Wall Street Is Snoozing -- This Value Stock is a Buy Today

It's no secret that institutional money moves markets, but that doesn't mean that Wall Street is always right. In the case of Stanley Black & Decker (SWK), the market appears to be taking a very short-term view of matters. Simply put, the stock is being sold off due to fears over near-term earnings even while management is positioning the company for solid growth for many years to come. Here's why Stanley is an attractive stock for investors.

Stanley Black & Decker in 2021

The company's year has been a variation on a common theme in the industrial sector and the tools and hardware sector. It goes a bit like this: Companies started the year giving tentative guidance as the somber mood of the pandemic gave cause for a lot of uncertainty.

Image source: Getty Images.

By the end of the first and second quarters, it was clear that growth would be more robust than many had anticipated, but that growth was creating cost pressures in the form of supply chain issues and soaring raw material costs. The third quarter saw growth remaining strong but starting to come under pressure from supply chain constraints while cost headwinds soared more than anticipated.

Stanley's year is a perfect representation of these factors. In particular, note how the rising inflation and cost headwinds eat into the earnings expectations in the third quarter.

Data source: Stanley Black & Decker presentations.

In a nutshell, this is the main reason why the market has sold the stock off since the summer.

Stanley Black & Decker in 2022

The other reason is that the cost headwinds are expected to continue into 2022. During the recent earnings call, CFO of its Tools & Storage division Lee McChesney said he was forecasting carryover cost headwinds of $600 million to $650 million in 2022. 

The rising costs are putting pressure on the company's profit margins. For example, on the earnings call, CFO Don Allan agreed that the company's fourth-quarter operating margin would be around 11% (compared to 14.6% for the full-year 2020). Allan then sees continued progression on margin through 2022 as the cost headwinds improve and pricing actions start to offset them.

However, when all is said and done, it doesn't look like the full-year operating margin will improve a lot in 2022. Indeed, Wall Street analysts have an operating margin of 13.7% penciled in for 2022 -- again, a figure notably below the 2020 margin and probably below the 2021 margin as well. That's one of the reasons why the market sold the stock off.

Image source: Getty Images.

Why Wall Street is thinking too short-term

While it's understandable that the stock sold off, it's also reasonable for long-term investors to look at this as an ideal buying opportunity. There are three reasons why.

First, note that management is talking about margin progression through 2022. While there's no guarantee that the issues causing the cost increases will diminish, history suggests commodity prices are cyclical, and the rate of growth will slow. Meanwhile, the supply chain issues will indeed get worked through over time.

In addition, management is enacting price increases, surcharges, and cost cuts to offset those issues. As the year progresses, the narrative around the stock should change to one of rising margins.

Second, while the 2022 operating margin may be flat compared to 2021, revenue is set to boost, with analysts expecting a jump to more than $20 billion from $17.2 billion in 2021. It's an increase driven by mid-single-digit volume growth, pricing actions, and the contribution of MTD and Excel (two lawn and garden equipment companies acquired in 2020).

As such, operating income is expected to rise by 15.4% to $2.8 billion, and free cash flow (FCF) is expected to bounce back to nearly $2 billion. Based on the current market cap, Stanley would trade on 16 times 2022 earnings and less than 16 times FCF. It's a value stock that's too cheap to ignore. 

Image source: Getty Images.

Third, the short-term view ignores all the ongoing strategic developments at the company. For example, the MTD and Excel acquisitions will add growth in the lawn and garden equipment category. Management believes it can significantly expand margin performance in those businesses in the coming years.

In addition, COVID-19 boosted Stanley's online sales, and global e-commerce revenue rose 20% in the third quarter. Finally, during the earnings call, CEO James Loree said the company had "the largest pipeline we have ever had with new products across all our major categories and end-users." That's something backed by the "approximately $200 million of new innovation and growth investment projects in process which are included in our second half 2021 run rate."

A stock to buy

Based on 2022 earnings expectations, the stock is very attractive. Of course, no investor likes to see a company cut earnings estimates, but the reasons it was cut aren't likely to stick around. Meanwhile, the company's long-term growth aspirations look assured.