Shares of defense contractor United Technologies (NYSE:UTX) are dodging the downturn on the Dow today, up 0.7% at last report and climbing. But why?
There are at least three good reasons for investors to feel optimistic about United Technologies stock. In the company's full-year-earnings report for 2013 released this morning, it announced that:
- Revenue grew a respectable 9% to $63 billion, with organic growth contributing 1% of the total.
- Operating profit margin on this revenue expanded by 130 basis points to hit 15.3%.
- As a result, earnings climbed faster than revenue, up 16% from 2012 to $6.21 per share last year (analysts had expected $6.16).
Additionally, United Technologies noted that its free cash flow of $5.8 billion exceeded net income for the year. Even better, CEO Louis Chenevert highlighted several trends that suggest that the company is on a growth path that will keep good news coming this year.
For example, while full-year-sales growth outside of acquisitions was a mere 1%, Chenevert noted that growth in such existing business lines accelerated throughout 2013, culminating in a respectable 4% sales bump in the final quarter of the year. Management thinks that for 2014 the company can grow earnings a further 10% to perhaps $6.85 per share, with "cash flow from operations less capital expenditures equal to net income attributable to common shareowners." In other words, free cash flow should equal or exceed the net income figure United Technologies reports under generally accepted accounting principles standards.
So... GAAP earnings that can be relied upon as truly reflecting the company's profitability? That's surely a good thing. But are these numbers good enough to justify buying the stock?
What it means to you
I think not, and I'll tell you why. Right now, United Technologies shares sell for about 18.7 times reported income and 18.4 times actual free cash flow. These may not seem like egregiously high valuations, but remember that they don't account for United Technologies's $16.6 billion net debt load. Factor debt into the picture and the valuations rise to 21.3 (valued on earnings) and 20.9 (valued on free cash flow).
Analysts think United Technologies will only grow profits at about 12% annually over the next five years, though. And that's really not fast enough to justify earnings multiples in the high teens to low 20s.
Sure, value United Technologies on the earnings and free cash flow that it expects to earn this year, and the company's "forward" valuations are cheaper. But they're not cheap enough relative to analysts' projected 12% growth rate. And with United Technologies itself only promising 10% growth, the stock could even turn out to be more expensive than it looks.
Given that it already looks pretty expensive, that's not a good thing.
Fool contributor Rich Smith has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.