Eaton (ETN 2.27%) is a global industrial giant with a heavy focus on electrical products. It is well-positioned in a world that is increasingly digital. And according to management, the next few years are likely to be very good thanks to government programs meant to increase investment in key end markets.
But if you are watching Eaton, the number you'll want to pay attention to is backlog. Here's why.
Eaton is big on electricity
Eaton, which has been around for over 100 years, started its life serving the automotive sector. But it has a long history of shifting its business to keep up with the times, with the most recent big move taking place in late 2012 when it completed the acquisition of Cooper Industries. That purchase dramatically increased its exposure to electrical products.
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Since that point, Eaton has shed businesses, including its hydraulics operation, and made some bolt-on transactions. This had the effect of further emphasizing its electrical business. In the second quarter of 2023, electrical products (including both its Americas segment and global division) accounted for 70% of revenue. Very clearly, electricity is highly important to the company's future today.
But that's good news. Eaton should benefit from an increase in spending that will require a lot of electrical products. The company highlights that the amount of money spent on $1 billion-plus capital projects, which it calls mega projects, in the U.S. and Canada is running at three times the normal rate. Some of these projects are in areas where Eaton doesn't really compete, but many are right in the company's sweet spot, like data centers, chip manufacturing facilities, renewable power, and batteries, among others.
As an example of the opportunity ahead, Eaton highlighted the utility market during its Q2 2023 earnings call. Between 2022 and 2025, the company expects the utilities end market to experience 11% annualized growth. Meanwhile, it offers products that range from the generation of electricity, to the transmission of power, to the use and control of electricity in the home. In other words, it can benefit all along the value chain.
How can you track the opportunity?
These are all top-level views of the potential. Eaton is a well-run company, but it won't win every contract. That's why investors need to pay keen attention to this industrial giant's backlog. Backlog basically amounts to the orders the company has lined up but hasn't yet delivered on. Right now, according to management, the company's backlog provides great visibility into its growth outlook.
For instance, the electrical business witnessed a year-over-year backlog increase of 22% in Q2. That was largely driven by the Americas segment's backlog, which was 30% higher year over year. This division made up nearly 45% of sales in the quarter, so that's a very substantial underpinning for growth. And it highlights that the company has a lot of work on the books over the next year or so to keep powering revenue and earnings.
A second number to keep in mind is the book-to-bill ratio, which stood at roughly 1.2 in Q2. That basically means that for every $1 of electrical products delivered to customers, the company signed deals worth $1.20 of future sales. That's a pretty strong number and hints that the backlog is likely to keep growing for a while longer. The bigger the backlog, the brighter the future for Eaton.
Eaton is already hitting records
What's most exciting here, however, is that Eaton posted an all-time record for adjusted earnings, segment operating profit, and segment margin in Q2. So the sizable and growing backlog suggests that more records may lie ahead for this industrial stock as it continues to execute well in a robust demand environment. If you own Eaton, keep an eye on the backlog. As long as it remains strong, the future here will likely remain quite bright.
