EUR 850.00 For Business Accounts Only

Morningstar | SMGZY Updated Forecasts and Estimates from 10 Jul 2019

Our key takeaways from Smiths Group's first-half results are that broadly, the businesses are tracking in line with expectations, at 2% revenue growth with some margin softness from temporary regulatory issues. Medical and detection's growth this year will be back-end loaded as expected. Management's guidance is for at least 2% underlying revenue growth. We are sticking to our 4% growth forecast. However, we suspect greater margin pressure on both of those businesses than we previously thought. All in, we still expect the company to meet our modest forecast of a 10-basis-point margin expansion to 17% but think it is unlikely to surprise on the upside. We continue to believe the shares are attractively valued, and while Smiths is a conglomerate, it is in possession of high-quality niche businesses that produce high margins and have low capital intensity. We are maintaining our narrow moat rating and GBX 1,810 and $23.20 fair value estimates.

The company announced plans to separately list the medical division in the United Kingdom next calendar year, following its earlier announcement to separate the business. There are obvious incentives to improve the division's growth and margin before that time. However, the separate listing does not change our valuation.

While we expect group-level stable margins, in the detection division, we think equipment pricing pressure to secure long-term aftermarket might be holding down margin expansion despite high software content, and in medical management suggested that there were operational inefficiencies that new medical CEO would need to address. However, the group's largest profit contributor remains John Crane, the mechanical seal business, which is benefiting from late-cycle investments from downstream energy customers. Margins at John Crane expanded 40 basis points for the year. We expect second-half volume growth in detection and medical to lift second-half margins, giving us confidence in our full-year forecast.