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Even After Recent Gains, UTX Stock Still Has Plenty of Gas in the Tank

The Raytheon merger is a long-term boost for UTX stock

United Technologies (NYSE:UTX) announced the merger with Raytheon Company (NYSE:RTN) on June 9, 2019. After initial jitters, UTX stock has trended higher by 28% from lows of $122.94 post-merger announcement.

Even After Recent Gains, UTX Stock Still Has Plenty of Gas in the Tank
Source: Casimiro PT / Shutterstock.com

I believe that there is still more juice in the rally as the merger and spin-off is likely to be value-creating. UTX stock, therefore, can be considered and a Pro-forma outlook for 2020 in the foreseeable future can take the stock higher.

As a quick overview of the impending merger and spin-off, the aerospace and defense business will operate as Raytheon Technologies post-merger. United Technology shareholders will own 57% and Raytheon shareholders will own 43% in Raytheon Technologies.

Further, the OTIS and Carrier business will be spun-off into two separate entities. The OTIS business will focus on elevators and escalators. The Carrier business will focus on air conditioning (HVAC).

On one hand, I believe that the creation of Raytheon Technologies will translate into a stronger and diversified business. On the other hand, the listing of other divisions as a separate entity will provide scope for value unlocking. Overall, the segregation will provide investors with a simplified business model.

The Benefits of Raytheon Merger

There will be more insights when United Technologies releases the Pro-forma numbers and initial guidance for Raytheon Technologies.

However, there is little doubt that the merger will be value-creating. Among various factors, I want to point out that Raytheon reported strong numbers for 2019. The company reported bookings of $36.3 billion for FY19 and an order backlog of $48.8 billion as of December 2019. This provides clear revenue visibility and an increase in order intake is likely to sustain.

In addition, the following points are worth noting –

  1. Raytheon reported operating cash flow of $4.5 billion for 2019. United Technologies was expecting Pro-forma free cash flow of $6 billion in 2019. It is further expected to swell to $8 billion by 2020. This seems entirely likely considering the cash flows for Raytheon and the growth visibility backed by a strong order book.
  2. For 2020, Raytheon expects sales growth in the region of 6% to 8% as compared to 2019. United Technologies will feel the negative impact of 737 Max grounding in 2020. However, the merger with Raytheon will help in offsetting this decline in revenue.
  3. Based on the merger presentation, the leverage (net-debt-to-EBITDA) for United Technologies is at 3.0 for 2019. For Raytheon Company, the leverage for the same period-end is 0.37. Therefore, United Technologies stands to benefit in terms of lower leverage for the merged entity and potentially better credit metrics.

Positive on Carrier and HVAC Segment

I believe that the potential spin-off of Carrier business will also translate into value creation for shareholders in the long-term. Trends such as climate change, urbanization and the rise of the middle class are likely to support growth for HVAC, refrigeration and fire & security. In particular, the HVAC segment will remain the revenue and cash flow driver.

Further, the company stands to benefit from new equipment sales as well as services and aftermarket. As sales growth globally, the services revenue will also trend higher over time.

From the perspective of financials, the Carrier segment is likely to deliver marginal growth in sales for 2020. However, the medium-term expectation is mid-single-digit growth in sales and high single-digit growth in EPS.

The company is also working on cost reduction and the launch of new products in order to drive margin expansion. As the EBITDA margin expands, free cash flow is also likely to swell. For 2020, the company expects free cash flow for the Carrier business in the range of $1.30 to $1.40 billion.

My Concluding Views on UTX Stock

Even after a strong rally in the recent past, UTX stock is worth considering. The merger with Raytheon and creation of Raytheon Technologies will create long-term value. In addition, the spin-offs have the potential to grow as standalone entities.

Also, United Technologies announced a quarterly dividend of $0.735. Considering the potential growth in the aerospace and defense segment, I believe that dividends will sustain and potentially grow in the coming years.

Overall, UTX stock is worth holding in the medium to long-term portfolio.

As of this writing, Faisal Humayun did not hold a position in any of the aforementioned securities.


Article printed from InvestorPlace Media, https://investorplace.com/2020/02/utx-stock-plenty-gas-in-the-tank/.

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