At the start of February, I believed that shares of The Timken Company (NYSE:TKR) were still looking good into 2024. This came after a rally into the fourth quarter, amidst improving growths prospects and non-demanding valuations from the get-go.
The producer of bearings, power transmission products and related products and services has simply become a better business in my view with the passage of time, leaving the door open for a further re-rating in 2024.
That optimism quickly faded as the company guided for 2024 sales, and certainly earnings, to take a beating.
Bearings
Timken produces bearings and power transmission products, with these products being used in a wide range of applications such as automotive, rail, truck, energy, industrial and defense, among others.
The business has seen great diversification in terms of clients, end markets, yet nonetheless the business remains quite cyclical. It was this operating leverage and financial leverage (in the past) which burned investors at various occasions in the past.
The business is now organized under two segments. Engineered Bearings make up about two thirds of sales, while carrying segment margins in the low-twenties. Industrial Motion is responsible for the remainder of revenues, posting segment margins in the high-teens.
Earlier this year, the company had seen a solid 2023 so far. Following multiple bolt-on deals as well as sound organic performance, the company was on track to show decent topline sales growth, seeing earnings just shy of $7 per share. Trading at just 12 times adjusted earnings, while leverage was in check, I was anticipating and hoping for a further re-rating in its valuation during 2024.
Struggling
Since February, shares of Timken have been trading largely flattish in fact, shares fell from $84 to $80 per share over a roughly half a year period.
In February, Timken posted a 6% increase in full-year sales to $4.77 billion, although that fourth quarter sales growth slowed down to just a percent. The company posted adjusted earnings at $7.05 per share, up nearly sixty cents from the year before. Similar to the revenue trends, momentum slowed during the year, with fourth quarter adjusted earnings up just three cents to $1.37 per share.
Net debt rose to nearly $2.0 billion following bolt-on M&A activity throughout the year, yet with adjusted EBITDA reported at $940 million for the year, leverage ratios were in check in the low 2s.
The issue is that slower growth was set to continue, in fact, worsen during 2024, as total sales were seen down between 2.5% and 4.5%, despite bolt-on dealmaking, indicating that organic revenue declines were even worse. Moreover, adjusted earnings for the year were seen at just $6.00 per share, plus or minus 20 cents. This caught me somewhat blind-sighted as I sold out of the position at a wash early in February, as shares traded flat despite this outlook.
In April, Timken posted first quarter results. While a near 6% decline in first quarter sales was not convincing, the company hiked the full-year earnings guidance to $6.00-$6.30 per share, with revenues seen down 2-4%. This was some bright news, after The Timken Company announced succession plans in March.
In July, the company posted a 7% fall in second quarter sales, with organic sales down as much as near 8%. This caught the company somewhat off guard as well, as the company trimmed the higher end of the earnings guidance again to $6.20 per share, with revenues seen down 3-4%. Net debt ticked down to $1.7 billion as the company sold its portion of its stake in Timken India Limited, yielding net proceeds of $232 million.
With the 70 million shares now trading at $80, the company commands a $5.6 billion equity valuation, and $7.3 billion enterprise valuation.
A Surprising Deal
Early in August, the company announced a bolt-on deal. The Timken Company reached a deal to acquire CGI, a manufacturer of precision drive systems to a broad range of automation markets, certainly medical robots.
The family owned Nevada-based business employs about 130 people, and it is expected to generate $45 million in revenues this year, adding about 1% to pro forma sales. Given the nature of these activities, I guess that the purchase comes in at a premium to the sales multiple of the own business here, but unfortunately the purchase price has not been announced.
This is an interesting deal, but given the bolt-on acquisition, it really is not a game changer either.
What Now?
The truth is that I am a little less upbeat about The Timken Company than at the start of the year, with shares down $4 to $80 per share. This comes as the 2024 guidance is largely underwhelming, with the company seeing adjusted earnings down around a dollar from last year, and in fact down from 2022. This is driven by weakness in heavy industries, renewable energy and off-highway applications. Particular weakness was seen in wind and China, but it was widespread further.
This indicates that the cyclical component of the business is catching up with the business again, yet even at the lower earnings power, valuations remains non-demanding at 13-14 times earnings. This comes as the business has been a steady buyer of its shares and while total revenue growth is not so impressive over the past decade, growth on a per-share basis has been solid.
Hence, I am performing a balancing act between the appeal of a lower valuation and buyback track record, with a soft 2024. This leaves me to conclude that greater pullbacks are required before I am willing to initiate again.
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