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Jim Cramer's Action Alerts PLUS

ITW Falls on Earnings, But an Opportunity to Buy Shares

By Jim Cramer and the AAP Team | 2018-04-26 13:18:39.0
Stocks in Focus: ITW, F, GM

On Thursday before the bell, Illinois Tool Works (ITW) reported a top and bottom line beat with its first quarter earnings result. Revenues of $3.7 billion (up 8% year over year) barely exceeded consensus of $3.69 billion, and earnings per share of $1.90 (up 23% year over year) topped the consensus of $1.78. Operating margins were 24.1%, an increase of 90 basis points year over year.

Before getting into the results, what we feel is driving today's trading action was the soft organic revenue growth number of 2.6%. This number fell short of the 3% to 4% guide that management previously communicated, and much of the disappoint is from a weaker than expected organic sales number in Automotive OEM. While concerns in this segment are pushing shares sharply lower in today's session, we reiterate that we anticipated a slow first quarter, and we took action to avoid much of this decline.

We discussed weak auto on our April member's only conference call, which you can watch here and we told the club as recent as last week when we sold shares here to expect this. But most importantly, we have protected ourselves from a poor number through multiple sales herehere, and here where we locked in gains. And now that the soft quarter has become priced in, we can be opportunistic with this decline and buy back shares that we sold higher, like we did earlier today.


Before digging into the individual segments, a quick word on guidance. ITW raised its 2018 full year earnings per share guidance to $7.60-$7.80 from $7.45-$7.65, or $0.15 from the midpoint. Also, management expects operating margins to be between 25% and 25.5%, free cash flow above 100% of net income, and an effective tax rate of 25% for the year. As for organic growth, despite the underwhelming number this quarter, management reaffirmed their full year 3% to 4% guidance. This is a key here. What it means is that even though the company got off to a soft start to the year, they expect the next three quarters will be strong enough to carry organic revenue growth back into its targeted range. Looking ahead to next quarter, management expects earnings per share to be between $1.90 and $2.00, which is about even with expectations. As for Auto OEM, management still expects to achieve 4% to 5% organic revenue growth for the full year, and we think this is achievable because ITW has more high end content in SUV's and Trucks which are the two areas that both Ford (F) and General Motors (GM) are focusing on per recent commentary.

Organic Revenue Results

For the core operations, ITW went seven for seven this quarter as each operating segment increased organic revenue. This result is an improvement from previous quarters where Food Equipment had previously trended negative. Notable strength was in Test & Measurement and Electronics (+7.6%) and Welding (+7.6%). Auto OEM (+1.0%) was perhaps the most disappointing of the seven, but again, a soft first quarter was something we anticipated. Driving the miss was global auto building (-1%) coming in "modestly" below expectations but they expect this to revert back to positive year over year territory. A rebound here is central to our view that today's selloff is overdone.

Segment Operating Results

As for revenue results, five of the seven segment's revenues came out ahead of consensus with Automotive revenue of $901 million vs. $883 million consensus, Food Equipment revenue of $527 million vs. $520 million consensus, Test and Measurement and Electronics revenue of $543 million vs. $519 million consensus, Welding revenue of $423 million vs. $417 million consensus, and Construction products revenue of $482 million vs. $422 million consensus. The two segments that fell short of consensus were Specialty Products, where revenue of $485 million missed the $493 million expectation, and Polymers and Fluids revenue of $442 million was $6 million shy of estimates. Lastly, each segment's margins can be found below, and of the total 90 basis point margin expansion, +110 basis points were related to the company's enterprise initiatives (the 80/20 business model).


Overall, while the quarter was noisy due to the below range organic sales growth number, we are encouraged that management maintained its full year organic sales guide and increased earnings per share expectations. With management expecting a strong rebound in second quarter Automotive OEM organic revenue growth thanks to an estimated global builds increase of 5% (which ITW historically outpaces), we believe that the soft first quarter is now behind ITW, and we feel that we were largely able to offset this weakness through scaling down our position in advance of this decline. As we said in this morning's trade Alert, we have upgraded shares to a ONE off this pullback and we are buyers on this weakness.

 Action Alerts PLUS, which Cramer co-manages as a charitable trust, is long ITW.

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Action Alerts PLUS Holdings

Holdings 1

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Symbol % Portfolio
DRI 0.010556186779270237 Restaurants
GOOGL 0.027675172501280102 Internet Software/Services
JPM 0.025036978487139382 Financial Conglomerates
PEP 0.019564284418590056 Beverages: Non-Alcoholic
STZ 0.032501345132190405 Beverages: Alcoholic
UNH 0.017967687222357222 Managed Health Care
XEC 0.02605110003879356 Oil & Gas Production
Holdings 2

Stocks we would buy on a pullback

Symbol % Portfolio
AAPL 0.028005444150109183 Telecommunications Equipment
C 0.024909834323992904 Financial Conglomerates
DHR 0.03663930971459398 Medical Specialties
DWDP 0.030952877023050277 Chemicals: Major Diversified
FB 0.03154141617466423 Internet Software/Services
MSFT 0.03533887694011666 Packaged Software
NVDA 0.012799873866926652 Semiconductors
SLB 0.03422508649156971 Oilfield Services/Equipment
Holdings 3

Stocks we would sell on strength

Symbol % Portfolio
AGN 0.006086245186683899 Pharmaceuticals: Generic
MMP 0.012318393511404742 Oil & Gas Pipelines