Growth in demand for construction equipment will support Cummins stock

Ticker: CMI

Author: Stock Analyst  Date: 2021/03/18

Cummins is one of the world's largest manufacturers of diesel engines for tractors, buses, armored vehicles and self-propelled ships. The company's production facilities are located in 13 countries, including the USA, Great Britain, China, India, Brazil and Russia.

The end-2021 target price is $ 344.7 per share, which implies 26% upside potential. The recommendation is "Buy". Long positions in CMI should be formed on price corrections.

  • Cummins has shown strong resilience to the crisis and delivered impressive financial results for the fourth quarter of 2020. Revenue increased by 4.5% y / y to $ 5.8 billion, net profit increased by 28.5% y / y and amounted to $ 501 million, or $ 3.36 per share.
  • Cummins is a stable payer of dividends and by the end of 2020 the company allocated $ 782 million, or $ 5.28 per share, with a yield of 2.4%.
  • Cummins is active in the field of hydrogen energy and at the end of 2020 commissioned the world's largest electrolyzer with a capacity of 20 MW.
  • Large-scale investments in infrastructure projects from large countries of the world will in the long term ensure an increase in demand for construction equipment and the company's products.

Issuer Description

Cummins is one of the world's largest manufacturers of diesel engines for tractors, buses, armored vehicles and self-propelled ships. The company's production facilities are located in 13 countries, including the USA, Great Britain, China, India, Brazil and Russia.

The company is a supplier to over 1200 manufacturers in over 190 countries. At the same time, the largest consumers of Cummins equipment are JCB, Iveco, Bombardier, KamAZ, GAZ and many others.

The company owns 57 factories and employs more than 61,000. Diesel engines manufactured by Cummins are installed on trucks, generator sets, ships and buses, dump trucks and excavators, railway and agricultural equipment, road construction equipment and oil production equipment. The company annually produces over 50,000 generating sets and over 1.3 million diesel engines.

The main sales market for Cummins products is North America (65.8% of total revenue), followed by Asia (11.3% of revenue), followed by Europe and China (8.4% and 4.9%, respectively). In terms of segmentation, the sales of the engine division at the end of 2020 brought the company about 40.5% of the total revenue, while the distribution division's revenues accounted for 36% of the revenue.

Attractiveness factors

  • Growth in demand for trucks. According to the FTR analytical center, the growth of pre-orders for heavy-duty NA Class 8 vehicles in February of this year was recorded at the end of the fifth month in a row and amounted to 44 thousand units, which turned out to be 209% higher than the same indicator a year earlier. At the same time, over the past 12 months, net orders for NA Class 8 equipment amounted to 338 thousand units.
  • Development in the field of hydrogen energy. The decarbonization process continues to gain momentum in the modern world, and in 2020 the European Commission, in particular, presented a strategy according to which, by 2030, hydrogen fuel should become an integral part of the EU energy system. Thus, in the next four years, the EU should ensure the construction of electrolysis plants, which will allow the production of up to 1 million tons of renewable hydrogen to be launched. In the future, hydrogen is planned to be used in sectors that are difficult to decarbonize, for example, in heavy industry and transport. In order to remain one of the leaders in propulsion and power generation, when diesel equipment fades into the background, Cummins is actively involved in the development and production of hydrogen fuel cells. So, at the end of 2020, Cummins commissioned the world's largest 20 MW electrolyzer with PEM (Proton exchange membrane), which is capable of producing approximately 3,000 US tons of hydrogen per year using clean hydropower.
  • Responsible approach to doing business in accordance with ESG criteria (Environment, Social Responsibility, Governance). In 2014, Cummins announced its own environmental performance improvement program, and this year announced that it had achieved 3 out of 7 targets and was close to the fourth indicator target. Thanks to its fuel-saving measures, Cummins was able to reduce its carbon dioxide emissions in 2019 by 17 million metric tons.
  • Expanding global investment in infrastructure projects to support economies on their way out of the coronavirus crisis, which will support demand for construction equipment and, by extension, diesel engines. Earlier, Donald Trump intended to spend $ 1 trillion on infrastructure development in the United States, and now the new American President Joe Biden has put forward an initiative to increase the amount of investments in upgrading the country's infrastructure to $ 4 trillion. In addition, large investments in the infrastructure sector are planned in many European countries, as well as in the Asia-Pacific region.
  • Stable dividend payer. Cummins has been increasing its dividend payments for 30 years, and by the end of 2020, the company allocated $ 782 million, or $ 5.28 per share, with a yield of 2.4%. Note that in the fourth quarter, management announced an increase in quarterly dividends from $ 1.311 per share to $ 1.35 per share.

Financial performance

  • Cummins posted impressive fourth-quarter 2020 financials, with revenues growing 4.5% YoY to $ 5.8 billion, better than market expectations of $ 5.18 billion, with sales in North America remained flat, while revenues in the international market increased by 12% YoY thanks to strong demand in China, as well as due to increased sales in India.
  • Engine division revenue increased 2% YoY to $ 2.3 billion; the distribution division's revenue fell 2% YoY to $ 2 billion; segment revenues for the production of components increased by 18% YoY to $ 1.8 billion; the revenue of the power equipment division decreased by 6% YoY to $ 989 million; revenues for the electrical equipment manufacturing division jumped 89% YoY to $ 34 million.
  • Net profit of Cummins in the reporting period increased by 28.5% y / y and amounted to $ 501 million, or $ 3.36 per share, exceeding the average analysts' forecast of $ 2.74 per share.
  • Cummins estimates revenue will grow by 8-12% y / y in fiscal 2021. At the same time, the company's management expects that revenue will increase in all regions of its presence, with the exception of China, where moderate demand is predicted after a record 2020.

Evaluation

We have benchmarked Cummins based on 2021 financial forecasts. Our valuation is defined as the arithmetic mean of estimates based on multiples of EV / EBITDA 2021E, P / E 2021E, P / S 2021E and EV / S 2021E.

Our estimate of Cummins' fair value at the end of 2021 is $50.9 billion, with a target price per share of $344.70, which implies 26% upside potential from the current price level. The recommendation is "Buy".

The Reuters consensus on a fair value for Cummins is $ 263.81 per share, down 10% from current share price. Generalized analyst recommendation - Hold. Among others, Cowen offers a valuation of $ 243.0 ("Hold"), Credit Suisse - $ 285.0 ("Buy"), Evercore - $ 291.0 ("Buy").

Stock market performance

CMI shares have outperformed US Industrial ETFs since March 2020, and have outperformed the broader market since July. The S&P 500 is up 26.48% since December 31, 2019, while CMI is up 52.77%. Industrial ETFs (Vanguard Industrials) gained 28.5% over the period.