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Morningstar | Lennox International Cuts 2019 Guidance After Posting Below Consensus 2Q Results

We're maintaining our $180 per share fair value estimate for Lennox following the narrow-moat-rated firm's second-quarter earnings release. Reported sales declined over 6% year over year to $1.1 billion, 4% shy of the consensus estimate, and adjusted EPS increased 2% to $3.74 but missed consensus by $0.38.

Excluding sales from Lennox's divested refrigeration businesses during the prior-year quarter, as well as lost sales related to the firm's tornado-damaged manufacturing plant, we calculate sales grew about 1% year over year. Cool temperatures and above average precipitation, especially across the central United States, weighed on the firm's top line performance. Residential sales, including $28 million of lost sales related to the tornado, decreased 4% year over year. While the commercial and refrigeration segments increased sales 4% and 2% year over year, respectively, management lowered its growth outlook for these two segments. The company now expects no industry growth in commercial shipments and lower refrigeration shipments compared with last year. However, management expects to outperform expectations for the industry. Lennox's industry outlook is brighter for the North American residential HVAC market; management still expects a mid-single-digit increase in industrywide shipments in 2019.

Lennox's adjusted operating margin contracted 10 basis points to 18.4% due to weak refrigeration margins, which contracted 340 basis points to 12.8%. Residential adjusted operating margin expanded 80 basis points to 22.3%, but the segment's profitability benefited from a $2 million net gain related to a tornado related insurance recovery. Excluding this benefit, residential adjusted operating margin contracted 30 basis points to 21.1%. Commercial adjusted operating margin expanded 50 basis points to 20.6%.

Management now expects adjusted full-year sales to grow 2% to 5% (3% to 7% previously) with adjusted EPS of $11.91 to $12.51 ($12.65 to $13.25 previously).

Lennox is still feeling the aftereffects of the July 19, 2018 tornado that damaged the firm's Marshalltown, Iowa residential heating and cooling manufacturing plant. However, that plant is now back up and running. Still, management expects factory downtime will result in $99 million and $54 million of lost revenue and profits in 2019. The $54 million loss will be more than offset by $94 million of insurance proceeds to recoup losses in 2018 and 2019.