United Technologies – Description:
United Technologies Corporation (UTX) provides high-technology products and services to the building systems and aerospace industries worldwide. The US-based conglomerate generates revenues in the region of USD 62 billion per annum, and operates through the following segments: UTC Building and Industrial Systems (which includes Otis and UTC Climate, Controls & Security), Sikorsky, UTC Propulsion and Aerospace Systems (which includes Pratt & Whitney and UTC Aerospace Systems).
At the beginning of this year, the company announced that it made some substantial disinvestments in the Pratt & Whitney segment, i.e. it sold the Power Systems unit to Mitsubishi Heavy Industries and the Rocketdyne section to GenCorp.
Investment case:
> An excellent growth profile with coupled with a sound financial leverage!
UTX operates in a business class with limited competition. Wherever it establishes a strong foothold, its customers tend to form long-standing relationships with the company. This is particularly true for Otis elevators and the aerospace businesses where the switching costs for customers are often prohibitive.
UTX delivers strong cash flows which the company very wisely uses for R&D and repayments to investors. The R&D division of Pratt & Whitney has recently released a newer version of its turbofan engine. This newly engineered aircraft engine will enable the company to successfully enter into competition against such companies as General Electric and Rolls-Royce. UTX’s new technology was adopted by Airbus (for its A320neo series) and by Bombardier (for its CSeries). And as a result, the declining number of total flight hours made with UTX’s engines is expected to reverse. The market expects an increase of up to 7% for the newly available engine models.
About 20% of UTX’s revenues depend directly on the US Department of Defense, and it’s presently involved in three major DoD programs: a) the Joint Strike Fighter, b) Sikorsky’s Black Hawk program, and c) the refuelling tanker program with Boeing. The critical point here, however, is that the incremental margins and revenue growth on these projects are below the company’s average.
In the coming quarters, UTX should benefit from the renewed construction activities taking place in North America; already in the last quarter its order intake grew by 8%. The company’s exposure to the commercial construction business in North America drives about 20% of its revenues, with 15% of its revenues stemming from residential construction.
UTX has a highly consistent track record of EPS growth (long-term average 5%) based on the durability of its brands and trademarks. While these results may not be as ostentatious as others’, UTXs products will always be needed and heavily relied on, and therefore an important factor in sustaining value already exists. Furthermore, management has shown its strong commitment to shareholder value – historically about 70% of free cash flow was returned to investors.
In 2014, the EPS is expected to reach USD 6.85 (up by 10.3%), most of which will be driven by organic efforts. The increased activity in North America is expected to offset turnover declines in other regions such as Europe and Asia.
Strengths and weaknesses analysis / Fundamental analysis:
Strengths:
- UTX has a strong portfolio of reputable brand names such as Otis, Carrier, Pratt & Whitney. The business is well protected with natural barriers to entry e.g. expertise and technology,
- About 80% of UTX’s business is conducted in developed markets with recurring contracts,
- Some divisions still run below peak capacity, so improvements can still be made,
- The best-case scenario, based on a higher organic growth ratio and a higher share repurchase program, would result in an EPS in the range of USD 8.20 – 8.40 in 2015,
- The company possesses a superior growth profile, further upside to already attractive margin levels and a sound financial flexibility.
Weaknesses:
- 20% of UTX’s business is exposed to the declining defence market,
- A further decline in EM order intakes, could bring the operating margin down to around 15% to 16%,
- The market penetration potential of the turbofan engine is either overestimated, or the company will not be able to handle such volumes appropriately,
- The decline in construction volume in China has resulted in a 7% revenue decline for UTX.
Company profile, investment opportunity and asset management integration:
| Metric | Rating |
| Operational risks: | Below average |
| Expected growth: | Above average |
| Long term value creation: | Average |
| Positive competitive advantage: | Above average |
| Management excellence: | Average |
| Financial strength: | Average |
| Investment orientation: | Group “Best-in-Class”: Industrials, |
Price ranges:
| Buy: | Only forcustomers |
| Sell | Only forcustomers |
| Stop-loss: | Only forcustomers |
| Fair-value: | Only forcustomers |