The Zacks Industrial Services industry comprises companies that provide industrial equipment products and MRO (maintenance, repair and operations) services. These items (repair components, cutting fluids, lubricants, safety supplies and other consumables) are utilized in production and plant maintenance but are not directly related to customers’ core products or services. The industry serves a wide array of customers, ranging from commercial, government, healthcare to manufacturing.
Let us take a look at the industry’s three major themes:
- The industry is bearing the brunt of inflation, especially with regard to metal-based products. This can primarily be attributed to the U.S.-China-induced trade tariffs, which has led to higher costs of raw material and lower business spending. Distributors continue to pass along higher prices to customers. However, it may not always be possible or adequate to cover rising product inflation in an intensely competitive environment. Consequently, the industry participants have been focusing on reducing cost structure to maintain margins.
- In the United States, business investment and exports are two major indicators of MRO spending. Business inventory is expected to improve while business investment, industrial production, exports and GDP are anticipated to weaken as a result of slowing global growth, trade tensions and associated uncertainty.
- The global MRO market is approximately $608 billion and MRO demand has been significantly impacted by evolution of e-commerce. For instance, W.W. Grainger, Inc. (GWW), one of the notable stocks in the industry under review, is focused on capitalizing on this trend by making investments in e-commerce and digital capabilities. In 2018, online channels generated around 62% of its revenues in the United States.
Zacks Industry Rank Indicates Dismal Prospects
The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates gloomy prospects in the near term. The Zacks Industrial Services Industry, which is a 16-stock group within the broader Zacks Industrial Products Sector, currently carries a Zacks Industry Rank #248, which places it at the bottom 3% of 256 Zacks industries. 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 positioning in the bottom 50% 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 the beginning of the year, the industry’s earnings estimate for the current year has gone down 1%.
Our proprietary Heat Map shows that the industry’s rank has remained in the top half over the past seven weeks.
Despite bleak near-term prospects of the industry, we will present a few stocks that have the potential to outperform the market based on a strong earnings outlook. But it’s worth taking a look at the industry’s shareholder returns and current valuation first.
Industry Lags Sector & S&P 500
The Industrial Services industry has underperformed its own sector and the Zacks S&P 500 composite over the past year.
Over this period, the industry has fallen 23.8% compared with the sector’s decline of 15.5%. Meanwhile, the Zacks S&P 500 composite has gone down 3.0%.
One-Year Price Performance
Industrial Services Industry’s Valuation
On the basis of trailing 12-month EV/EBITDA ratio, which is a commonly used multiple for valuing Industrial Services companies, we see that the industry is currently trading at 8.9x compared with the S&P 500’s 11.3x and the Industrial Products sector’s trailing 12-month EV/EBITDA of 14.3x. This is shown in the charts below.
Enterprise Value/EBITDA (EV/EBITDA) F12M Ratio
Enterprise Value/EBITDA (EV/EBITDA) F12M Ratio
Over the last five years, the industry has traded as high as 13.9x and as low as 8.7x, with the median being 11.4x.
A booming e-commerce sector and increased business spending will drive the industry in the long run. Efforts to reduce cost base will also deliver returns.
We are presenting one stock with Zacks Rank #1 (Strong Buy) and three stocks with Zacks Rank #3 (Hold) that investors may take a look at.
You can see the complete list of today’s Zacks #1 Rank stocks here.
Harsco Corporation (HSC): The Camp Hill, PA-based company flaunts a Zacks Rank #1. The Zacks Consensus Estimate for fiscal 2019 has an expected growth rate of 12.98%. The Zacks Consensus Estimate for fiscal 2019 has gone up 1% over the past 90 days.
Price & Consensus: HSC
DMC Global Inc. (BOOM): The Zacks Consensus Estimate for 2019 earnings per share for this Boulder, CO-based company indicates year-over-year growth of 77.3%. This stock carries a Zacks Rank #3. The company has an estimated long-term earnings growth of 20%. The company has an average positive earnings surprise history of 33.01% over the trailing four quarters.
Price & Consensus: BOOM
HD Supply Holdings, Inc. (HDS): This Atlanta, GA-based company carries a Zacks Rank #3. The company has an average positive earnings surprise history of 3.66% over the trailing four quarters. The Zacks Consensus Estimate for fiscal 2020 earnings per share suggests year-over-year growth of 5.29%. The expected long-term earnings growth for the company is 16.5%.
Price & Consensus: HDS
Grainger: This Lake Forest, IL-based company carries a Zacks Rank #3. The Zacks Consensus Estimate indicates year-over-year growth of 5.75%. The company has an average positive earnings surprise history of 4.41% over the trailing four quarters. The company has an estimated long-term earnings growth of 11%.
Price & Consensus: GWW
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