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ABB Gains From Buyouts & Tactical Moves Despite High Costs

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We issued a research report on ABB Ltd. (ABB - Free Report) on Oct 1.

This power and automation technology provider currently has approximately $50 billion market capitalization.
Few growth drivers and certain headwinds, which might influence ABB, have been discussed below.

Factors Favoring ABB

Financial Performance & Earnings Outlook: ABB pulled off an average positive earnings surprise of 12.03% for the last four quarters. This includes the impact of 2.78% earnings beat recorded in the second quarter of 2018. Further, in the reported quarter, the company’s bottom line grew 28% year over year on the back of sales growth and productivity-enhancement initiatives.

Over the long term, the company anticipates strengthening businesses in three major markets — utilities, industry, and transport & infrastructure — to be a boon. In the utility market, ABB projects that customers will invest handsomely in transmission and distribution projects, and renewable sources like solar, and wind.

Per our estimates, ABB’s earnings are projected to grow 6.8% in the next three to five years.

In the near term, the company predicts solid prospects of the global economy, favorable operating conditions in the United States and Europe, and solidifying businesses in China to be advantageous.

Tactical initiatives: With an aim to improve organic growth, augmenting competitiveness and minimizing risks, ABB continued with the third level of its "Next Level Strategy". The third and ongoing level gives importance to growth, relentless execution and business-led collaboration strategies.

It’s worth noting here that growing acceptance of the ABB Ability solutions underpins the company’s profitable growth strategy. Further, ABB’s productivity-enhancement initiatives and cost-saving actions have been yielding benefits under the relentless execution strategy while important partnerships underpin its business-led collaboration strategy.

Strengthening Portfolio Through Buyouts: Over time, ABB has easily penetrated into unexplored markets, added products to the portfolio and expanded geographical footprints, with the help of acquired assets.

In July 2017, ABB completed the acquisition of B&R (Bernecker + Rainer Industrie-Elektronik GmbH). In July 2018, it added GE Industrial Solutions to its portfolio. This buyout is anticipated to strengthen the company’s Electrification Products segment. In September 2018, it concluded the acquisition of AB Rotech. This buyout will expand ABB’s innovative robotics solution portfolio, particularly in Turkey and south-eastern Europe.
Factors Working Against ABB

Forex Woes, Weak Top-line Outlook: Geographical diversification is reflective of a flourishing business of ABB. Significant portfolio of the company’s revenues is generated from business operations in Europe, Asia, the Middle East and Africa. However, this diversity has exposed it to headwinds, arising from geopolitical issues and unfavorable movements in foreign currencies. The company believes that geopolitical tensions might influence its businesses in the months ahead.

Surging Costs: ABB is grappling with adverse impacts of rising cost of sales. In the first half of 2018, the cost of sales increased 3.1% over the year-ago tally, including the impact of 5.1% increase registered in the second quarter. Hike in commodity prices had an adverse $35-million impact in the company’s profitability.

We believe that increase in prices of raw materials — including steel, copper, aluminum and oil — might be impacted due to unforeseen changes in supply and demand, and a variety of external factors. Such adverse impacts can inflate the cost of sales and be detrimental to margins and profitability.

Other Headwinds: Though acquisitions added to ABB’s product portfolio and strengthened its businesses, it also exposed the company to integration issues. Any failure to successfully integrate acquired assets can cause the company to incur losses. Further, buyouts require huge funds, which are raised through borrowings many a time. Further, frequent buyouts can be distraction to the company’s management in carrying out their daily work.

Moreover, the industry, in which the company operates, has other players operating and posing serious competitive threats to ABB. These include ESCO Technologies Inc. (ESE - Free Report) , Ideal Power Inc. (IPWR - Free Report) and SPX Flow, Inc. (FLOW - Free Report) .

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