Honeywell International (NYSE:HON) is in a place very similar to a lot of old guard industrial companies in the U.S. Sales have stagnated as technology products have become a bigger part of the economy. To offset that slow growth, management has been able to squeeze more money out of each sale by focusing on operational excellence.
As the company enters another year where little growth is expected on the top line, will this be Honeywell's best year yet?
Revenue growth has to pick up
2015 revenue is expected to have fallen 4.5% to around $38.5 billion, which isn't a good sign for any company. The decline was largely due to the strong dollar, and management is quick to point out that organic growth should be about 1%, but even that figure isn't very impressive.
2016 guidance looks a little better, with management expecting growth to $39.9 billion to $40.9 billion in sales, but that was largely driven by $5.5 billion in acquisitions made recently. And therein lies the problem for Honeywell long term. Its core businesses aren't growing organically, so it has to resort to acquisitions or margin expansion to grow the bottom line.
The aerospace business has been steady, but as a supplier to aircraft companies, Honeywell is at the whim of customers for growth.
The automation and control solutions segment is in an even tougher position, with companies like Google and Apple trying to innovate Honeywell out of the market. As the electricity business changes, Honeywell has both opportunities and threats, but so far, it doesn't seem to be out-innovating competitors, and given the high-tech competitors coming after the space, I don't know if it ever will.
Performance materials and technologies may be in the most trouble as the only business with declining organic sales last quarter. Low oil & gas prices will continue to have a detrimental effect on this business in 2016, offsetting lower costs for raw materials in the business.
The bright spot for Honeywell
I've focused on the top-line challenges for Honeywell so far, but investors have been extremely pleased with the company's improving operations of late. 2015 segment margins are expected to be 18.8%, up from 16.6% a year ago, and that's driving around 10% earnings per share and free cash flow growth. So, as long as margin expansion continues, we could see improving bottom-line results.
While margin expansion is great, there are also limits to how far this strategy can go. In 2016, management is expecting segment margins of 18.9% to 19.3%, so you can already see that improvement is slowing.
Not a lot to be excited about
For Honeywell to have anywhere near its best year yet, we would need to see significant top-line growth improvement and continued margin improvement. On the top line, even management is expecting slow growth, so I don't see a lot of reason to be excited for the upcoming year. On the bottom line, margin expansion has been a positive of late, but the low-hanging fruit has been picked, and improvements in the future will be harder to come by.
Shares of Honeywell aren't horribly expensive -- at 17 times trailing earnings and with a 2.4% dividend yield -- but unless the company finds a way to grow revenue more than low single-digits, I can't seeing this being its best year ever.