A promised U.S infrastructure bill in 2021 is likely to be excellent news for companies with exposure to road building, water infrastructure, and construction on infrastructure in general. That's why investors in equipment manufacturer Deere & Company (DE -14.07%), sustainable water company Xylem (XYL -0.32%), and engineering, design, consulting, and construction management company AECOM (ACM -0.35%) are getting their hopes up about government proposals currently in discussion.
Let's look at why all three of these stocks with an infrastructure focus might be attractive companies for investors in April.
1. Deere & Company
This manufacturer is better known for its iconic agricultural machinery, but investors shouldn't overlook its exposure to construction and forestry equipment. The construction and forestry segment contributed around half as much in operating profit as the agriculture and turf segment did in 2019.
Deere's exposure to infrastructure comes from two primary sources. First, lumber prices have already hit all-time highs on the back of increased demand for its use in housing and construction projects. Increased investment in infrastructure will only strengthen that demand, and that's likely to mean an expansion in sales for Deere's forestry equipment.
Second, Deere's $5.2 billion acquisition of Germany's Wirtgen in 2017 made it one of the world's leading providers of end-to-end road construction solutions. From quarry excavators and earth-moving equipment to crushers, asphalt plants, and ultimately compactors and pavers, Deere is now a one-stop solution for road contractors.
With Deere's agricultural equipment sales improving on the back of a resurgent crop market and farmers buying into its smart-farming solutions, the company was already having a great 2021. Throw in the possibility of a boost in demand from an infrastructure bill, and Deere's stock has upside potential.
It's been a mixed few years for investors in Xylem. On the one hand, the stock price is up handsomely over the last three years. On the other, it's notably underperformed the S&P 500.
A quick look at its revenue sources helps shed light on why Xylem has underperformed the market in recent years. There are two main reasons. First, the industrial sector's weakness caused some disappointment in its industrial and commercial sales in 2019. Second, water utility companies have been relatively slow to adopt Xylem's smart infrastructure solutions, known as advanced infrastructure analytics (AIA).
Xylem's AIA smart metering and monitoring solutions use digital technology to help utilities deal with leakage, theft, and metering and billing issues. As such, they can play a critical role in improving water infrastructure.
A federal infrastructure bill could result in increased investment in water infrastructure, and that's likely to lead to more aggressive adoption of AIA services by U.S. utilities. That's good news in itself, and it could also encourage global adoption as U.S. utilities demonstrate the success of using AIA. Meanwhile, Xylem's core water and wastewater treatment pumps, mixers, turbines, products, and systems are likely to receive a boost from an increase in spending on U.S. infrastructure as well.
Finally, AECOM has many positive catalysts behind its earnings in the next few years. The engineering design consultancy and construction management company has heavy exposure to infrastructural spending, with the U.S. generating around 54% of its revenue. Moreover, management believes the Biden administration's stated priorities of accelerating clean energy investment in transportation, energy, and construction will benefit the company.
Alongside potential end market improvements from an infrastructure bill, AECOM has restructured its operations over the last few years, partly in response to criticisms from activist hedge fund Starboard Value.
Starboard argues AECOM has underperformed in recent years, and it would better serve investors by divesting its underperforming businesses in favor of focusing on its most profitable business areas and regions. Indeed, AECOM sold its management services business for $2.4 billion in January 2020, with the sale of its power construction business in October 2020, and the sale of the civil construction business in January 2021.
The restructuring led management to give a bullish outlook for margin expansion and future free cash flow generation at its investor day presentation in February. For example, management forecasts the operating margin will increase to 15% by 2024 from 12.3% in 2020 and an estimated 13.2% in 2021. Moreover, management plans to double earnings and free cash flow in the four years from 2020 to 2024.
Throw in a boost to its end markets from an infrastructure bill, and AECOM could hit its targets earlier than many expect.