering - R&D Services Industry

Focus on Defense, Healthcare, Communication & Renewable Energy: The federal government’s investment in defense and cyber security is conducive to the industry’s growth. Owing to the sensitivity of their jobs, the Departments of Defense and Homeland Security have the maximum budgets for cyber security among the government agencies. Also, increasing public investments in transportation, water infrastructure, utility plants and the healthcare market are anticipated to be conducive to the industry’s growth. Additionally, the infrastructure services business of the industry players continues to thrive, supported by robust demand from the communications industry.

The companies are well-positioned to gain from the renewable energy drive of the pro-environmental Biden administration. Development and deployment of technology solutions across the full spectrum of decarbonization efforts, including carbon management mitigation and compliance consulting, as well as all facets of infrastructure for providing carbon-free energy solutions, should benefit the companies going forward. Also, the players are gaining from the rising global demand for alternative nuclear energy as they provide engineering, procurement, construction and maintenance services to nuclear power plants.

Need for State-Of-The-Art Services: Increasing construction activities in U.S. government projects, which require state-of-the-art construction and engineering services, are expected to benefit the construction and engineering services industry. Also, the rapid usage of advanced technologies to deliver smart buildings and mega-projects while identifying and checking margin contraction and costs are expected to be a major tailwind for the industry participants.

Supply-Chain Disruptions, Labor Shortage, Uncertain Economic Conditions & Competition: The companies continue to face high input costs and labor constraints. Apart from this, supply-chain disruption is a major botheration. As the impact of the coronavirus outbreak continues, uncertain global economic conditions may put pressure on the demand for services provided by the industry players. Meanwhile, the companies face intense competition in the global engineering, procurement and construction industry, hurting their contract prices and profit margins. Volatility in commodity prices and the cyclical nature of the industry’s commodity-based business lines pose significant challenges too.

Zacks Industry Rank Indicates Dull Prospects

The Zacks Engineering – R&D Services industry is a 21-stock group within the broader Zacks Construction sector. The industry currently carries a Zacks Industry Rank #158, which places it at the bottom 37% of more than 250 Zacks industries.

The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates gloomy near-term prospects. Our research shows that the top 50% of the Zacks-ranked industries outperform 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 tepid 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 bottom-line growth potential. Since May 2022, the industry’s earnings estimates for 2022 have been revised 8.9% downward.

Despite the industry’s dreary near-term view, we will present a few stocks that one may consider adding to their portfolio. Before that, it’s worth taking a look at the industry’s shareholder returns and current valuation.

Industry Outperforms Sector, S&P 500

The Zacks Engineering – R&D Services industry has performed better than the Zacks Construction sector and the Zacks S&P 500 composite over the past year.

Over this period, the industry has lost 3.6% versus the sector’s 18.3% decline. Meanwhile, the S&P 500 has declined 11.3% in the said period.

One-Year Price Performance

Industry's Current Valuation

On the basis of the forward 12-month price-to-earnings ratio, which is a commonly used multiple for valuing Engineering – R&D Services stocks, the industry is currently trading at 17.4 versus the S&P 500’s 16.7 and the sector’s 10.3.

Over the past five years, the industry has traded as high as 25.3X, as low as 10.8X and at a median of 16.2X, as the chart below shows.

Industry’s P/E Ratio (Forward 12-Month) Versus S&P 500

3 Engineering - R&D Services Stocks to Buy Now

Below, we have discussed three stocks from the industry that have solid growth potential. The chosen companies currently carry a Zacks Rank #2 (Buy). You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

Howmet Aerospace: Based in Pittsburgh, PA, this company is a global manufacturer of engineered products serving the aerospace, defense and commercial transportation industries. The company is expected to benefit from more aircraft production rates, and an easing of supply chain in the transportation market. Importantly, share gains in the titanium aerospace market are expected to act as a major tailwind to growth. Western sanctions of Russian-owned businesses like VSMPO provide a great opportunity for HWM as it is one of three major alternative suppliers for aerospace-grade titanium products.

HWM’s earnings for 2022 and 2023 are expected to grow 39.6% and 29.5%, respectively. This Zacks Rank #2 stock has gained 2.8% year to date (YTD), faring better than the industry’s 6.3% decline. HWM has seen a 0.7% upward estimate revision for 2022 earnings over the past 60 days, depicting analysts’ optimism over its prospects.

Price & Consensus: HWM

ChampionX: Based in The Woodlands, TX, this company offers chemistry solutions, and engineered equipment and technologies to oil and gas companies worldwide. The company is close to its two-year anniversary of transformational merger, Apergy Corporation and ChampionX Holding Inc. (the former upstream energy business of Ecolab Inc.). The combined entity has a resilient organization with a broad geographic footprint, high-quality customer base, and significant recurring revenues. It has been delivering merger integration synergies and delivered the targeted annualized cost synergies of $125 million exiting the first-quarter 2022, much earlier than its original aim of within 24 months of the merger closing. Also, the company has been successfully implementing price increases and surcharges to offset cost inflation. Moreover, CHK remains optimistic about the constructive demand tailwinds in its businesses that support a favorable multi-year outlook for the sector. The positive market fundamentals, along with solid top-line growth and pricing improvements, bode well for meaningful margin expansion and solid cash generation for the full year and beyond.

CHX’s earnings for 2022 and 2023 are expected to grow 91.7% and 45.2%, respectively. This Zacks Rank #2 stock has lost 5.7% YTD, faring better than the industry’s 6.3% decline. CHX has seen a 0.9% upward estimate revision for 2022 earnings over the past 60 days.

Price & Consensus: CHX

KBR: Headquartered in Houston, TX, this company provides professional services and technologies across the asset and program life-cycle within government services and hydrocarbons industries worldwide. Its mission-critical government services, high-end and differentiated government business work, strong margin performance, and proprietary technology solutions, along with a significant increase in backlog (particularly in Government Solution), are expected to boost earnings this year and beyond.

KBR’s stock has gained 1.8% YTD. The company’s 2022 and 2023 earnings are likely to grow 7.9% and 20.3%, respectively. This Zacks Rank #2 company has seen a 0.4% upward estimate revision for 2022 earnings over the past 60 days.

Price & Consensus: KBR

In-Depth Zacks Research for the Tickers Above

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KBR, Inc. (KBR) - free report >>

Howmet Aerospace Inc. (HWM) - free report >>

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