Knee-jerk reactions by the stock market can be a value investor’s best friend.
Cummins (CMI) is a possible case in point. After a two-year run-up, shares of the nearly 100-year-old global maker of truck engines and parts as well as big power generators, among other things, have been battered this year. The stock began descending in January over trade and tariff concerns that now seem overstated. About 46% of its revenue is international.
At Friday’s close of $162.39, the stock is down more than 16% from a high of $194 just a few months ago—and not much above levels of June 2014. The S&P 500 is up 36% over that period.
Daniel Morgan, a senior portfolio manager at Synovus Trust, has bought shares for clients lately. As has happened at other global American blue chips, the stock has suffered mightily from the market’s “witch hunt for big industrials with exposure to China,” he says. “But if you peel back the news, it’s overdone.”
The Columbus, Ind.–based company had a strong 2017, boosted by global growth and a strong truck market. More of the same is expected this year, Morgan says. Last year, Cummins reported revenue that rose 17%, to $20.4 billion, and net earnings of $1.8 billion, or $10.62 a share, excluding a one-time charge of $777 million or $4.65, thanks to tax changes. In 2016, EPS was $8.23.
Cummins said in a recent presentation that $4.9 billion of its revenue came from China last year. To investors, that looks like 24% of the total sales and means tariffs could be a meaningful headwind.
But that $4.9 billion includes unconsolidated revenue from several joint ventures based in the Middle Kingdom, which presumably wouldn’t be as affected by tariffs. Morgan points out a significantly smaller amount, 10%, of Cummins revenue came from China last year.
A Cummins spokesman says the company doesn’t provide the total unconsolidated sales number.
Secondly, President Xi Jinping of China gave a speech last week in which he sought to play down the threat of a trade war, which pushed up both the market and Cummins’ stock a bit.
Cummins is also an unacknowledged internet play, Morgan adds. The truck industry is enjoying good times, partly because online consumer shopping has increased the need for deliveries, which in turn pushes up shipping demand, he points out.
Cummins’ sales are tied to capital-goods markets such as trucks and construction and mining machinery, which are all showing robust global growth that should drive double-digit revenue growth in 2018, says the money manager. According to the American Trucking Associations, truck tonnage rose 3.7% last year in the U.S., and the group projects 3% annual growth for the next five years.
China remains a boon to Cummins and a secular growth engine, Morgan says. The company’s revenue-growth rate there was about 40% last year, he notes. Short of a trade war, good growth should continue.
The stock valuation is at a discount to its own history. Even after a mini-rally last week, the shares change hands at 12.9 times analyst-consensus projected EPS of $12.67 this year and 12.1 times the projected $13.46 for 2019, compared with the stock’s long-term average price/earnings ratio of 15 times. Its dividend yield of 2.7% is attractive, too.
Cummins remains a cyclical company, and results can be choppy. But it also has a strong balance sheet—with $21 million in net long-term debt against $7.3 billion in shareholder equity—which will help it withstand potential downturns.
If there is a global trade war or a global economic slowdown, then this stock is the wrong choice. But that would be true of most other global large industrials. If Cummins puts up another good year, the stock could approach its old high in 2019.
