The second-quarter earnings announcement for lighting manufacturer Acuity Brands (NYSE:AYI) came and went on Wednesday. What's really important is that this was Acuity's first earnings announcement without spinoff Zep Inc. (NYSE:ZEP), its former specialty products division that made cleaning products.
Was this a case of addition by subtraction? Acuity performed brilliantly over the past six months, doing an exceptional job in a very difficult environment. The question now is: Will these good feelings last?
The Future's So Bright, I Gotta Wear Shades
In order for Acuity to compete in the higher margin lighting business and secure its future success, it was necessary to shed Zep. The numbers bear this out.
In fiscal 2007, the lighting division's (Acuity's) sales were $1.96 billion with operating profits of $251.1 million and a operating profit margin of 12.8%. Meanwhile, the Zep division's sales were $565.9 million with operating profits of $39.6 million and a operating profit margin of 7.0%. Each additional million dollars in sales by the lighting division would produce $56,000 more operating profit than Zep would.
The math is undeniable, so a split was inevitable. For every two shares held in the company as of October 17, 2007, you received one share of Zep, which would then operate as a completely independent company. So far, the move has paid off. (To learn how break ups can pay off, check out Cashing In On Corporate Restructuring and Mergers And Acquisitions: Break Ups.)
Second Quarter Earnings Shine Luminously
With its Zep division lanced, Acuity performed very well. Let's take a look at some of the highlights:
- Net sales for Acuity were up 8.6% in the second quarter, increasing to $482.6 million from $444.3 million in the same period last year.
- Operating profits in Q2 were up 53% to $60.7 million, translating into a 42% increase in operating margins year-over-year.
- Earnings per share went from 55 cents to 82 cents, a 49% increase.
Another important point is that at the end of the second quarter, Acuity had a $163 million backlog and March orders were looking good as well. It announced that in order to meet rising commodity costs, the company is raising its prices 3-10% in early May.
In terms of 2008 guidance, there seems to be relatively good conditions in the non-residential lighting market (its primary target) with new commercial construction continuing, albeit at a slightly slower pace. Acuity anticipates some weakness in the residential market (a secondary target) as the subprime mess continues to sort itself out and the consumer reacts to the economic slowdown. It will most likely affect the company at some point in the future, but right now the future looks bright.
Meet the Competition
Acuity competes in the lighting equipment industry with three other public companies: Cooper Industries (NYSE:CBE); Hubbell (NYSE:HUB.B); and Genlyte Group, part of Royal Philips Electronics (NYSE:PHG). Together with Acuity, these four companies control 54% of the market. While Acuity's sales are half Cooper's, the industry leader, Acuity is No.1 in three markets: industrial; commercial and institutional; and outdoor. Its brands include Lithonia Lighting, Halophane and Mark Architectural Lighting - all well-known within the trades.
Is It A Good Buy?
Let's begin with a few important ratios: Acuity stock trades at:
- Price-to-sales: less than 1-times
- Price-to earnings: 13.1-times
- Price-to-book: 3.4-times
- PEG ratio: less than one.
- Return on equity: 27.5%
- Return on assets: 12%.
So far, so good. Acuity has a reasonable level of debt (less than 1-times shareholder equity) and pays a dividend of 52 cents, currently yielding 1.2%. Add to that free cash flow of $200 million in fiscal 2007 and a stock that's down 23% in the last year, and you have the makings of a great deal. (Not sure what these ratios mean? Check out our Ratio Analysis Tutorial.)
I've always felt that unrelenting focus wins in business. It doesn't pay to be sending mixed messages to employees and investors alike, who would otherwise be committed to the company and its vision for the future. How can you possibly convince investors of your plan when you're not sure yourself. Acuity unleashed untapped potential when it spun off Zep. Before last November, I probably wouldn't have bought the stock. Today, I see a strong future for Acuity Brands.
For more on the battle between broad and narrow-focused companies, read Conglomerates: Cash Cows Or Corporate Chaos.