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Engineering R&D Services Industry's Near-Term Outlook Dismal

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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 and manufacturing.

Let’s take a look at the industry’s three major themes:

  • The industry is poised to benefit from rising construction activities in the United States that require state-of-the-art construction and engineering services. The Trump administration’s push to boost infrastructure spending is another vital growth catalyst for the industry. Also, the industry is poised to gain from the rapid usage of advanced technologies to deliver smart buildings and mega projects, while identifying and addressing diminishing margins. These technologies have been helping firms achieve operational efficiencies, thereby reducing costs while improving margins.
     
  • The Trump administration’s investment in defense and cyber security is conducive to the industry’s growth. The players are also gaining from rising global demand for alternative nuclear energy, as they provide engineering, procurement, construction and maintenance services to nuclear power plants. Meanwhile, increasing public investments in transportation, water infrastructure, utility plant and healthcare market are anticipated to drive the industry’s growth. Chemical derivative and refining opportunities, both domestic and international, along with upstream and LNG opportunities should also drive growth.
     
  • However, a tight labor market, trade-war driven rise in raw material costs, rising freight expenses, volatility in commodity prices and the cyclical nature of the industry’s commodity-based business lines pose significant challenges. Again, significant cost overruns (as prices of several companies’ contracts are fixed) have been hurting the bottom line of some of the companies. Increasing competition is another dampener. The industry faces intense competition in the global engineering, procurement and construction industry, which is detrimental to the companies’ contract prices and profit margins.


Zacks Industry Rank Indicates Dull Prospects

The Zacks Engineering – R&D Services industry is a 16-stock group within the broader Zacks Construction sector. The industry currently carries a Zacks Industry Rank #163, which places it at the bottom 35% 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 dismal near-term prospects. 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 position in the bottom 35% 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 October 2018, the industry’s earnings estimate for the current year has gone down by approximately 8.8%.

Despite the industry’s gloomy near-term view, we will present a few stocks that one can hold on to. Before that, it’s worth taking a look at the industry’s shareholder returns and current valuation.

Industry Underperforms S&P 500, Outperforms Sector

The Zacks Engineering – R&D Services industry has lagged theZacks S&P 500 composite but outperformed the broader Zacks Construction sector over the past year.

Over this period, the industry has gained 5.1% versus the broader sector’s decline of 4.8%. Meanwhile, the S&P 500 has gained 8.1%.

One-Year Price Performance

 
 
Industry’s Current Valuation

On the basis of forward 12-month price-to-earnings ratio, which is a commonly used multiple for valuing building products stocks, the industry is currently trading at 13.2X versus the S&P 500’s 17.2X and the sector’s 14.2X.

Over the past five years, the industry has traded as high as 16.9X, as low as 9.9X and at the median of 13X, as the chart below shows.

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

 

Bottom Line

A major boost in infrastructural and construction spending should continue to favor the industry’s performance. Advanced construction and engineering services along with prudent cost management practices should provide support. However, rising transportation and raw material costs are pressing concerns.

Below we present four stocks from the Zacks Engineering – R&D Services space that carry a Zacks Rank #1 (Strong Buy) or 2 (Buy). Investors might also prefer holding another stock that have impressive growth prospects.You can see the complete list of today’s Zacks #1 Rank stocks here.

Jacobs Engineering Group Inc. (JEC - Free Report) : This Dallas, TX-based technical and construction service provider currently sports a Zacks Rank #1.The consensus EPS estimate for this company has increased 0.6% to $5.30 for the current year, over the last 30 days.

Price & Consensus: JEC


AECOM (ACM - Free Report) : This Los Angeles, CA based company engages in designing, building, financing, and operating infrastructure assets worldwide. The stock carries a Zacks Rank #2 and its EPS estimates for the current year have witnessed upward revision of 0.7% in the past 30 days.

Price & Consensus: ACM



KBR, Inc. (KBR - Free Report) : The Houston-TX based company carries a Zacks Rank #2. The consensus EPS estimate for this global engineering, construction and services firm has a three-five expected EPS growth rate of 9%.

Price & Consensus: KBR



Quanta Services, Inc. (PWR - Free Report) : This Houston, TX-based company provides specialty contracting services to the electric power, communication, and oil and gas industries in the United States, Canada, Australia, Latin America and internationally. It has an expected earnings growth rate of 25.3% for the current year. The consensus EPS estimate for this Zacks Rank #2 company has remained stable, over the last 30 days.

Price & Consensus: PWR



Altair Engineering Inc. (ALTR - Free Report) : This Michigan-based company provides enterprise-class engineering software worldwide and carries a Zacks Rank #3 (Hold). The consensus EPS estimate for the company has increased 14.9% for the current year, over the last 90 days. The expected earnings growth rate for the current year is 31.7%.

Price & Consensus: ALTR



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