Grainger in "Under the Radar" on July 7. The flashlight and hand-tool purveyor turned out to be a lucrative investment. Its shares have appreciated 25% since the article, outpacing the Dow Jones Industrial Average and S&P 500 Index. More importantly, Grainger advanced 27% over a two-year horizon when the Russell Midcap Index fell 18%. The stock price broke through the $100 barrier last week and recorded a 52-week high on Wednesday, following an upward revision of 2010 earnings guidance. Management now expects full-year earnings between $5.40 and $5.90 a share. Assuming the company can achieve the upper end of its target, the stock appears fairly valued at a price-to-earnings ratio of 17. Grainger pays a quarterly dividend, currently at 46 cents, and has been increasing payouts for more than 25 years, making it a Standard & Poor's Dividend Aristocrat. But with a yield around 1.8%, it's hard to get excited about Grainger. The stock recently popped into our top 50 list, despite posting lackluster quarterly results. Fourth-quarter net income dropped 10% to $97 million, and earnings per share fell a more modest 7.3% to $1.27, cushioned by a lower share count. Revenue ascended 2.6% to $1.6 billion. Grainger's gross margin narrowed from 45% to 42%, and its operating margin tightened from 11% to 10%. Grainger's stock is cheaper than that of comparably sized wholesaler Fastenal ( FAST) and that of tool-maker Black & Decker ( BDK) on the basis of trailing and projected earnings. Black & Decker's quarterly operating margin clocked in at 7.5%, whereas Grainger's hit 10%. Despite Grainger's shrinking profit margin, its stock rose 5.6% over the past month as the S&P 500 corrected 1.2%. What's the angle? Grainger recently went on an acquisitions binge. Notably, it purchased Alliance Energy Solutions, which is expected to be accretive to 2010 earnings by 1 or 2 cents. Alliance performs energy audits and retro-fitting. The Energy Policy Act of 2005, recently extended until 2013, allows companies that retrofit buildings to realize a one-time tax deduction in the year the project is completed. This jibes with Grainger's existing facility-maintenance offerings and will likely offer cross-selling opportunities.
Last spring, Grainger assumed full ownership of Asia Pacific Brands, previously a joint venture, increasing its exposure to the Indian market. Then, Grainger boosted its position in Japanese distributor MonotaRO, achieving majority ownership in the fall. Those acquisitions were financed with cash, minimizing balance-sheet damage. Since the year-earlier quarter, cash grew 16% to $460 million as debt declined marginally to $525 million. Grainger's 0.2 debt-to-equity ratio is less than the industry average. The company's three-year growth rates are in the low single digits, which hinders its overall score. However, our quantitative equity model awards Grainger a financial strength of 9.6 (out of 10) and a performance score of 9.2. Of 15 analysts surveyed by Bloomberg, 11 recommend purchasing Grainger and the remainder advise holding the shares. Though the stock trades at a premium to the distributor peer group, it offers safety, income and steady growth. We rate Grainger a "buy" and believe there are takings in tedium. -- Reported by Jake Lynch in Boston.