Actuant Corporation Report – A New Path Forward

Introduction:

There are some industrial conglomerates that have enviable track records of creating per share value. They efficiently operate the business and shrewdly allocate capital, buying assets (including their own stock) at attractive prices and working to continually improve the overall quality of the underlying business portfolio. Over the years, these companies have created vast amounts of value by investing significant amounts of capital at attractive returns.

 

Actuant is not one of these industrial conglomerates. They have acquired businesses for expensive prices at peak sales and earnings. Then, after taking significant impairment charges, they sold the previously acquired businesses for much less than they paid or continued to own the businesses as fundamentals muddled along. This M&A strategy has destroyed significant shareholder value over the last ~ 20 years.

With a track record of poor capital allocation, Actuant doesn’t initially stand-out as an interesting opportunity. However, one part of the portfolio is comprised of a premium industrial tools business, predominately operating under the Enerpac brand. It reliably generates attractive margins and requires little capital spending which results in consistent free cash flow generation.

Actuant started to look interesting in 2016 when a new CEO and CFO joined the company and then even more so in early 2018 when Southeastern Asset Management filed a 13D and was able to get a few well-qualified individuals appointed to the board. Given the new board members’ background and experiences, Spin-Off Insights had been monitoring the company as a potential spin-off situation.

Then on January 24, 2019, Actuant made a major announcement. They plan to divest the Engineered Components & Systems (“EC&S”) Segment (lower quality business) and retain the Industrial Tools & Services (“IT&S”) Segment (high-quality industrial tools which includes the Enerpac brand). A public company electing to divest ~50% of their revenue doesn’t happen very often and investors should take note when an announcement such as this is made.

Just as importantly, they will “pursue a standalone strategy as a pure play industrial tools and services company”. As a result of this change in strategy, the remaining Actuant will be a much better business going forward and they will not pursue M&A activity outside of the industrial tools industry – the previous M&A strategy plagued the company over the last ~ 20 years (see “History and Context of the Investment Situation” for all the specifics).

This report details the current investment opportunity at Actuant in addition to the company’s history and historical capital allocation decisions. It also analyzes the Industrial Tools business segment and key risks as well as estimates the value of the Engineered Components segment (to be divested) and Actuant’s resulting post-divestiture valuation and balance sheet.

Investment Opportunity:

Divesting the EC&S Business Leaves Actuant as a High Quality, Pure-Pay Tools Business

The Engineered Components & Systems (“EC&S”) business is comprised of a hodgepodge of different industrial companies that manufacture a wide variety of products – mainly for agriculture, trucking, and off-highway vehicle markets. Overall, these businesses are lower quality (lower margin, more commoditized) than the Industrial Tools & Services (“IT&S”) segment.

The tools in the IT&S business are marketed through the Enerpac, Hydratight, Larzep, Simplex, Biach, Equalizer and Mirage brand names. These are premium, well-known niche brands that are used for high stress, can’t fail applications. In many instances, these brands have been around for 40+ years and have become the industry standard for particular applications. Furthermore, they have generally been able to obtain pricing increases as they introduce new, more durable products that make work easier and safer.

Historically, cheaper tools have been unreliable – which costs significant time and money when the project depends on completing jobs efficiently and safely (it is much more expensive to have a project sit uncompleted or have a piece of equipment down than to save money on tools). Additionally, their brands have customer support networks to back up their tools when there is a failure.

Post-divestiture, Actuant will generate ~20% EBITDA margins and require minimal maintenance capital investment (~1% – 2% of sales) which will result in an attractive ROIC and over 70% of EBITDA flowing through to cash flow. Furthermore, the Tools business has only started recovering after years of weakness (2014 – 2017 energy collapse/industrial slowdown). This should allow for low-to-mid single digit growth over the next few years with expanding margins.

Capital Allocation Will Improve with a New Leadership Team and Strategy In-Place

The longtime Chairman and CEO made a slew of expensive, ill-timed, and low-quality acquisitions over his tenure. He completely stepped away from the company in 2017 and the new CEO and Board have worked to divest poorly performing, non-core businesses while only making two small bolt-on acquisitions.

Southeastern Asset Management was also able to work with the company to get some new individuals appointed to the board. These new members have significant experience either operating businesses or executing complicated corporate transactions.

The remade board and management team looks to be putting an end to Actuant’s historically destructive capital allocation decisions.

“…I will tell you that our strategy going forward on any M&A activity has to be clarity on trying to dominate share space within the tool and/or service sector…If we’ve made an acquisition, you can be very assured that it was in the tool space.”

Randy Baker, President, CEO & Director, FY 2018 Q4 Earnings Call

Please see the “History and Context of the Investment Situation” for additional details on Actuant’s historical capital allocation strategy.

Post Divestiture, They Will Have a Healthy Balance Sheet

Actuant currently has over $500 million of debt on the balance sheet. However, post-EC&S divestiture they will likely be net cash positive. They can use this cash to pay down their term loan and the ~$288 million remaining on their 5.625% 2022 senior notes. This will save ~$30 million per year of interest expense.

Furthermore, they can use the internally generated cash flow from the IT&S business to do very targeted bolt-on M&A, share-buybacks, and dividends. Lastly, with a clean balance sheet and improved business portfolio, they could get a rating upgrade and lower their cost of debt if they wish to tap the debt capital markets in the future.

History and Context of the Investment Situation:

Actuant traces its origins to 1910 with the founding of American Grinder and Manufacturing. However, the company was struggling by the mid-1920s (interestingly enough, around this time an idea for a product innovation from two employees was denied – these employees left and went on to build Snap-On Tools which is a multi-billion-dollar company today).

Then in 1924, a man named Herbert Brumder purchased the company from Edmund Archambault and started to turn the business around. They got into the hydraulic tools business in 1927 with the purchase of a small hydraulic jacks company aptly named the Hydraulic Tool Company (which Brumder rebranded as Blackhawk). This turned out to be a great purchase and did so well that he divested the other businesses, hand grinders and water pumps, and focused on this new business.

Herbert Brumder ran the company it until 1952 when his son, Phil Brumder, took over. Over the years the company diversified into other industries and eventually placed the hydraulics business into its own division in the late 1950s. Phil Brumder named this division Enerpac – for all the energy packed into every hydraulic tool – and the trade name was formally adopted in 1960. In 1961, they changed the company’s name from Blackhawk Manufacturing to Applied Power.

Brumder shifted Applied Power more towards Automotive related businesses throughout the 1960s and 1970s. He acquired companies that made everything from battery chargers to engine analyzers, wheel balancers, studded tires, and brake testers. By the early 1970s, these Automotive businesses accounted for nearly 70% of Applied Power’s sales. However, the segment collapsed in the late 1970s due to competitive pressures and a weak economic environment. With the company struggling, he divested most of the businesses they had previously acquired.

Phil Brumder ran the company for over three decades and finally stepped down in 1986. He chose Richard Sim to be his successor; this was the first time the company was run by a non-Brumder family member since the early 1920s. Shortly after Brumder stepped down, Applied Power went public (1987) and raised $20 million. Phil Brumder sold the majority of his stock in 1988 and retired as chairman of the board.

In the mid-to-late 1990s, Applied Power started to roll-up electronic enclosures and systems businesses. The stock market was excited about the new fast-growing electronics segment, but Applied Power’s legacy industrial businesses, including hydraulic tools, were perceived to be holding the company back. So, in September 1999, Richard Sim decided to focus exclusively on the electronics business and announced strategic alternatives for the Industrial business. However, given the disparate, hodgepodge of industrial businesses put together throughout the years and the lack of interest due to the late 1990s tech boom, no single buyer emerged. As a result, they decided to spin-off the Electronics business on its own as APW Ltd. and keep the industrial businesses together.

The spin-off closed on July 21, 2000, and the RemainCo, comprised of the legacy Industrial businesses, changed its name to Actuant Corporation. Actuant was led by Robert Arzbaecher. He joined Applied Power in 1992 as a Corporate Controller, was named CFO in 1994, and then Senior VP in 1998. At the time of the spin-off, both Actuant and APW carried debt, which APW increased when they did additional acquisitions soon after spinning off on their own.

When the tech bubble burst, APW’s business was crushed and they couldn’t support the debt anymore. As a result, the former stock market darling filed for bankruptcy in 2002. On the other hand, Actuant did very little M&A post- spin-off and used the significant cash flow from the industrial businesses, along with an equity raise, to reduce debt from over $430 million at fiscal year-end 2000 to just $150 million at fiscal year-end 2003.

However, now that the balance sheet repaired, Actuant went on an acquisition spree, buying lower quality businesses in cyclical industries.

Actuant didn’t learn its lesson from the failed roll-up of the Electronics businesses in the late 1990s and the following theme has persisted over the last 20 years:

  • Use internally generated free cash flow, debt, and occasionally equity to make expensive acquisitions
  • The acquired businesses then have issues – either company specific or industry related
  • Write down the assets and eventually sell off the businesses at a much lower price than what Actuant paid to acquire them initially

Late 1990s Electronics Enclosures and Systems Roll-Up:

  • Spent over a billion dollars acquiring electronics companies in the late 1990s and spun them off in 2000 as APW Ltd.
    • Major acquisitions include Vero ($192 million), ZERO ($386 million), Rubicon ($371 million), and Mayville Metal Products ($225 million in cash + 1.509 million shares of APW stock)
    • APW declared bankruptcy in 2002

Early 2000s Recreational Vehicle Content Suppliers:

  • Spent ~$28 million acquiring RV component suppliers in the early 2000s and divested these businesses in FY 2014
    • The main businesses were Dewald Manufacturing and Kwikee Products
    • It was part of the Engineered Solutions segment and generated ~$30 million in sales when they divested it in the summer of 2014. However, Dewald and Kwikee generated nearly $50 million in combined sales when acquired in the early 2000s. This implies the business deteriorated under Actuant’s 10+ years of ownership.
    • They sold them to Drew Industries for $36 million in FY 2014 (spent $28 million acquiring these two businesses).

2000s / 2010s Electrical Component Businesses for Vehicle and Solar Markets:

  • Spent hundreds of millions of dollars to acquire various electrical related businesses throughout the 2000s / 2010s and divested them in FY 2014
    • The main brands were Gardner Bender, Marinco, Mastervolt, Acme and Turner Electric
    • Gardner Bender was a legacy business but Marinco, Acme, and Turner Electric came with the 2004 acquisition of Key Components; Mastervolt was acquired in 2010
    • Spent $317 million to acquire Key Components and $158 million to acquire Mastervolt
    • The Electrical segment generated $286 million in sales in FY 2013 and they sold it to Sentinel Capital Partners for $258 million in cash in FY 2014 (well below what it cost to acquire the businesses)

Late 2000s / 2010s Energy Services Businesses:

  • Spent hundreds of millions of dollars to acquire Energy Services businesses throughout the late 2000s and 2010s. Divested one in FY 2018 and reattributed the remaining to the Actuant’s other segments.
    • They purchased Superior Plant Services in 2008 ($58 million), Viking SeaTech in 2013 ($235 million), and Pipeline and Process Services in 2016 ($66 million). The 2009 acquisition of Cortland ($231 million) also had businesses that sold to energy markets.
    • They sold Viking in December 2017 for only $9 million. Furthermore, it cost Actuant nearly $28 million to buyout Viking’s operating leases. This means Actuant had to pay out cash to rid themselves of a business they originally acquired for over $230 million.
    • The other Energy businesses have been reattributed to the other segments in FY2018 with the change in segment reporting
    • They destroyed significant value with these acquisitions

This same theme is now playing out again with divesting the Engineered Components & Systems Segment:

  • Their major brands are CrossControl, Maximatecc, Elliott Manufacturing, Gits Manufacturing, Power-Packer, and Weasler Engineering.
    • CrossControl: 2012 acquisition for $41 million
    • Maximatecc: 2006 acquisition for $91 million
    • Elliott and Gits Manufacturing came with the 2004 Key Components acquisition ($317 million)
    • Weasler Engineering was acquired in 2011 for $153 million

While the cost of all these acquisitions is eye-opening – especially relative to Actuant’s current enterprise value and market cap, the total real cost of all these acquisitions over the years is much larger than just the purchase prices. The real total cost should also include all the frictional acquisition costs such as outside legal, advisory, consulting, and accounting as well as restructuring costs and Actuant’s corporate overhead required to execute deals (corporate development, accounting, legal, tax, treasury, etc.).

While the difference between the amount spent on acquisitions and the value of those businesses today (or when divested) is substantial, it is even worse than the numbers suggest because of these frictional costs.

The table below illustrates the major acquisitions done by Actuant over the last 20+ years and represents ~90% of the amount spent on M&A since the APW spin-off.

(The table didn’t copy over well – you can download the PDF for a better-looking table.)

Actuant Acquisition History

The simple fact that Actuant hasn’t gone bankrupt from spending over $1.9 billion on M&A since 2001 is a testament to the strength of the Enerpac business. However, for investors, the real question to ask is who led the capital allocation decisions over this 20-year stretch and if it will change going forward.

As previously mentioned, Robert Arzbaecher joined Applied Power as a controller in 1992 and was promoted to CFO and SVP in the late 1990s. Then, post the APW spin-off, Arzbaecher became the CEO of the RemainCo, Actuant Corporation. While the company did an exceptional job paying down debt and making it through the recession in the early 2000s, the M&A focused capital allocation strategy has destroyed considerable shareholder value (the share price is trading near the same levels it was 15 years ago).

As Chairman and CEO for over 15 years, Robert Arzbaecher was Actuant’s core leader responsible for the capital allocation decisions from the time of the spin-off through January 2017.

Actuant’s Management Team History:

  • Robert Arzbaecher
    • CEO: 2000 – 2014; 2015 – 2016
    • Chairman of the Board: 2001 – January 2017
  • Andrew Lampereur
    • CFO: 2000 – 2017
    • He was a career Actuant guy – corporate controller at Applied Power then CFO at Actuant since the spin-off
    • He undoubtedly had a role in the M&A strategy
  • Mark Goldstein
    • CEO: January 2014 – September 2015; “resigned from the Company and the Board to pursue other interests”
    • Director: 2013 – 2015
    • He was the president of the Tools and Supplies business from 2003 – 2007 before being promoted to COO (2007 – December 2013)
  • Robert Peterson
    • Chairman of the Board: January 2017 – January 2019
    • Director: 2003 – 2019
  • Randy Baker
    • CEO: March 2016 – Present
    • Director: 2016 – Present
    • Previously was the COO of Joy Global
  • Rick Dillon
    • CFO: December 2016 – Present
    • Previously was the CFO of Century Aluminum; worked with Randy Baker at Joy Global where Dillon was the Chief Accounting Officer
  • Jim Ferland
    • Chairman of the Board: January 2019 – Present
    • Director: June 2016 – Present

Since Randy Baker became CEO in March 2016, Actuant has done very little M&A. They have only purchased two companies, Mirage Machines and Equalizer, both of which compete in the Industrial Tools & Services industry and were small, tuck-in deals (paid $17 million and $6 million, respectively). Once Actuant is a pure-play industrial tools company (after the EC&S divestiture), this should be the playbook going forward:

  • Small, tuck-in acquisitions focused exclusively on the Industrial Tools and Services Industry
  • Strong balance sheet
  • Opportunistic Share Repurchases

It would also not be surprising to see a large increase in the dividend payout ratio.

The days of making large, speculative acquisitions (such as KCI, Cortland, Mastervolt, Weasler, and Viking SeaTech) in lower quality, cyclical industries where Actuant has no prior operating experience should hopefully be over. This change in capital allocation strategy will restore confidence in the company and is the best avenue to create per share value for Actuant investors.

Actuant Segment Financials Summary

The Industrial Tools & Services (IT&S) Business:

As previously discussed, Actuant will divest the EC&S business, so going forward they will be a pure-play industrial tools company.

The IT&S business designs and manufactures branded hydraulic and mechanical tools as well as provides services and tool rentals mainly to the industrial, maintenance, infrastructure, oil & gas, and other energy markets. It includes high-force hydraulic and mechanical tools (cylinders, pumps, valves, and specialty tools) which are designed to increase productivity, reduce labor costs, improve durability, and make work safer and easier to perform. These are heavy-duty tools that operate at very high pressures of 5,000 to 12,000 pounds per square inch and are sold through industrial and specialty fluid power distributors (Grainger, MSC, Blackwoods, etc.).

Actuant IT&S Segment End Market Mix

Their tools are marketed through the Enerpac, Hydratight, Larzep, Simplex, Biach, Equalizer and Mirage brand names. These are premium products that are well-known brands and are used for high stress, can’t fail applications. In many instances, these brands have been around for 40+ years and have become the industry standard within their niches. Furthermore, they have generally been able to obtain pricing increases as they introduce new, more durable products that make work easier and safer.

Historically, cheaper tools have been unreliable – which costs significant time and money when your job relies on completing projects efficiently and safely (much more expensive to have an uncompleted project or piece of equipment down than to save money on tools). Additionally, their brands have customer support networks to back up their tools when there is a failure.

Actuant IT&S Segment Financial Profile

Since Actuant has a history of M&A and reorganizing their reporting segments (3 times since the spin-off in 2000), it is difficult to isolate the past performance of just the Industrial Tools business to determine its historical organic growth rate and economic profile. Over the last ~20 years, it has operated as part of four different segments:

  • Tools & Supplies until FY 2006
  • Industrial until FY 2008
  • Industrial (reorganized) until FY 2017
  • Reclassified as Industrial Tools & Services in FY 2018

(The table below didn’t copy over well – you can download the PDF for a better-looking table.)

Actuant Tools Segment Historical Financials

While it is difficult to determine the precise historical operating profile (organic growth, margins, capital intensity, etc.) for the IT&S business, it is possible to make some informed estimates.

  • Organic Growth: FY 2005 – 2008 was the best period with it averaging a mid-teens rate, but it has not sustained any material growth since the bounce back after the financial crisis. This is mainly because of end market weakness in mining and energy (ill-timed acquisitions shifted the business mix)
  • Segment EBITDA Margins: FY 2005 – 2014 was the best period for reported margins
    • The strong performance during this timeframe is most likely due to segment reorganization and nothing to do with the underlying business performance. When they reclassified the tools business in FY 2007, segment margins increased ~1,000 bps from the mid-to-high teens to the mid-to-high 20s because of the removal of some lower margin electrical businesses.
    • After peaking at over 30% in FY 2007/2008, there has been a noticeable downtrend – first, due to the sales decline and negative operating leverage from the financial crisis (recovered back to over 30% in FY 2014), second due to the the industrial recession from 2015 – 2016, and third due to the ill-timed Energy acquisitions (negative absorption from declining sales as well as less profitable mix).
  • Capital Intensity: Capex has consistently averaged ~1.5% of sales

Actuant Tools Segment Historical Financial Summary

While the headline organic compound annual growth rate (‘CAGR’) of 1.4% for the segments that housed the tools business has been well below GDP, this number is likely depressed due to ill-timed acquisitions and segment reporting that continually mixed in a hodgepodge of different businesses. For instance, they acquired Ricci, Precision Sure-Lock, and Templeton in 2006/2007 (just before the financial crisis) and Hayes Industries and Pipeline and Process Services in 2015/2016 (before the most recent energy/industrial downturn). This means that to some extent they only captured the downside swings of the end market and not the associated organic growth during the good economic times.

If the historical financials tell us anything, it’s that the core Enerpac business is attractive. It likely converts around 15% of its revenue into free cash flow – a very impressive metric for an industrial business. Enerpac can do this because they generate segment EBITDA margins in excess of 30% during good economic times and mid-20s during weak economic times, and they only need to spend ~1% – 2% of revenue on capex.

It should also be noted that they have been investing a lot more in the business over the last few years to introduce new products and reinvigorate organic growth (introduced 30 new tools during fiscal year 2018 – this far surpassed the total number of introductions over the last several years combined). Since Actuant will be a much more focused company going forward, organic growth and margins should improve as the business receives a lot more attention.

Engineered Components & Systems: Segment Valuation

The Engineered Components & Systems (EC&S) segment designs, manufactures and assembles motion control systems, ropes, cables, and other customized industrial components mainly for the vehicle, construction, and agricultural market.

Their major brands are CrossControl, Maximatecc, Elliott Manufacturing, Gits Manufacturing, Power-Packer and Weasler Engineering.

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The Engineered Components & Systems Segment consists of some legacy brands that date back to the Applied Power days as well as brands acquired over the last 15 years:

  • Elliott and Gits Manufacturing: Came with the 2004 Key Components acquisition
  • Maximatecc: 2006 acquisition
  • Weasler Engineering: 2011 acquisition
  • CrossControl: 2012 acquisition

Since this segment is comprised of a hodgepodge of different assets, it is hard to find comparable private market transactions. High-quality industrial companies that generate high margin recurring revenue from consumables are typically purchased for multiples well in excess of 12x EV/EBITDA. On the other hand, lower quality more cyclical industrial businesses can be purchased for below 8x EV/EBITDA.

Valuing the segment somewhere around 7x – 8x EV/Segment EBITDA implies a value around $350 – $400 million.

Another way to look at the segment’s valuation is what Actuant paid to acquire the underlying businesses and apply a discount. Actuant paid between 1.0x and 1.8x EV/Sales for the businesses that make-up the EC&S segment. If you assume the fair value is closer to 0.75x EV/Sales, then it implies a value of ~$450 million.

The framework from these two valuation methods implies a value for the EC&S business somewhere between $300 and $600 million (see table above). Some investors might push back on the mid-point of this because it implies a high single digit EV/Segment EBITDA multiple which appears rich for a business that is economically sensitive and generates only low-to-mid single-digit margins. While this argument has truth to it, revenue looks to be improving off depressed levels, margins still appear to be below a more normalized level, and capital intensity is low. However, we will have to wait to see what value they ultimately realize from a transaction.

Any tax leakage from a sale should be fairly minor given the high cost basis of the acquisitions.

Pro Forma Actuant Valuation:

By subtracting the value of the EC&S business from the enterprise value, it is possible to see the implied valuation on the core IT&S business.

As you can see in the table above, this implies an EV/EBITDA multiple on the core tools business of ~10.5 – 13x. While that doesn’t appear like a bargain price, there are a few things investors should consider.

First, the IT&S business has very attractive cash flow characteristics, converting and estimated ~70% of EBITDA into after-tax free cash flow.

Second, the balance sheet will be clean post-divestiture. Depending on the cash they receive for EC&S, the balance sheet will be anywhere between roughly net debt neutral to having over $250 million of net cash.

This implies that pro forma for the divestiture, Actuant is trading at 11 – 12x EBITDA and 15 – 16x unlevered free cash flow (assuming they receive the ‘middle value’ for the EC&S Segment).

Actuant IT&S Implied Valuation - Middle Scenario

Besides greater proceeds from the EC&S divestiture and the inherent balance sheet optionality from having a net cash balance sheet (reduce interest expense, bolt-on M&A, buy-back stock if attractively priced, LBO candidate, etc.), another source of upside that investors should consider is that the business appears to be closer to a trough than a peak.

  • FY 2018 was the first year of organic growth since FY 2013
  • Segment margins eroded ~400bps since from FY 2016 to FY 2018 but have begun to improve

If investors believe normalized sales / margins are higher than current levels, then the valuation multiples in the table above are inflated. The table below assumes ‘mid-cycle’ sales are 15% higher and EBITDA margins are ~22% (35% incremental margins on that 15% sales increase – this is at the bottom of their 35% – 45% targeted incremental margin range). This means that the tools business could actually be trading closer to 9x EV/EBITDA and 12x cash flow on a ‘normalized basis’.

Actuant IT&S Implied Valuation - Mid Cycle

Risks:

Economically Sensitive Businesses

Their key end markets (industrial, oil & gas, agriculture, and mining) are driven by general economic activity and commodity prices.

Since Actuant has a history of reorganizing its segment reporting and making acquisitions, it is difficult to see how the IT&S business performed during times of economic weakness. The best investors can do is look at the historical segment reporting and isolate the segment that contained the tools business, back out the impact of M&A and foreign exchange, and then see the organic revenue performance of that segment. The table below shows the result of this analysis.

The table above shows that the business actually performed worse during the recent energy collapse/industrial slowdown than it did during the financial crisis. This is probably because they had less energy exposure in 2008 -2009 than they did in 2014 – 2017. Any economic weakness in the next few years will probably lead to a smaller decline than the 2014 – 2017 timeframe just because the business remains well off its previous peak (not overearning in any particular end market).

New Chairman’s History is Suspect 

Actuant named Jim Ferland as the board chair following Robert Peterson’s decision not to stand for re-election. Jim Ferland joined Babcock & Wilcox in 2012 as CEO, became Chairman & CEO in 2015, and then was eventually replaced in early 2018.

He did some good things as CEO, including working with activist investor Blue Harbour to separate Babcock & Wilcox from the nuclear reactor and fuel business (BWX Technologies) through a spin-off. However, it appears that he also made some mistakes.

After Babcock split into two in 2015, the company led by Ferland and still named Babcock & Wilcox, was left with a declining, albeit profitable, business servicing mainly coal powerplants. They reinvested this cash flow into businesses focused on equipment and services for renewable energy. This turned out to be a huge mistake as the acquisitions largely underperformed and they generated huge losses from engineering issues and poorly structured contracts.

With a levered balance sheet and large pension obligations, the company was pushed to the point where its solvency was in question.

Overall, it looked like a difficult situation, but Actuant investors should be aware that Ferland has a history of deploying a lot of capital into very uncertain projects and acquisitions.

Actuant Could Fail to Find a Buyer for the EC&S Segment or Receive an Unattractive Price

While private equity assets under management are at record highs, the EC&S business is a hodgepodge of different assets which could make it difficult to sell and/or puts a valuation discount on the business.

Actuant’s Tools Businesses Sell Products at Premium Prices which Could Bring Competition

Given the price points commanded by their tools’ brands, there is a lot of competition. Historically, their brands have deserved higher price points due to greater reliability, safety, ease of use, efficiency, and overall quality. However, if lower cost products can narrow the performance gap or if Actuant’s brands (namely Enerpac) have any quality issues, then the premium image and associated pricing premium could diminish.

Tariffs Increase their Raw Material Costs & Impact Key End Markets

Their primary raw materials are steel, plastic resin, brass, steel wire, and rubber. In the short term, this could squeeze their margins, but should not materially impact the business over the longer term (they have implemented two price increases in the tools business recently to offset these headwinds).

However, they serve end markets that are impacted by tariffs which could trickle through to Actuant.

Conclusion:

Actuant’s transformation from an unfocused industrial conglomerate that makes value destroying capital allocation decisions to a high quality, focused industrial tools company should be completed when they divest the EC&S segment. It is difficult to communicate just how big of a cultural shift this is for a company that has historically acquired many different businesses in a wide range of diverse industry verticals. As a result of this change, Actuant could be an interesting opportunity for investors:

  • Historical consolidated financials are not useful for analyzing the go-forward business
  • High ROIC company due to well-known, trusted tool brands within niche industries
  • Sales and profits are closer to the trough than the peak after a difficult FY2014 – 2017 period
  • Clean balance sheet
  • Improved corporate governance and capital allocation strategy

However, there are some major risks, including:

  • Historically cyclical end markets
  • New chairman with a poor capital allocation history at his previous company
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2019-05-06T16:40:54-05:00