Key takeaways:
· Sales down 12%, better than expected thanks to resilient utility end-markets (50% of revenue)
· Issued a $1B green bond at 1.95% and 2.25% rate, in efforts to improve sustainability and financing strategy
· Full year guidance not reinstated as uncertainties remain
Current Price: $74 Price Target: $81
Position Size: 2.46% Performance: +12% (since inception on 04/07/20)
Xylem reported total organic growth declining 12% in the quarter (better than the 20-20% decline initially predicted, in line with preannounced earnings a couple weeks ago) as the utility sector proved more resilient. As seen towards the end of Q1, China recovered, now in positive territory (+6% growth). Margins were impacted by the lower volume, which was partially offset by productivity improvements. Free cash flow grew as working capital improved y/y and capex was lower.
Organic growth by end-markets:
· Utilities: -9%
· Industrial: -16%
· Commercial: -10%
· Residential: -15%
Organic growth by regions:
· US: -15%
· Emerging markets: -15%
· Western Europe: -4%
Some interesting tidbits from the quarter:
Wastewater utilities trends:
· Increased emergency clogs from disposable wipes and more household waste (as people stay at home more)
· Potential medium-term impact on utilities capex budget from reduced revenue but more partnerships opportunities
Clean water utilities trends:
· Large projects postpones but expect growth to recover as social distancing requirements ease
· No cancellation of awards or projects in the bidding process but some delay in decisions
Industrial sector trends:
· Limited access to visitors, causing slower orders
· Modest recovery as activity resumes
Fundamentals accelerated by this crisis:
· Need for essential water services & safety
· Interest in digital adoption
· Shift in the way Xylem works internally and with customers
This in turn has pushed XYL’s investments in remote monitoring, connectivity & interoperability and focus in high growth markets.
Looking forward, with a backlog up 10%, we have a good indication for 2021 and beyond. Regarding 3Q forecasts, revenue are expected between -8% and -12%, and a sequential margin improvement from 2Q but still lowered y/y.
Xylem’s investment thesis is:
Xylem has strong sustainable secular growth drivers in a fragmented industry:
Access to clean water is a necessity
Population growth & urbanization
Aging infrastructure
More defensive sales base thanks to:
50% of sales to utility sector
sticky client base due to high switching costs
high level of replacement parts demand
Long-term contracts with ½ of the revenue base recurring
Margin expansion overtime from productivity efforts
M&A strategy has increased their scope in the water cycle
Valuation is attractive today
XYL.US
Category: earnings
Tag: XYL
Julie S. Praline
Director, Equity Analyst
Direct: 617.226.0025
Fax: 617.523.8118
Crestwood Advisors
One Liberty Square
Suite 500
Boston, MA 02109