Please ensure Javascript is enabled for purposes of website accessibility

3 Things Johnson Controls' Management Wants You to Know

By Scott Levine - Mar 15, 2016 at 11:35AM

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More

In addition to M&A talk, management had plenty to say about the kickoff quarter for 2016.

A magazine ad from 1896 shows how Johnson Controls has more than a century of experience in making buildings more comfortable. Source: Johnson Controls.

When a company reports its quarterly earnings, management often presents just a sketch of how the company performed. But equally important for investors is the conference call -- where management's commentary colors in the sketch, providing the full picture of the company's recent performance. For Johnson Controls(NYSE: JCI), the merger with Tyco International (NYSE: TYC) makes up a lot of the sketch, but let's take a look at some highlights from the conference call to help discern the full picture for Q1 2016.

Keeping expectations in check
One figure that jumps out from the earnings report is the 260-basis-point margin improvement in the power solutions segment. Though it's impressive, management doesn't want to hoodwink investors. According to Alex Molinaroli, chairman and CEO, the company is not solely responsible for the improvement -- rather, it has benefited from external forces: 

"One of the things we wanted to make sure that we pointed out is don't give us all the credit for the 260 basis points of margin improvement, because that's not all operational, because as things move around we may not be able to continue at that level."

Providing automotive, marine, and other lead acid batteries, Johnson Controls is strongly affected by lead prices. For this quarter, the impact was favorable -- the average price of lead was 16% lower than Q1 2015. Removing the effect of lower lead prices (and foreign currency exchange), the power solutions segment still reported margin expansion of 70 bps for the quarter.

In the future, investors can assess margin growth in the power solutions segment by referring to guidance which management reported in December. During an investor presentation, it projected a segment margin of 17% for FY 2016; moreover, it forecasted average annual improvement of 40 bps to 50 bps through 2020, culminating in margin expansion to 18.5% to 19%.

This glass may soon be half empty 
Further demonstrating his circumspect outlook, Molinaroli cautioned investors that organic improvement (excluding the joint venture with Hitachi) in the building efficiency segment is at the mercy of three factors: China, the Middle East, and federal jobs. In China, the company claims that it's having trouble securing orders and then executing them.

Regarding the Middle East, Johnson Controls reported revenue growth of 31% quarter over quarter because of the completion of several projects, but it doesn't expect to sustain -- because of low oil prices -- that type of improvement.

Lastly, with federal jobs, the company had expected to secure several projects in early 2016; however, it's now unsure if they'll be secured at all. Should all three factors adversely affect the company, sales growth may be cut in half, falling in the range of 4.5%-5.5% instead of the 9%-11% the company had previously forecast. 

Capital allocation
During the earnings call, management addressed returning money to shareholders in two ways. First, the company will resume buying back shares. Announcing the program in FY 2014, management identified $3.65 billion as the amount it intended to buy back through 2017. Although it put the program on hold because of the automotive interiors spinoff, management expects to repurchase about $500 million through FY 2016. 

Management's focus on the share buyback program isn't coming at the expense of attending to the dividend policy. Last year, the company raised the FY 2016 quarterly dividend to $0.29 -- a 12% increase over the $0.26 it paid out in FY 2015. Furthermore, Molinaroli is hopeful about the future:

"Depending on where we are -- if you look at the cash flows that we look at it's going to ramp up because we will still have some trailing costs as it relates integration, moving into next year even the separation. So I think as our cash flows improve, depending on where we are with integration, I would expect that we're going to make the right decision as it relates to whether we return that to the shareholders or make investments."

The takeaway
Although management is warning investors of less than expected revenue growth in both the building efficiency and power solutions segments, it's holding fast to its other guidance -- diluted EPS between $3.70 and $3.90 for FY 2016. As the automotive business is spun off, there will be increased scrutiny on the remaining two segments. Investors should keep an eye on the power solutions segment margin and whether management is achieving it's forecasted average annual margin expansion. Investors should also look for management's decision to return money to shareholders -- a sign of healthy cash flow and an indication that management is executing the various M&A activity as planned.

Invest Smarter with The Motley Fool

Join Over 1 Million Premium Members Receiving…

  • New Stock Picks Each Month
  • Detailed Analysis of Companies
  • Model Portfolios
  • Live Streaming During Market Hours
  • And Much More
Get Started Now

Stocks Mentioned

Johnson Controls International plc Stock Quote
Johnson Controls International plc
$48.68 (0.49%) $0.24
Tyco International plc Stock Quote
Tyco International plc

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

Related Articles

Motley Fool Returns

Motley Fool Stock Advisor

Market-beating stocks from our award-winning analyst team.

Stock Advisor Returns
S&P 500 Returns

Calculated by average return of all stock recommendations since inception of the Stock Advisor service in February of 2002. Returns as of 06/29/2022.

Discounted offers are only available to new members. Stock Advisor list price is $199 per year.

Premium Investing Services

Invest better with The Motley Fool. Get stock recommendations, portfolio guidance, and more from The Motley Fool's premium services.