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Morningstar | Ingersoll Rand Raises Full-Year Guidance After Reporting Strong 2Q Results

Narrow-moat-rated Ingersoll Rand reported strong second-quarter results that easily beat consensus estimates. Total revenue grew 11% year over year (9% organic) to $4.4 billion, which beat the consensus estimate by almost $145 million. Adjusted diluted EPS increased 24% to $1.85 versus the $1.72 consensus estimate. Ingersoll Rand's strong performance was driven by robust revenue growth from both its climate and industrial segments, the industrial segment's significant margin expansion, and stable climate margin despite cost headwinds. While Ingersoll Rand's revenue growth so far in 2018 has exceeded our expectations, we've maintained our longer-term revenue growth outlook, and we continue to model Ingersoll Rand's top line growing at a 6% compounded annual growth rate through 2022. After updating our valuation model, we increased our fair value estimate to $97 per share from $96, primarily due to the time value of money since our last update.

The climate segment (80% of second-quarter revenue) grew revenue 11% (9% organic) year over year to $3.5 billion and generated a 16.8% adjusted operating margin, which was flat with the year-ago quarter as increased volumes, pricing gains, and better productivity offset cost headwinds from inflation, tariffs, and rising freight costs. We continue to be impressed with the industrial segment's turnaround. Over the last five years, the industrial segment posted lackluster top-line growth and operating margins plunged from about 16% in 2013 to below 11% in 2016. However, growth and margin expansion returned in 2017, and the segment's performance continues to improve. Second-quarter industrial segment revenue grew 13% year over year (9% organic) to $864 million, and the segment's adjusted operating margin expanded 170 basis points to 14.2%. Over the next five years, we see a better margin expansion opportunity for the industrial segment compared with the climate segment.

Given Ingersoll Rand's strong first-half performance and positive outlook, management drastically raised its full-year revenue growth guidance. Management now expects reported (organic) revenue to grow 9% to 10% (7% to 8%) versus prior guidance of 5% to 5.5% reported growth and 3% to 3.5% organic growth. Both climate and industrial revenue growth expectations are commensurate with firmwide guidance.

Full-year climate adjusted operating margin is now expected to range between 14.6% to 14.7% versus 14.6% to 15.1% previously. Management's lower margin expectations for this segment is not surprising given the aforementioned cost headwinds. That said, a 14.6% climate operating margin in 2018 would still represent 10 basis points of margin expansion versus 2017. Management now expects the industrial segment to deliver a full-year adjusted operating margin of 13.3% to 13.8% versus prior expectations of 12.5% to 13.3%. The increased industrial segment margin guidance was offset by the lowered climate segment margin guidance, and consolidated adjusted operating margin guidance was little changed. Management now expects a full-year consolidated adjusted operating margin of 12.5% to 12.9% versus 12.5% to 13% previously. Still, higher revenue should drive stronger earnings growth in 2018. Indeed, management is now calling for a full-year adjusted EPS of approximately $5.50 versus $5.00 to $5.20 previously.