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Morningstar | GEA's New Division Structure Separates the Cream; Shares Attractive

After seven months on the board and just a few months at the helm, wide moat GEA’s new CEO, and CFO, presented a new divisional structure. Management did not give financial targets--these will come at the CMD in September. However, the new divisions highlight the out- and underperforming businesses--where management will focus the expected restructuring plan. We still think the stock is cheap, trading at a 34% discount to our EUR 38 fair value estimate. We see much low-hanging fruit in terms of cost-cutting--moving to cheaper countries on manufacturing, now disproportionately done in Western countries. We also see the potential to reduce the number of production sites, about 30% higher than its closest competitor, Alfa Laval, in product type and complexity

The largest and worst performing of the new divisions, "liquid and powder technologies", is a project business with exposure to the beverages end market. LPT contributes one third of revenue but just one -sixth of EBITDA, on a margin of just 5% (but probably close to a historic lows). Beverages is one of GEA group's most competitive end markets, but not its core business. The products for this market tend to have less differentiation, leading to more pricing pressure. Adding to the challenge, the project aspect of this division means it's vulnerable to salespeople, if unchecked, mispricing projects for the sake of meeting targets. We see mispricing as a key underlying problem across GEA's project business, not just beverages, showing up through profit warnings over the last few years.

Contrasting to the project business, the standalone equipment in the "separation and flow technologies" division reflects their core equipment, where we think they have few true competitors and possess pricing power, takes in the highest margins and returns (21% and 33%). This is the second-largest division in the new group organization.

Important to overseeing improvements in project mispricing and expected group level cost-cutting, is the current management's decision to spread the p&l responsibility to more managers in the firm, an improvement from the previous management which had reduced p&l responsibility to just two people in top management.

The new divisions were pulled together from existing legal entities within GEA, which means they have visibility on the financials for each group, which is important for ensuring that management can track the businesses better. Previous management seemed to struggle on this front.

The next step will be the Capital Markets Day on Sept. 26, when we expect to hear about the restructuring, including some portfolio trimming and plans for margin improvements across most of the new divisions.