ITT: Actively realigning portfolio to maintain solid positioning

At the end of 2023 I thought that the stocks ITT (NYSE:ITT) looked more than fairly valued after a big re-rating in a year. The stock is up about 50% in 2023 alone, leaving the stock more than fully valued after a long history restructuring and spin-offs.

So far in 2024, the stock has posted decent gains of 10%, although this earnings have been roughly double that percentage in recent weeks, in fact in recent trading days, as ITT continues to show sustained growth. While that justifies a small market premium, I don’t see much risk-reward here, even as the company actively shuffles its product portfolio to improve and maintain its growth position.

ITT – A Turbulent History

ITT has a long and turbulent history that includes many chapters of M&A activity, restructuring efforts and spin-offs. The $10 billion company in the late 2000s it was restructured and in the 2010s it was valued at just $2 billion.

Since these lower sales, the company has steadily increased sales from about $2 billion to more than $3 billion, and operating margins have increased from about 10% to 15% of sales, supplemented by share repurchases.

By 2023, the company increased sales to $3.3 billion, generated by manufacturing and selling highly engineered, critical components and customized technology solutions. About 45% of sales are classified as motion technologies, one third as industrial processes, and just over one fifth as connection and control technologies.

The most important target markets are automotive and rail, chemicals, industrial pumps, aerospace and defense, industrial applications and energy. The business is very well diversified worldwide, with about 40% of sales generated in North America, one third in Europe and the remainder in other important geographies.

Elevating History

The company has really taken off in late 2023. At the time, the company was on track to generate $3.3 billion in sales in 2023, with adjusted earnings of just over $5 per share. The $119 share was trading at 23-24 times earnings, while the balance sheet revealed a fairly modest net debt load following the announcement of a $395 million deal with Denmark’s Svanehoj Group A/S.

While the operating momentum was impressive, I was aware of the momentum evident in the share price, with the stock up about 50% by 2023, raising expectations from about 17-18 times earnings to about 23 times earnings, making it relatively easy for me to stay on the sidelines at $119/share.

Half a year later, the stock traded mostly in a price range of $115-$150, falling to $130 per share amid volatility seen in early August.

The momentum continues

In February, ITT reported fiscal 2023 results, with revenue up nearly 10% to $3.28 billion. GAAP operating income of $528 million was also solid, with margins at about 16% of sales. GAAP income of $410 million translated to GAAP earnings of $4.96 per share, based on a diluted share count of 83 million, with adjusted earnings reported at $5.21 per share.

The company provided solid guidance for 2024, predicting total sales growth of 9%-12%, with acquisitions contributing about 6% of growth. Earnings will increase about 9% (at the midpoint) to $5.45-$5.90 per share.

In May, the company started the year strong with a compelling first-quarter performance. Revenue rose 14% (9% of which was organic) and adjusted earnings per share rose 21% to $1.42 per share. The company then raised the low end of its earnings guidance by twenty cents to $5.65-$5.90 per share.

In early August, ITT reported a 9% increase in second-quarter sales to $906 million, and adjusted earnings rose 12% to $1.49 per share. After that solid but slightly weaker quarter, the company maintained full-year guidance across the board, despite the Wolverine investment, with an estimated dilutive effect of $0.15 per share. I’ll expand on that in more detail below.

Moving parts

In addition to the second-quarter earnings report, ITT has undergone some changes to its portfolio. In July, the company shed its Wolverine automotive components business, part of its motion business, in a deal valued at $171 million. Since that deal will result in about $0.15 per share of dilution, that suggests about $12 million of dilution in real dollars, and that’s just for part of the year.

At the same time, the company announced the acquisition of kSARIA, a provider of engineering and mission-critical connectivity services for the aerospace and defense market. This deal is significantly larger, with ITT paying $475 million to acquire the assets.

These assets will contribute approximately $175 million to sales, at a sales multiple of 2.7. With net debt remaining at $122 million in the second quarter, the cumulative impact of both transactions means that net debt will increase to $425 million. That is still very modest, with EBITDA expected to be $637 million in 2023, a number that is likely to increase in 2024. Nevertheless, it seems obvious that the company is selling some assets at a low price while buying other, more expensive assets, all in order to improve its product portfolio.

The stock, which is trading at $130, is up almost ten per cent since the end of 2023, but this is against the backdrop of further growth in 2024 guidance, as the stock is currently trading at a similar 22-23 times earnings multiple, while leverage remains very modest and, to be fair, earnings remain solid.

Last word

It is true that ITT so far sees a decent 2024 after an already solid 2023. What’s more, the company continues to actively reorganize its portfolio, with sell-offs and investments improving the company’s growth profile.

The stock is now trading at a similar 23x multiple to what we saw at the end of 2023, so valuations remain stretched at a modest premium that is still supported by solid underlying performance to date. However, there is no great risk/reward here yet, although I am impressed with the continued performance and eager to see how it develops.