Danaher Corp. Sells Off, but Is It a Good Value?

Danaher Corp. released a disappointing set of earnings, which contained mixed messages for Agilent Technologies, Pall Corporation, and Patterson Companies. With that said, it's starting to look like a good value.

Lee Samaha
Lee Samaha
Jul 22, 2014 at 1:01PM

Unfortunately, Danaher Corp. (NYSE:DHR) unveiled a second-quarter set of results that only sought to prove how choppy the global economic recovery has been. Its earnings were mixed, with its life science operations notably outperforming other industrial areas -- in common with what Pall Corporation (UNKNOWN:PLL.DL) has been reporting. Moreover, the two principal areas of weakness should sound a note of caution to other investors.

Danaher Corp. saw weakness in its communications results -- test and measurement segment. This doesn't bode well for Agilent Technologies (NYSE:A). Also, dental consumables sales disappointed; they looked more promising in the previous quarter. This isn't a good sign for dental distributor Patterson Companies, Inc. (NASDAQ:PDCO).

Danaher Corp. disappoints
Going into the second quarter, investors had some cause for optimism. After all, in the first quarter, the company had recorded core revenue growth of 3.5% -- at the high end of its full-year forecast of 2%-4% core revenue growth. However, the second quarter saw core revenue growth slow to 3%.

In addition, Danaher Corp. saw margin growth held back by some setbacks in its communications and dental consumables businesses. Readers can see how this affected profit growth in the following chart.

Source: Danaher Corp. Presentations

In fact, the issues spoiled Danaher's otherwise excellent record of segmental operating margin expansion.

Source: Danaher Corp. Presentations

What went wrong for Danaher Corp.?
Quoting from Danaher Corp.'s management on the conference call reveals that the weakness in communications looks set to carry forward into future quarters.

Core revenues in our Communications platform decreased at a low double-digit rate... As expected, our network monitoring business was adversely affected by delays in wireless carrier spending, which we now believe will also result in negative growth for the platform for the rest of the year.

In a sense, investors can't be overly surprised by this, because the company had reported a "choppy start" in the test and measurement segment in the first quarter. In addition, Agilent Technologies Inc reported a 6% decline in its communications revenue -- which it's spinning off as part of a new company called Keysight -- in its second quarter. Moreover, the Americas region was down double digits on the year for Agilent Technologies communications operations. Given Danaher Corp.'s commentary in wireless carrier spending, it's reasonable to expect more challenges ahead for Agilent Technologies.

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Similarly, the weakness in Danaher Corp.'s dental consumables sales might have been predicted following Patterson Companies' fourth-quarter earnings, which were delivered in May. Patterson Companies' consumable dental supplies revenue grew a paltry 0.4%, as management blamed the poor weather for "probably a 100-200 basis point impact." However, its management went on to say that it expected market growth "to be close to GDP" going forward. So, perhaps this was just a quarterly blip in dental consumables for Danaher Corp.?

Elsewhere, the life science segment remains strong for Danaher Corp., with life sciences and diagnostics core revenue increasing 5%, and reported revenue up 7%. Fools already know that Pall Corporation has seen a bifurcation in performance, with its life science segment notably outperforming its industrial operations. Industrial companies remain relatively conservative in their capital spending plans, but life science spending is doing fine. For example, Pall Corporation reported a 12% rise in its biopharmaceutical consumable sales in its recent third quarter, and Agilent Technologies reported 4% growth in its pharma/biotech-based sales. The good news is -- as is demonstrated above -- the life sciences and diagnostics segment is, currently, the biggest profit generator for Danaher Corp..

Where next for Danaher?
All told, Fools can expect an improvement in Danaher Corp.'s dental operations; but the weakness in communications looks like it will drag on. The latter is not good news for Agilent Technologies, not least if it wants to successfully spin off Keysight later in the year. While these issues are frustrating for Danaher Corp.'s shareholders, they are also likely to be priced into the stock now. Indeed, the company's impressive free-cash flow generation continues, with nearly $3 billion generated in the last four quarters -- representing around 5.6% of its current market cap. That's not bad for a company with earnings set to grow by 8.4% and 12.1% in the next two years. Aside from dental consumables and communications, the rest of Danaher Corp. remains in margin expansion mode and, after the recent sell-off, Danaher looks a good value.