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Tickers in this Article: PLL, DCI, CLC, BA, GE, TYC
Looking at the results of companies in the broadly-defined filtration business, for example companies like Donaldson (NYSE:DCI) and Clarcor (NYSE:CLC), it may be tempting to decide that the run in industrial filtration is over and it is time to move on to other ideas. In the case of Pall (NYSE:PLL), though, that may not be the wisest long-term move. While Pall is certainly not performing at peak potential, the opportunities that seem to be left in the company and stock make it a worthy consideration for a long-term investor.

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A Tough End to the Year
Pall pre-announced a disappointing fourth quarter result, so the market has already had a chance to digest the news and punish the stock accordingly. Pall reported that revenue rose 15% on a reported basis, with constant currency sales growth of about 6%. Growth was led by the life sciences business, with 8% constant currency growth. This segment is slightly more than half of the company's total sales. On the industrial side, growth was a more modest 5% (again on a constant currency basis).

Of particular note, the biopharma and energy/water businesses, Pall's two largest sub-segments, were among the two strongest in terms of constant-currency growth (the food/beverage business was technically stronger, but it is about 10% of total sales). Despite notable design wins with Boeing (NYSE:BA) and Airbus, the aeropower business was the slowest grower of the bunch (though there was meaningful growth in the military aircraft backlog).

Profitability was not impressive this quarter. Overall gross margin fell more than a point on a significant (more than four point) drop in gross margin in the industrial segment. While Pall has the normal input cost pressures as other industrials, product mix (in the industrial category) played a big role. Operating performance was more nuanced, but still not good. While life sciences was up nicely on a segment basis (up 24%), industrial operating profits fell 26% and overall "core" operating income fell 1%.

A Good Mix That Should Be Better
Why own a company with an industrial filtration business heading into what looks like another global economic slowdown? For starters, Pall's industrial business has good exposure to markets like municipal water, utility power and aerospace, and those are looking reasonably good (though certainly budget-stressed municipalities can cut budgets and aircraft orders can disappear).

More importantly, Pall has a great life sciences business. Due to its membrane and filtration technology, Pall has a near-duopoly with Millipore in many markets. Likewise, Pall competes quite effectively with the likes of General Electric (NYSE:GE) and Tyco (NYSE:TYC) in many markets.

The company has a solid record of double-digit returns on capital so it's hard not to feel that the company shouldn't do better. Why, for instance, shouldn't Pall do better than Clarcor when it has the benefit of the more stable and highly profitable medical and biopharma markets? Perhaps the company's new CEO can unlock some of that value; if not, there is always the possibility that a larger company will view it as a takeout candidate with significant internal improvement potential.

The Bottom Line
Even if Pall can do no better than it is, it looks priced to deliver double-digit returns for several years. That is not to say that it will be easy; a pronounced decline in the economy (and industrial activity) will hurt the industrial business and depress overall results. Wall Street is not likely to drop its short-term growth obsession any time soon, and that could be problematic for the valuation. But for long-term investors who want a long-term relationship with a company that not only serves multiple growth markets but holds strong share and reputation in them, Pall is a good candidate to consider. (For additional reading, also check out Industries That Thrive On Recession.)

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