EUR 850.00 For Business Accounts Only

Morningstar | Eaton’s Portfolio of Products and Services Serves Vital Portions of the World’s Infrastructure. See Updated Analyst Note from 18 Jan 2019

After taking a fresh look at Eaton, we slightly raise our fair value estimate by nearly 4% to $83 from $80 previously, primarily due to a 60-basis-point improvement in our midcycle margin assumption outlook. Our new fair value estimate represents over a 14 times multiple to our 2019 EPS estimate. Even so, most of our long-term assumptions are intact, particularly as it concerns revenue drivers that we believe will propel the stock forward. We also retain our narrow moat, Standard stewardship, medium uncertainty, and stable moat trend ratings. At current prices, Eaton trades at about a 14% discount to our fair value estimate, which we believe means the 100-plus-year-old company merits a place on an investor’s watch list. We’d be buyers of the stock at our $58 5-star price given management’s shareholder-friendly orientation, including share repurchases and a forward dividend yield of 3.7% to our full-year 2018 dividend expectations.

While Eaton is a diversified power management company, we view Eaton as a specialized producer of highly engineered products and services. These offerings are designed to solve customer pain points in vital portions of the world’s infrastructure. We believe Eaton has effectively positioned its portfolio in profitable niches that will benefit from secular trends and long-term growth. We also believe this leaves it with less risk of commoditization. Many of its end market solutions are mission-critical, as in fuel pumps with aerospace or uninterruptible power supply in hospitals. Others lower customers’ total cost of ownership or compete in industries with a high cost of failure, as with its hydraulic hoses used to irrigate golf courses’ fairways and greens.

Eaton’s product portfolio competes in various oligopolies and can be broadly divided into its Electrical and Industrial sectors. Its Electrical Sector, which we believe was strengthened by the acquisition of Cooper in 2012, is a leader in low-voltage and medium-voltage products, renowned for its technical expertise in compact circuit protection device and holds strong market share positions in several categories. Its Industrial Sector, which includes it Hydraulics, Aerospace, and Vehicle segments, benefits from a long track record of success, valuable OEM relationships, technical know-how, as well as the need to comply with regulations concerning safety or the environment.

Ultimately, we see Eaton’s top-line growth being driven by increased industrialization and the need to update aging power infrastructure, particularly in developing economies, increasing regulation like noise or weight restrictions in certain segments, global passenger air travel, as well as the industrial Internet of Things trend, specifically predictive maintenance in certain offerings like its proprietary hoses. As a result, we forecast top-line growth (including M&A) at a 5% CAGR over our five-year explicit forecast. At the margin level, we see improvements in certain segments like Hydraulic, which completed a three-year $100 million restructuring effort in 2017 that improved its direct cost base by reducing both its assemblies and components. Overall, we target a GAAP EBIT midcycle margin of 13.6% by the end of our explicit forecast (or 17.1% at the total segment operating profit level).