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Morningstar | Dover Posts Solid 2Q Performance, Even With Refrigeration Headwinds

Nothing in narrow-moat-rated Dover’s second-quarter results really surprised us. We are maintaining our $86 fair value estimate even as we adjust our model assumptions for anticipated near-term weakness in Dover’s retail refrigeration business. The company posted revenue of $1.8 billion, an increase of 3% from the prior year (3% organic year-over-year growth). This is the first quarter where we’re able to glean Dover’s results after the spin-off of the upstream oil and gas segment, now a separate publicly traded entity named Apergy. It’s also the first quarter that the company reported results under new CEO Richard Tobin, a former lieutenant of Fiat Chrysler's  Sergio Marchionne . The firm narrowed its guidance range to $4.75-$4.85  for adjusted diluted earnings per share from continuing operations; our estimate is toward the lower end of this range at $4.77. The shares are trading at a 10% discount to our fair value estimate as of this writing, and if they become any cheaper, we believe they would offer an attractive risk/reward opportunity in a well-run, steady, diversified conglomerate for the enterprising investor .

Year to date, Dover’s remaining three segments post-spin-off have posted top-line growth of $3.4 billion. Our main concern for the firm has been the refrigeration and food equipment segment, particularly refrigeration. Revenue in the second quarter was down nearly 6% year over year (both on a reported and organic basis). Our most recent talk with investor relations led us to believe that refrigeration volume is a bit of a blind spot for the firm. From our understanding, customers like grocery stores are deferring their replacement cycles, presumably in a wait-and-see mode as Amazon enters the grocery market with its Whole Foods acquisition and digitization trends. From our understanding, Dover bases its top-line forecast in large part on customer polling; it often touts its advantage from customer-facing activities. These customers haven’t changed their tune; it appears to us, partly based on internal conversations with our consumer team, that this truly is a deferral in purchasing and not a permanent decline. That said, we are hearing that there is some price pressure in this business, particularly with bigger customers. Offsetting this are positive tailwinds from convenience stores. Dover’s critics often point to refrigeration as a natural spin-off target, but our conversations with the firm and the short-term weakness in the business lead us to believe this is an unlikely scenario in the near term.

The firm’s other two segments have performed strongly on the front end of the year, with year-to-date revenue at $1.4 billion for engineered systems and $1.3 billion for fluids. The run rates for both segments have even slightly exceeded our full-year projections. Year over year, engineered systems posted organic growth of nearly 6%, while fluids rose 7% year over year on an organic basis.

Finally, one thing we welcome--which Tobin pointed to on the call--is the broad-based rightsizing initiatives underway, particularly targeting the selling, general, and administrative expense line. We think these are rational steps by management, particularly with near-term weakness that is likely to persist in the firm’s refrigeration and food equipment segment for the rest of the year.