It has been almost two years since I last wrote on Acuity Brands (NYSE:AYI), and in that time the company has seen only the barest recovery in residential and commercial construction, the acquisition of a major competition by a large conglomerate, and the advancement of LED lighting as a more feasible alternative. It is this last item that is likely to be the biggest driver for Acuity, as a switch to more efficient LED lighting could stimulate significant sales. As often seems to be the case with Acuity shares, though, it seems like investors are already well ahead of curve on this name.

Fiscal Q2 Results Meet The Grade

The market liked what it saw in Acuity's fiscal second quarter results, as the shares were up more than 6% and hit a new 52-week high in intraday trading.

Revenue rose 6%, surpassing the top end of the analyst estimate range and beating the average estimate by about 4%. LED sales more than doubled and now make up 15% of sales, which does also give some indication of the generally sluggish state of the lighting market. 

Margins were okay, but requiring a little explanation. Due to a plant closure, the GAAP numbers are not necessarily the most accurate representation of results. On an adjusted basis, though, gross margin declined a scant 10bp, while adjusted operating income rose about 6%. On that adjusted basis, Acuity met the Street's $0.62 estimate, but clearly did not outperform on margins (as witnessed by the strong revenue beat, but missing the top EPS estimate of $0.72).

Can LED Really Drive A New Leg Of Growth?

While Acuity has nearly regained its pre-housing bubble revenue base, the reality remains that lighting is a tough business. Acuity's leading North American market share (about 15% to 20%) is all well and good, but it has never translated into particularly strong operating margins or returns on invested capital. To some extent, lighting is lighting – while factors like energy efficiency and appearance certainly matter, Acuity hasn't really carved out a defensible niche against rivals like Hubbell (NYSE:HUB.B), Eaton (NYSE:ETN) (which acquired Cooper), Philips (NYSE:PHG) and the like such that it can produce robust economic profits.

Now the hope is that LED lighting and lighting controls can improve this. LED lights offer substantial energy savings and a variety of attractive performance characteristics, but they have been quite expensive. The manufacturing efforts of LED producers like Samsung and Cree (Nasdaq:CREE) have brought costs down in recent years, though, and several governments have mandatory initiatives on the books to replace traditional lighting (like incandescent bulbs).

As commercial, industrial, and residential users switch to LED lighting, Acuity stands to gain. Not only do these lighting products carry high ASPs (though they're likely to decline as production costs improve), but solid margins as well. Of course, Hubbell, Philips, Siemens (NYSE:SI), and Cree are well aware of this too and all looking to make their own mark in the LED lighting fixture space. Once again, then, the challenge will be for Acuity to craft products that can support some sort of premium and/or attractive margins.

The Bottom Line

I think Acuity management's goal of getting half of its sales from LED lighting by 2015 is pretty ambitious. Likewise, I believe the company's growth expectations in lighting controls could be aggressive; while the company's products are generally well-regarded, the value-for-money equation is not also so favorable, and rivals like Lutron may be tough to beat. I would also argue that there is a risk of further consolidation in this industry – while Siemens wants out (looking to spin off or sell Osram), Acuity would not benefit from the entry of rival willing to invest resources in product development and distribution.

I'm still looking for decent growth from Acuity. I believe the contributions of LED lighting and revivals in construction will support 6% long-term revenue growth, with modest margin improvement potential leading to nearly 8% free cash flow growth. Those growth estimates only lead to a fair value in the neighborhood of $54 to $55 per share, though, and the company's relatively unimpressive historical ROIC don't argue for a premium valuation.

At the time of writing, Stephen Simpson did not own any shares in any of the companies mentioned.

Related Articles
  1. Fundamental Analysis

    5 Must-Have Metrics For Value Investors

    Focusing on certain fundamental metrics is the best way for value investors to cash in gains. Here are the most important metrics to know.
  2. Investing

    5 Up and Coming Social Media Startups

    Although the days of Facebook's dominance aren't close to being over, here are some new creative platforms gaining traction on the worldwide web.
  3. Stock Analysis

    Analyzing Altria's Return on Equity (ROE) (MO)

    Learn about Altria Group's return on equity (ROE) and analyze net profit margin, asset turnover and financial leverage to determine what is causing its high ROE.
  4. Investing

    Why Does Amazon Let Its Competitors Use AWS? (AMZN,NFLX)

    Amazon allows dozens of its competitors use AWS. Is this a strategy to earn revenue or something more?
  5. Investing

    Cybersecurity Startups Are an Emerging Trend

    As cybersecurity spending across both government and private sectors continues to increase amid rising concern of security threats, the potential for cybersecurity startups has never been greater. ...
  6. Stock Analysis

    Top 5 Companies Owned By Microsoft (MSFT)

    Find out about Microsoft's most newsworthy acquisitions. Microsoft acquired Skype in 2011 to expand its footprint in the online telecommunications sector.
  7. Investing

    What Investors Need to Know About Returns in 2016

    Last year wasn’t a great one for investors seeking solid returns, so here are three things we believe all investors need to know about returns in 2016.
  8. Investing News

    Icahn's Bet on Cheniere Energy: Should You Follow?

    Investing legend Carl Icahn continues to lose money on Cheniere Energy, but he's increasing his stake. Should you follow his lead?
  9. Stock Analysis

    Analyzing Google's Return on Equity (ROE) (GOOGL)

    Learn about Alphabet's return on equity. How has its ROE changed over time, how does it compare to its peers and what factors are driving ROE for the company?
  10. Investing News

    The 4 Most Expensive Company Campuses

    Discover some of the most expensive company campuses in the world, why they are often designed so elaborately, and learn how this affects workers.
  1. What is the formula for calculating EBITDA?

    When analyzing financial fitness, corporate accountants and investors alike closely examine a company's financial statements ... Read Full Answer >>
  2. How do I calculate the P/E ratio of a company?

    The price-earnings ratio (P/E ratio) is a valuation measure that compares the level of stock prices to the level of corporate ... Read Full Answer >>
  3. How do you calculate return on equity (ROE)?

    Return on equity (ROE) is a ratio that provides investors insight into how efficiently a company (or more specifically, its ... Read Full Answer >>
  4. How do you calculate working capital?

    Working capital represents the difference between a firm’s current assets and current liabilities. The challenge can be determining ... Read Full Answer >>
  5. What is the formula for calculating the current ratio?

    The current ratio is a financial ratio that investors and analysts use to examine the liquidity of a company and its ability ... Read Full Answer >>
  6. What is the formula for calculating earnings per share (EPS)?

    Earnings per share (EPS) is the portion of a company’s profit that is allocated to each outstanding share of common stock, ... Read Full Answer >>
Trading Center