Joy Global Deals with Slower Growth
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On Wednesday, global mining equipment giant Joy Global (NYSE: JOY) reported poor fiscal third-quarter results and issued a sluggish outlook for the remainder of its fiscal year 2012. Revenue during the period increased 22% to $1.4 billion—about $30 million shy of consensus expectations. Operating income per share, excluding one-time costs, grew 16% to $1.79, which was much weaker than consensus estimates. However, quarterly results took a backseat to bookings (orders), which decreased 25% year-over-year, to $1.1 billion. As a result, the firm cut its full-year earnings outlook to $7.05-$7.20 per share from its previous range of $7.15-$7.45 per share, meaningfully lower than consensus (which called for $7.32 per share). We’re sticking with our fair value estimate for Joy Global, despite the downwardly revised full-year outlook.
Joy Global is facing pressure from weakening global demand for basic materials. Miners like BHP Billiton and Rio Tinto (NYSE: RIO), for example, are delaying capital expenditures to deal with a near-term supply/demand imbalance. Rio recently reported a bleak outlook for its various business segments during the back half of 2012. Lower natural gas prices are also hurting Joy Global on two fronts. For one, power plants are moving away from coal to the cheaper and less-polluting natural gas. As a result, coal prices and production have tumbled. Additionally, the lower natural gas prices and abundant supply have made shale extraction unprofitable. Natural gas has hovered below $3 per million BTU, but drillers will need to see at least $4 to resume activity, in our view. Both factors have reduced the demand for Joy Global’s mining equipment.
Management sounded somewhat bullish on coal from the Powder River Basin, noting in their remarks on the press release:
“The first beneficiary of coal switching is Powder River Basin coal, and its rail car loadings increased by 16 percent from June to July. The longer term confidence that our customers have in Powder River Basin demand is evidenced by the increased acreage that has been leased in the past few months.”
This could mean upside for coal producer Cloud Peak (NYSE: CLD), which is levered exclusively to this low cost region. Any significant increase in economic activity could lead to superior results for the coal company, as most excess US electricity capacity runs on coal.
Nevertheless, the real story remains China, where management cited that electricity demand grew just 3% year-over-year in May 2012. However, Chinese coal producers continue to build supply, though demand and pricing aren’t economically acceptable. The Chinese government has intervened to limit production, but such a situation doesn't bode well for Joy Global’s near-term outlook or that of Cat-owned competitor Bucyrus (NYSE: CAT). Caterpillar’s diversification, however, will allow the firm to better withstand weakness than its much smaller competitor.
All things considered, Joy Global remains concerned about the growth prospects of China for the rest of the year, though, as Rio Tinto has articulated many times, the long-term demand picture for China (and other BRIC nations) remains relatively strong. With shares trading at just over $50 each, we aren’t big fans of the equipment manufacturer. A cyclical business such as Joy Global’s is heavily exposed to operating leverage that cuts both ways. Further, we would not be surprised to see the firm’s earnings outlook deteriorate even further in coming periods, even if demand is only modestly lower than expected. We’d only become interested in Joy Global’s shares if they were trading under our fair value range and only on an improving technical/momentum assessment at that time.
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