This earnings season had been setting up quite well for ABB (NYSE:ABB). Though there was some consternation that the company had overpaid and bought unwelcome volatility with Power-One (Nasdaq:PWER), the company's earnings compared quite favorably to its peer group. With news now that CEO Joe Hogan is resigning, though, investors are right to question whether the company will be able to continue what has been a quite successful run under Hogan's leadership.

Discount Brokers Comparison: Your one-stop shop for finding the perfect broker for your investments.

Good Earnings In A Down Market
All in all, I think ABB has navigated this rough patch of the industrial cycle pretty well on both an absolute and relative basis. Revenue was about 3% better than expected for the first quarter, up 9% as reported, and up 3% in organic terms. That stacks up very well with Eaton (NYSE:ETN), General Electric (NYSE:GE), Honeywell (NYSE:HON), Rockwell Automation (NYSE:ROK), and even Emerson Electric (NYSE:EMR).

The power business was mixed, with Products flat on an organic basis and Systems up 15%. In automation, Discrete was up 4% (also organic), while process was up 1% on somewhat surprising strength in mining. Low voltage was flat for the quarter.E

Margins were a little mixed, but strong on balance. Group reported EBIT barely rose, and the company's margin fell versus last year and came in below expectation. On an adjusted basis, though, earnings were up almost 17% and the company exceeded Street estimates for the adjusted operating margin. Generally speaking, ABB saw better results in power and weaker performance in discrete automation and low voltage.

Last and not least, orders were up a reported 1%, but down 4% organic and about 5% shy of Street expectations. While the book-to-bill was positive (1.08), it was well below the norm for Q1s (1.2x over the past four years), short-cycle business conditions look weak. That makes me doubt the likelihood of a big second half recovery in the U.S. (something echoed by Emerson management last weak). On a positive note, China has come back strong (orders up 20%) and Europe seems to be stabilizing (orders down 1%).

SEE: Understanding The Income Statement

Powering Up, Or Buying Trouble?
Just prior to earnings, ABB announced the all-cash acquisition of Power-One (Nasdaq:PWER). Power-One has established itself as one of the leaders in solar inverters, holding the #4 global position behind SMA Solar, KACO, and Fronius and the #3 position in particular niches relative to SMA and Advanced Energy Industries (Nasdaq:AEIS).

While the premium ABB offered seems large (more than 50%), the price paid on an EV/EBITDA basis was consistent with past deals in the sector. ABB has been quietly building its solar business, learning valuable lessons along the way without risking major amounts of capital. Now the question is whether the solar business is going to be a perpetual cyclical boom/bust industry, or settle into a stable growth trajectory. The cost competitiveness of solar has definitely improved, and inverters are critical to the system, but analysts have soured on this market. Whether that makes ABB a bold contrarian with a good long-term vision or a fool parting with its money, time will tell.

Hogan Could Be A Real Loss
As an ABB shareholder, I was very disappointed to see the news Friday that CEO Joe Hogan is resigning after five years “for personal reasons”. This isn't a retirement, and it doesn't appear that health issues are involved, and the board saying that it “sincerely regrets” the decision is a bit ominous to me. ABB has a strong board and has squabbled with its CEOs in the past, so that leaves ample scope to speculate as to what happened.

Hogan's tenure was a fruitful one, at least in terms of reconfiguring ABB's cost structure. With considerable attention paid to discipline in manufacturing and distribution, Hogan has made ABB one of the more efficient companies in this sector. That said, he hasn't managed to completely dispell the skepticism that has often dogged this company – the stock's performance over Hogan's tenure doesn't actually stack up all that well against peers like Emerson, Eaton, Siemens, and so on.

In theory, the CEO of ABB should be a good job that attracts very qualified candidates. This is one of the best-positioned companies for energy efficiency products and one of the largest players in automation. That said, executives talk and if the ABB board is seen as unreasonably difficult to deal with, it likely will hurt the company in its recruiting efforts.

SEE: 5 Must-Have Metrics For Value Investors

The Bottom Line
As management is so key to determining the long-term winners and losers, it's harder to recommend ABB shares than it was before. That said, I do believe ABB has a very attractive growth profile. There are very few weak spots in the company's line up (largely process automation in oil / gas / petrochemicals and pumps/valves) and those can be patched up. Along similar lines, the company's geographical positioning is quite good, with very solid standing in major emerging markets like China and India.

If ABB can grow its revenue at around 5% a year long-term and continue to improve its free cash flow margin, I can see low double-digit free cash flow growth here – a level of growth usually only seen in real turnaround stories. If ABB can grow at that rate, though, fair value in the mid-$20s seems perfectly reasonable and ABB stands as one of the cheapest high-quality industrial names in the market right now.

At the time of writing, Stephen D. Simpson owned shares of ABB.

Related Articles
  1. Active Trading

    5 Must-Have Metrics For Value Investors

    These quick-and-dirty ratios will help you find the most undervalued stocks on the market.
  2. Active Trading

    Is Warren Buffett Really A Value Investor?

    Warren Buffett has long been hailed as a value investor. But is that statement still accurate?
  3. Active Trading

    The Value Investor's Handbook

    Learn the technique that Buffett, Lynch and other pros used to make their fortunes.
  4. Professionals

    The Best Financial Modeling Courses for Investment Bankers

    Obtain information, both general and comparative, about the best available financial modeling courses for individuals pursuing a career in investment banking.
  5. Investing

    Where the Price is Right for Dividends

    There are two broad schools of thought for equity income investing: The first pays the highest dividend yields and the second focuses on healthy yields.
  6. Economics

    Investing Opportunities as Central Banks Diverge

    After the Paris attacks investors are focusing on central bank policy and its potential for divergence: tightened by the Fed while the ECB pursues easing.
  7. Stock Analysis

    The Biggest Risks of Investing in Pfizer Stock

    Learn the biggest potential risks that may affect the price of Pfizer's stock, complete with a fundamental analysis and review of other external factors.
  8. Stock Analysis

    Allstate: How Being Boring Earns it Billions (ALL)

    A summary of what Allstate Insurance sells and whom it sells it to including recent mergers and acquisitions that have helped boost its bottom line.
  9. Technical Indicators

    Using Pivot Points For Predictions

    Learn one of the most common methods of finding support and resistance levels.
  10. Options & Futures

    Cyclical Versus Non-Cyclical Stocks

    Investing during an economic downturn simply means changing your focus. Discover the benefits of defensive stocks.
  1. What does low working capital say about a company's financial prospects?

    When a company has low working capital, it can mean one of two things. In most cases, low working capital means the business ... Read Full Answer >>
  2. Do nonprofit organizations have working capital?

    Nonprofit organizations continuously face debate over how much money they bring in that is kept in reserve. These financial ... Read Full Answer >>
  3. Can a company's working capital turnover ratio be negative?

    A company's working capital turnover ratio can be negative when a company's current liabilities exceed its current assets. ... Read Full Answer >>
  4. Does working capital measure liquidity?

    Working capital is a commonly used metric, not only for a company’s liquidity but also for its operational efficiency and ... Read Full Answer >>
  5. How do I read and analyze an income statement?

    The income statement, also known as the profit and loss (P&L) statement, is the financial statement that depicts the ... Read Full Answer >>
  6. Can working capital be too high?

    A company's working capital ratio can be too high in the sense that an excessively high ratio is generally considered an ... Read Full Answer >>

You May Also Like

Trading Center