Many stocks in the S&P 500's industrial sector are viewed as stodgy, low-growth businesses with market-matching total returns at best. However, rising more than 2,700% since the turn of the millennium, industrial automation and digital transformation specialist Rockwell Automation (ROK 1.15%) seems to dismiss this notion.
Despite this incredible run, Rockwell's share price has merely matched (roughly) the total returns of the S&P 500 index over the last five and 10 years, and is now down 20% from its 52-week highs.
Is Rockwell's market-beating run nearing an end, or is the automation-focused company poised to surge back ahead over the coming decades?
Here's why I'm thinking it's the latter.
A pure-play market leader in industrial automation
Offering a wide array of industrial automation and digital transformation solutions, Rockwell operates through three business segments:
- Intelligent devices: Drives, motion, industrial components, safety, sensing, and material handling products used in the manufacturing process.
- Software and control: Control visualization software and hardware, digital twins, simulation software, information software, and networking and security infrastructure.
- Lifecycle services: Consulting, professional services (engineered-to-order solutions), cybersecurity, and asset management.
This end-to-end suite of solutions helps manufacturers modernize and streamline their operations, bringing them into the digital age -- along with valuable cost savings. What makes Rockwell's solutions particularly promising at the moment, however, is the fact that the Manufacturing Institute projects that the United States will face a 2.1 million shortage of skilled manufacturing workers by 2030.
A shortage like this moves Rockwell's offerings from merely a "nice to have" for more well-off businesses to an absolute necessity for an increasing number of manufacturers. Furthermore, as the number of use cases for artificial intelligence and machine learning continues to balloon, it will be vital for manufacturers to integrate Rockwell's products into their operations to see any benefit from these new technologies.
While the mega-trend working in the company's favor here seems evident, you may think, "Great, but how do we know Rockwell is the best among its peers?"
An excellent way to quantitatively answer this question is to compare its return on invested capital (ROIC) to its peer group, as historically, companies with a higher ROIC have tended to perform better over time.
ROK Return on Invested Capital data by YCharts.
According to this chart, Rockwell has historically maintained the highest ROIC over time despite recently being matched by ABB. Measuring a company's profitability compared to its debt and equity, a consistently high ROIC can indicate a wide moat for a business.
A history of successful acquisitions
This high ROIC is even more promising for Rockwell because it comes alongside the company's history as a serial acquirer. Rockwell has made 20 acquisitions since 2016, and is continuously looking for smaller tuck-in acquisitions that complement its core business.
The company's high ROIC is essential in this case because it shows how successful management is at finding these acquisitions at a reasonable price and quickly bringing them to profitability. Highlighting this point, the 20 additions the company has made since 2016 are now estimated to generate over $200 million in earnings before interest, taxes, depreciation, and amortization (EBITDA).
This $200 million equals roughly 10% of the company's total EBITDA, highlighting that management is slightly outperforming its goal to add 1% in new business annually through acquisitions since it did this in seven years.
The cherry on top for investors? The company expects these acquisitions to continue growing by roughly 15% going forward, leaving me confident that Rockwell's ROIC should continue to fly high.
Why now is the time to consider Rockwell Automation
In addition to the megatrends supporting Rockwell's operations and its promising track record of acquisitions, the company's valuation now sits well below its five-year averages.
ROK PE Ratio data by YCharts.
Even compared to the S&P 500's price-to-earnings (P/E) ratio of 25 and an earnings yield of 4%, Rockwell trades at a slight discount.
Best yet for investors, the company pays a 1.8% dividend yield that only uses 39% of its net income. Rockwell has raised its dividend for 14 consecutive years, nearly quadrupling its payments over that time.
Management expects sales and earnings per share to remain roughly flat in fiscal 2024 with the weak macroeconomic environment, but Rockwell has a history of outpacing industrial production growth. Since 2016, the company has delivered sales growth 4.1 times higher than the industrial production growth rate, showing its ability to take market share.
With higher-growth manufacturing end markets such as electric vehicles (EVs), semiconductors, e-commerce and warehousing, life sciences, and mining (such as lithium for EV batteries), Rockwell's growth story could just be starting. Thanks to the long-term potential provided by these end markets, paired with the company's consistently high ROIC and successful track record of acquisitions, Rockwell Automation looks like a magnificent dividend grower available at a fair price.
