Buyers Are Lining Up

Robert is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

In October, Gardner Denver (NYSE: GDI) disclosed that it was pursuing strategic alternatives for its business and had retained Wall Street heavyweight Goldman Sachs as its financial advisor.  Despite raising financial guidance in October, the company’s business has come under pressure in 2012, due to declining order rates in its oil services segment and general weakness in its European markets.  The poor performance of shares in the first half of 2012 prompted at least one major shareholder to pressure management to consider a sale.  While private investment firms have shown considerable interest, competitor SPX (NYSE: SPW) is leading the auction’s bidding.  It most likely sees valuable synergies with its own global flow product business, as well as the potential to expand its customer base into additional manufacturing industries.

What’s the Value?

Gardner Denver is a leading manufacturer of industrial compressors, blowers, pumps, and loading systems.  Founded in 1859, its namesake invented the first effective speed controls for steam engines.  The company has achieved geographic diversity and sales growth through acquisitions, including 24 purchases since 1994.  In its latest fiscal year, Gardner reported revenues and operating income of $2.4 billion and $400.7 million, respectively, over the prior year.  It benefited from a stable pricing environment and a 19% increase in volumes, with especially strong results in its pump business.  Both gross and operating margins expanded as Gardner’s multi-year cost savings program created efficiencies and a greater percentage of sales came from its high-margin engineered products division.

In 2012, the company’s operating environment has stagnated as customer order rates have slipped below year ago levels.  Despite a slight uptick in average product prices, organic sales volumes have declined across Gardner’s business lines.  The hardest hit area has been in the pump business, which services the oil and gas production industry.  After relatively strong fundamentals in 2011, the industry’s exploration activities have been curtailed in 2012.  According to Baker Hughes’ latest weekly report, the U.S. rig count stood at 1,799 versus 2,019 a year ago.  In addition, Gardner’s significant exposure to Europe’s economic problems, composing 31% of FY2011 sales, has been a drag on growth.

Running Out of Time

For the first nine months of FY2012, the company reported slightly higher revenues, but operating income declined 5.4% compared to the prior year period.  While operating margins fell as a result of ongoing restructuring activities, operating cash flow remained strong with $202.4 million generated in FY2012.  Given current reinvestment opportunities, the company has used its excess cash flow to increase shareholder value, including $115.2 million in stock repurchases this year.  A strategic merger with SPX will likely further enhance the combined company’s cash flow characteristics and lead to a financially stronger enterprise over the long term.

Follow the Leader

Unless investors are arbitrageurs, they should skip this corporate drama and look elsewhere in the industrial sector.  One of the companies with leading positions in most industry segments is United Technologies (NYSE: UTX).  Despite flat growth in overall sales and operating income for United Technologies in FY2012, the company’s UTC Aerospace division has generated an 8% organic increase in sales and is a focal point for the company as it continues to integrate its recent $16 billion acquisition of Goodrich and sell non-core businesses.  In December, management confirmed its expectation for EPS of $5.25 to $5.35 for FY2012, with an additional 10-16% growth in FY2013.  The company is valued at a reasonable 14 forward P/E multiple based on recent stock price levels and investors should add the company to their holdings on any year-end weakness.

rghanley owns shares of Gardner Denver. The Motley Fool has no positions in the stocks mentioned above. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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