Regal Beloit Poised For Healthy Growth Despite Margin Woes

On Dec 18, we issued an updated research report on industrial goods manufacturer, Regal Beloit Corporation (NYSE:RBC) .

Over the years, Regal Beloit has consolidated its product lines and streamlined brands to evolve as a dynamic enterprise. In order to drive continuous improvement, the company has strictly followed ‘Compass Operating System’ that encompasses a common set of business processes, disciplines and lean Six Sigma tools. Backed by an “open-door” management style, this has helped Regal Beloit gain a competitive advantage and reach more people in diverse markets around the world.

In addition, the company has continually focused on prudent investment decisions for a disciplined capital allocation, strong and flexible balance sheet position and cash flow enhancement to support dividend growth. We believe that such moves, along with a robust operating platform and an efficient management team will help in the execution of its strategic priorities and drive net asset value in the future. The company’s strong free cash generation is another positive, providing it an opportunity to pursue accretive acquisitions and unlock additional value.

Furthermore, Regal Beloit continues to focus on simplification initiatives to lower operating costs and improve margins in the future. The company expects organic growth for 2017 in low single digits with modest demand trends. Its long-term strategy involves organic growth through innovative products, broadening customer base, exploitation of new opportunities and tactical investments in emerging markets. The company has also expanded technologically and geographically on the back of its aggressive acquisition policy. Management further indicated that it plans to continue seeking accretive acquisitions as part of its overall growth strategy. Regal Beloit remains confident of generating robust operating cash flow to fund its organic and inorganic growth as well as return significant capital to its shareholders.

Despite core strengths, Regal Beloit has underperformed the industry with an average year-to-date return of 9.9% compared with a 17.6% gain for the latter. Margin pressure remains a bottleneck for the company. Gross profit for third-quarter 2017 was flat at $227 million despite higher revenues due to higher cost of sales. The electric motor manufacturing space is a highly competitive and fragmented. With the rise in competition within the industry, the company is witnessing a decline in its product prices, which is detrimental to its overall margins. Also, it has to continually invest heavily in R&D to introduce newer value-added products that provide a hedge against competition.

Moreover, Regal Beloit continues to face increased concentration risks as a significant amount of its revenues is obtained from a handful of customers. In addition, adverse foreign currency translation, soft oil & gas markets and China’s challenging economy remain potential headwinds. The cyclical business is further dependent on industrial and consumer spending and continues to be affected by macroeconomic industrial cycles, both in domestic and international markets. Regal Beloit’s earnings are also susceptible to exchange rate volatility, which poses a concern.

Nevertheless, we remain impressed with the inherent growth potential of this Zacks Rank #3 (Hold) stock. Better-ranked stocks in the industry include Altra Industrial Motion Corp. (NASDAQ:AIMC) , ABB Ltd (NYSE:ABB) and Applied Industrial Technologies, Inc. (NYSE:AIT) , each carrying a Zacks Rank #2 (Buy). You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

Altra Industrial Motion has a long-term earnings growth expectation of 8%. It topped estimates in each of the trailing four quarters with an average positive earnings surprise of 17%.

ABB has a long-term earnings growth expectation of 6.2%. It topped estimates in each of the trailing four quarters with an average positive earnings surprise of 11.7%.

Applied Industrial Technologies has a long-term earnings growth expectation of 12%. It surpassed estimates in each of the trailing four quarters with an average positive earnings surprise of 9.7%.

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