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Why You're Smart to Buy Johnson Controls

By Lee Samaha - Jun 15, 2021 at 9:01AM

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A value pick in the industrial sector.

A mix of near- and long-term growth drivers makes Johnson Controls (JCI 3.00%), -- a provider of building products and heating, ventilation, and air-conditioning (HVAC) systems -- a smart place to invest right now. They all make the company one of the best stocks as the economy prepares for the post-pandemic environment. Here's why.

Introducing Johnson Controls

Before getting into the details, here's a quick look at how Johnson Controls makes money. In a nutshell, it's a combination of global HVAC systems and services (with a heavy weighting toward commercial rather than residential HVAC) and other building systems, including fire protection and security products. The chart below breaks out the company's sales in 2020.

Commercial buildings

Image source: Getty Images.

The industrial company's heavy exposure to commercial HVAC can be seen in the chart. Although the fire and safety business does offer products to the residential market, the overall picture is one of a company with hefty exposure to commercial buildings. In terms of geography, Johnson generated slightly more than 49% of its sales in the U.S. in 2020.

Johnson Controls revenue share

Data source: Johnson Controls. 

Three reasons Johnson Controls can outperform the stock market

The case for buying the stock rests on three connected reasons:

  • The exposure to commercial buildings, and their HVAC solutions, means it's well placed for the coming wave of building reopenings.
  • Over the long term, Johnson has a substantive growth opportunity coming from increasing regulatory requirements around building efficiency and net-zero carbon emissions.
  • The company's OpenBlue (a collection of connected solutions that uses artificial intelligence to improve a building's performance) will drive higher-margin service sales and improve the overall offering to customers.

Commercial HVAC is coming back

It's no secret that residential HVAC sales surged during the lockdown as consumers spent more on home improvement. In this context, Johnson's focus on commercial HVAC means it wasn't a major beneficiary of the stay-at-home phenomenon. However, while residential HVAC remains very strong, pent-up spending on commercial HVAC will likely be released.

Indeed, Johnson's rival Carrier (CARR 2.14%) reported a 15% growth in commercial HVAC orders in its recent first quarter after three quarters of flat or negative growth. So as the economy opens up, the baton of growth will likely pass to the commercial side, and that's good news for Johnson Controls.

In addition, the post-pandemic environment is likely to bring an increased emphasis on healthier, cleaner buildings. It's an emerging trend that companies like Honeywell International (HON 1.19%), Carrier, and Johnson Controls are looking to take advantage of. For example, Honeywell CEO Darius Adamczyk said his company's building technologies segment (a direct rival of Johnson Controls) was trending "better than expected." As a result, he raised full-year sales and earnings guidance for the segment on the last earnings call. 

It all points to an increasingly favorable environment for Johnson in the near term.

IoT connected buildings

Image source: Getty Images.

Net-zero buildings and OpenBlue

Both these profit drivers speak to the long-term potential for Johnson Controls. Management believes that there's a substantial opportunity in the need to retrofit buildings to comply with net-zero carbon emission aspirations and regulatory requirements. CEO George Oliver said on the recent earnings call that buildings represent "40% of global greenhouse gas emissions," and "large-scale investment in decarbonization is at an inflection point." Oliver sees the investments required for commercial buildings to achieve net-zero goals reaching the hundreds of billions of dollars. 

The growth opportunity in net-zero building requirements is particularly relevant for higher-quality HVAC players like Johnson, Carrier, and Trane Technologies. They all have an opportunity to grab market share from smaller players that aren't investing in digital technologies to create smart, healthy, and sustainable buildings.

Johnson's collection of connected digital solutions is called OpenBlue. Using OpenBlue's internet-enabled technology, building owners can use data analytics and artificial intelligence to monitor, diagnose, and predict the performance of building systems. This is essential for ensuring regulatory compliance and improving efficiency. As such, OpenBlue will add value to the company's overall offering and lead to higher-margin services revenue.

Is Johnson Controls stock a buy?

Given that its exposure to commercial buildings means it will recover relatively later than many of its peers, it's probably a good idea to think longer term with valuations. As such, Wall Street has the company trading at 21 times its free cash flow in 2022. That's an attractive valuation for a company on track for a combination of mid-single-digit revenue growth and double-digit increases in earnings and free cash flow in the coming years.


Lee Samaha owns shares of Honeywell International and Trane Technologies plc. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.

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Stocks Mentioned

Johnson Controls International plc Stock Quote
Johnson Controls International plc
$58.05 (3.00%) $1.69
Honeywell International Inc. Stock Quote
Honeywell International Inc.
$200.87 (1.19%) $2.36
Trane Technologies plc Stock Quote
Trane Technologies plc
$163.56 (3.10%) $4.92
Carrier Global Corporation Stock Quote
Carrier Global Corporation
$43.97 (2.14%) $0.92

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