Pentair (Hoffman and Erico) Q3 Lesson

Next up on our Quarterly review series is Pentair whom in the electrical industry is best known as Hoffman and now Erico.  Two companies with strong brand cache in the industry and with end-users.

In the late spring Pentair was in the news as a Wall Street activist, Nelson Peltz, through his Trian Fund Management, took a 7.25% interest in the company.  His premise was the company could unlock value / potential by making acquisitions.  So the company did, paying $1.8 billion for Erico … or 3x revenue even though Pentair had little cash on hand (but then again, money from banks is cheap!)

While it is reported that Pentair was looking for acquisitions, they hadn’t previously acted on any.

Whether the diversification of the Erico deal was planned or not is unknown, but now it can be viewed as fortuitous, and it shows in their Q3 report.

Pentair is primarily an industrial company. The Hoffman name was made in the industrial space (as witness by a vast majority of Rockwell distributors also carry Hoffman’s enclosure line).  Erico is a construction play. What’s better than diversifying further into the construction space with a strong brand and a company known for innovation for a company that is primarily industrial?

So, let’s turn to the Earnings Presentation:

• Overall, Pentair sales were down 5% “lead” by their Valves & Controls group down 18%. Their Technical Solutions group, where Hoffman and Erico report into was up 2%. So, numbers at the aggregate level can deceive what we want to look at.
• The integration between the two companies is well underway and in the words of one rep, “they are trying to do this faster than I’ve ever seen before”. In fact, Pentair expects the integration of Erico to be accretive to EPS by .40 cents in 2016 which is pretty quick.
• Overall for Pentair, and presumably for the electrical area, Food & Beverage, Residential and Commercial remain strong end-user markets.  Resi / Commercial was up 2%, Industrial down 11% (sound familiar?), Energy down 10% (again, familiar?), food & beverage up 7% (we need to eat!) and infrastructure down 5%.  So, these are company-wide trends.
• From a Technical Solutions viewpoint, industrial was down 1%, energy up 9% (yes, you should ask Hoffman about this when you meet with them), infrastructure down 17% and resi / commercial up 9% (the key).  The Erico deal didn’t benefit Pentair till late in Q3 (the deal was closed on September 18) and only added $13M in sales.

As Erico’s performance gets added into Pentair’s sales and earnings it will further balance the challenges currently facing its industrial business.

And some insights (color) from their earnings call as it relates to Hoffman, Erico and Technical Solutions:

• “In September saw deceleration in the Hoffman business” and the usually see a fourth quarter catch-up on spending (in industrial and energy customers) but “we don’t think it’s smart to think that will happen in the 4th quarter this year.”
• For 2016, for Erico projecting 2-3% growth excluding any synergy growth from Hoffman brand (and they are probably thinking about this in relation to Hoffman’s commercial offering.)
• Erico is 75% commercial.
• “Enclosures business saw continued softness in the “short cycle” industrial business and further destocking in some of its distribution channels” (NOTICE TO DISTRIBUTORS – remember to utilize your supplier return policies if your not selling selected materials or have excess / obsolete product.  Better to do a return and get more of what you are selling.)
• Pentair negatively suffered, like others, from a 6% foreign exchange issue.
• Have spent capital to automate the enclosure line, reduce labor, improve quality, reduce warranty.

The “moral of the earnings” … diversification pays and quickly diversifying (or investing into segments) can help companies continue to grow their top and bottom lines.  As a senior manager, being nimble is the key.