How Much is Gardner Denver Really Worth?
Anh is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Famous global buyout firm KKR & Co has recently offered to buy Gardner Denver (NYSE: GDI), the engineered industrial machinery maker for around $3.68 billion, or $75 per share. Previously, Gardner had received a much more generous offer of $85 per share, valuing the whole company at $4.2 billion, from SPX (NYSE: SPW). Is Gardner Denver worth $75 or $85 per share? Let’s find out.
Gardner Denver is considered a leading provider of stationary air compressors and blowers, with two main product groups: Industrial Products Group (IPG) and Engineered Products Group (EPG.) $1.29 billion, or 55% of total revenue, was from IGP, while EPG contributed more than $1 billion in revenue in 2012. However, EPG’s operating margin, 22.4%, was much higher than IPG’s operating margin at 10.4%. Thus, $238.3 million, nearly 64% of the total operating income, was generated from EPG. Additionally, Gardner Denver does not rely on only several big customers, as no single customer accounted for more than 5% of its total revenue.
A cash cow on a conservative balance sheet
Gardner Denver is definitely a cash cow business. In the past 10 years, the company has managed to generate both increasing operating cash flow, and free cash flow. The operating cash flow has grown from $52 million in 2002 to $300 million in 2011 while the free cash flow has increased from $39 million to $244 million during the same period. The growing cash flow has been generated on the strong balance sheet foundation. As of December 2012, Gardner Denver had $1.45 billion in total stockholders’ equity, $254 million in cash, and nearly $370 million in both short and long-term debt.
The offer relatively undervalued the company
Previously, SPX, a global specialized engineered solutions manufacturer, offered to buy Gardner Denver at around $85 per share, with a total transaction of $4.2 billion. As Gardner Denver generated around $472 million in EBITDA, a $4.2 billion deal valued the company at nearly 8.9x EV/EBITDA. That seemed to be pretty low compared to the valuations of its peers, including SPX and Ingersoll-Rand (NYSE: IR). SPX, with a total market cap of nearly $4 billion, is valued at 10.8x EV/EBITDA. Ingersoll-Rand is trading at $52.60 per share, with a total market cap of $15.6 billion. The market is valuing Ingersoll-Rand at 9.41x EV/EBITDA.
A $4.2 billion offer from SPX seems to be relatively low for Gardner Denver. Morgan Stanley expressed the same thought:
“Comparing this to a sample of 47 large deals since 2009, we come to the conclusion that implied (valuation) multiples do not look egregious -- the average multiples paid since 2009 has been 2.1 times trailing sales and 12.9 times trailing EBITDA.”
Thus, a $3.68 billion offer from KKR that values the company at only 7.8x EV/EBITDA seems to be quite cheap. Personally, I think Gardner Denver should be valued higher than Ingersoll-Rand and SPX because it is the most profitable company among the three and it employs the lowest debt in its operation. Indeed, Gardner Denver generated the highest operating margin compared to those of Ingersoll-Rand and SPX. Over the past 12 months, its operating margin was 17%, much higher than the operating margins of Ingersoll-Rand and SPX at 11% and 6%, respectively. It also had the lowest leverage level, with its debt/equity ratio at 0.25x while Ingersoll-Rand's debt/equity ratio was higher at 0.45x. SPX has the highest debt level with its debt/equity ratio at 0.75x.
Income investors might prefer Ingersoll-Rand since it has the highest dividend yield at 1.6%, while SPX is paying investors a dividend yield of 1.3%. Gardner Denver had the lowest dividend yield at only 0.3%. However, I think Gardner Denver could pay a much higher dividend as its payout ratio is only 3.8%, whereas the payout ratios of Ignersoll-Rand and SPX are 19.3% and 24.2%, respectively. If Gardner Denver paid out 20% of its earnings in 2012, the dividend yield would be 1.4%.
My foolish take
Gardner Denver generates a growing cash flow, the highest operating margin and has the most conservative balance sheet structure, it should be valued at a higher valuation than SPX and Ingersoll-Rand. With an estimate of 10x EV multiple valuation, Gardner Denver would be easily worth $4.7 billion, or $95 per share.
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