Morningstar | Lennox Raises 2018 Guidance After Reporting Strong 2Q Results: FVE to $172. See Updated Analyst Note from 23 Jul 2018
Narrow-moat-rated Lennox International's second-quarter results benefited from robust demand for the firm's residential and commercial heating, ventilation, and air conditioning products. Adjusted revenue, which excludes approximately $17 million from the noncore refrigeration businesses in Australia, Asia, and South America, grew 9% year over year to approximately $1.16 billion, beating the consensus estimate by about $25 million. Adjusted earnings per share increased 30% year over year to $3.67 versus the $3.57 consensus estimate. After reviewing Lennox's second-quarter results, we are increasing our fair value estimate to $172 per share from $170, mainly due to the time value of money since our last update.Lennox's commercial HVAC segment was the fastest-growing business during the quarter, with 13% year-over-year revenue growth. Residential HVAC revenue grew about 10%, and adjusted refrigeration revenue, which excludes noncore sales, grew 2%. During the quarter, Lennox completed the sale of its Australia and Asia refrigeration businesses, and it expects to complete the sale of its South American refrigeration business during the second half of 2018.
Consolidated adjusted operating margin, which excludes restructuring and other one-time expenses, expanded 50 basis points to 17.8%. Commercial HVAC adjusted operating margin expanded 70 basis points to 18%, refrigeration adjusted operating margin expanded 40 basis points to 14.9%, and residential HVAC adjusted operating margin of 21.5% was flat with the year-ago quarter.
Given the strong first-half performance, management now expects Lennox to achieve adjusted revenue growth of 7% at the midpoint of guidance (versus the prior 6% midpoint guidance). GAAP and adjusted EPS guidance is now $9.43-$9.83 and $9.95-$10.35, respectively (versus prior guidance of $8.79-$9.39 GAAP and $9.75-$10.35 adjusted).
Through the first six months of 2018, Lennox spent $350 million on share repurchases, and it now expects to use the proceeds from the sale of its foreign refrigeration assets to purchase another $100 million of stock by the end of the year.
Lennox's residential and commercial HVAC sales growth during the second quarter was broad-based and indicative of continued solid demand. In the North American residential market, Lennox realized 10% growth in revenue from replacement equipment and high-single-digit growth from equipment used in new construction. In the North American commercial market, replacement equipment sales grew high single digits and new construction sales were up in the high teens.
To combat input cost inflation, Lennox implemented another price increase in June. Management expects price increases to generate $75 million in incremental revenue, which should offset a commensurate amount of cost inflation from rising commodity prices ($50 million cost headwind), increased freight expenses ($20 million headwind), and tariffs ($5 million headwind).
Lennox International provides climate control solutions. The company designs, manufactures and markets products for the heating, ventilation, air conditioning and refrigeration markets. The company's segments are: Residential Heating and Cooling, which manufactures and markets furnaces, air conditioners, heat pumps, packaged heating and cooling systems, equipment and accessories, comfort control products, and replacement parts and supplies; Commercial Heating and Cooling, which manufactures and sells unitary heating and cooling equipment; and Refrigeration, which manufactures and markets equipment for the global commercial refrigeration markets under the Heatcraft Worldwide Refrigeration name.
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