Tuesday, July 5, 2011

Agilent's Growth is Driven by Strong End Markets



Agilent $A is a pure analytical and electronic measurement company that provides solutions to diversified sectors involved in industrial output. I like this stock because it combines diversified cyclical growth and a secular growth story that is dependent upon new product development and regulatory and legislative drivers.
Agilent has been very active in research and development over the last few years and is starting to see the benefits of this. Furthermore, this transformation has seen the company shift from relying on over 40% of its revenues from the semiconductor industry towards becoming a truly diversified company. It is highly cash generative and promises strong growth.  It's time to take a closer look.

Agilent's Profit and Revenue Drivers
The three main divisions of Agilent are broken up as follows
Agilent2010 Rev (bn)2010 Op MarginGrowth RatesMarket Size (bn)
Electronic 2.816%4-5%12
Chemical1.223%5-6%10
Life Sciences1.515%5-7%19

In addition, Agilent sees its end markets as growing at 5-7% over the long term but the opportunity looks larger in the markets (particularly life sciences) where Agilent has the chance to expand market share. This doesn’t come without risk because the academic and governmental markets (not for profit) within life sciences could come under funding pressure going forward. However, this makes up only 8% of total revenues with the ‘for profit’ sector (biotech/pharma co’s) making up 14% of revenues. In addition, within life sciences, Agilent is seeing strong growth from the shift towards generics and biologic. Furthermore, Agilent is wel placed to benefit from the movement towards Ultra High Pressure Liquid Chromatography (UHPLC) from High Pressure Liquid Chromatography (HPLC).
Agilent is well diversified with the largest single segment (industrial, computing and semiconductors) only making up 21% of current revenues. The second largest segment is communications which is driven by technological change and LTE rollout as well as China’s 3G expansion. Agilent looks well placed in many markets.

Emerging Market’s are Key to Agilent’s Growth
Agilent are well placed in emerging markets and all three of the divisions are seeing an increase in the share of their revenues coming from Emerging Markets. In addition, Agilent’s strong market position in Electronic Measurement Group (EMG) puts them in good stead as manufacturing production shifts increasingly out to Emerging Markets like India, China etc. The return in investment is higher in EMG than in the other two divisions but Agilent is more established in this sector.
It is a similar story with the Chemical Measurement Group whereby there is strong growth from Asia. In addition, global trends are towards increased awareness of food safety and environmental awareness, which is all positive for measurement solutions like Agilent.
Somewhat surprisingly, Agilent is also seeing strong growth in Life Science’s group from Asia and this division appears to be the most exciting for Agilent overall. In essence, it is an opportunity that is categorised by the chance to grab market share in a fast growing (probably around GDP+3%) sector which is driven by proprietary technological change.

Agilent Stock Evaluation
Agilent currently trades at around $51.66 which gives it a market capitalisation of around $18bn and $17.3bn in Enterprise Value. The company is highly cash generative with diversified revenue streams and has invested impressively in R & D over the last few years. I like the diversification and the opportunities for upside potential given the tendency for greater quality control in increasingly complex manufacturing and research processes.
Analysts have forecasts of $2.88 and $3.28 for the year to Oct 11 and 12 respectively from $2.00 in 2010.  However, as ever, this doesn’t tell the full story. Free cash flow generation over the last three years has been $600m, $280m and $497m respectively and I think it is reasonable to expect around $900m for the year to Oct 2011. This puts Agilent on a FCF/EV of around 5.2% and that is too cheap for a company growing earnings in the mid teens.
I bought some with a target price of $58.