Tactical Partnerships And Innovations Drive Growth In Electrification And Trucking Markets

Key Takeaways

• Cummins' shift towards electrification and strategic partnerships for product diversification hints at long-term revenue growth and market expansion.
  
• Government support and record revenues indicate strong operational efficiency, pricing power, and a positive outlook on growth and earnings.
  
• Cummins faces challenges from a weaker truck market, supply chain issues, slower e-mobility transition, growing global competition, and economic and regulatory uncertainties affecting earnings and growth.

Catalysts

Designs, manufactures, distributes, and services diesel and natural gas engines, electric and hybrid powertrains, and related components worldwide.

• Cummins' strategic partnerships and product launches, including the launch of a new 6.7-liter engine for Isuzu's medium-duty truck lineup and plans to launch a battery electric powertrain for Isuzu's F-Series, signal expanded market access and product diversification. This will likely enhance revenue and earnings by tapping into new markets and segments.
  
• The formation of the joint venture, Amplify Cell Technologies, with Daimler Trucks and buses and PACCAR for localizing battery cell production, indicates a pivot towards electrification and battery technology which can lead to increased revenue streams from new energy sectors and potentially improve net margins with high-demand, cutting-edge products.
  
• The $75 million grant awarded to Cummins from the Department of Energy for converting manufacturing space for zero emissions components underscores government support for Cummins' innovative initiatives. This can boost the company's position in the zero-emissions market, directly impacting revenue from new product lines and possibly enhancing earnings through subsidies.
  
• Record revenues reported in the second quarter of 2024, driven by continued high demand and improved pricing, hint at operational efficiency and pricing power. This can lead to sustained or improved margins and earnings as Cummins seems capable of navigating supply chain challenges and inflationary pressures effectively.
  
• The increased revenue guidance to down 3% to flat and an EBITDA guide of 15% to 15.5% for 2024 reflect management confidence in Cummins' growth trajectory and operational efficiency. Expectations of higher revenue in Engines, Power Systems, and Distribution segments, offsetting slightly lower revenue expectations for the Accelera business, indicate a balanced growth approach across various business units, likely resulting in stable earnings growth.

Assumptions

• Analysts are assuming Cummins's revenue will grow by 2.7% annually over the next 3 years.
• Analysts assume that profit margins will increase from 5.7% today to 8.4% in 3 years time.
• Analysts expect earnings to reach $3.1 billion (and earnings per share of $23.38) by about October 2027, up from $1.9 billion today. However, there is some disagreement amongst the analysts with the more bullish ones expecting earnings as high as $4.0 billion.
• In order for the above numbers to justify the analysts price target, the company would need to trade at a PE ratio of 17.3x on those 2027 earnings, down from 23.3x today. This future PE is lower than the current PE for the US Machinery industry at 21.3x.
• Analysts expect the number of shares outstanding to decline by 1.13% per year for the next 3 years.
• To value all of this in today's dollars, we will use a discount rate of 6.97%, as per the Simply Wall St company report.

Risks

• The anticipation of a weaker second half in the North American heavy-duty truck market could impact revenue and margins in Cummins' engine segment.
  
• Supply chain challenges and capacity constraints, particularly noted in the Power Generation segment, might limit Cummins' ability to meet demand, potentially affecting sales growth and operating efficiency.
  
• The reduction in Accelera's full-year sales guidance due to a slower energy transition could reflect broader risks in the e-mobility and electrolyzer markets, impacting future revenue streams.
  
• Increased competition in global markets, including challenges in maintaining or growing market share in China and the impact of new incentives by local governments, could affect international revenue and margins.
  
• The potential economic downturn and its unpredictable effects on Cummins' key markets, alongside the uncertainty of regulatory impacts from election outcomes, pose risks to future earnings and profitability across segments.

Valuation

• The analysts have a consensus price target of $331.15 for Cummins based on their expectations of its future earnings growth, profit margins and other risk factors. However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of $425.0, and the most bearish reporting a price target of just $250.0.
• In order for you to agree with the analyst's consensus, you'd need to believe that by 2027, revenues will be $37.0 billion, earnings will come to $3.1 billion, and it would be trading on a PE ratio of 17.3x, assuming you use a discount rate of 7.0%.
• Given the current share price of $331.14, the analyst's price target of $331.15 is 0.0% higher. The relatively low difference between the current share price and the analyst consensus price target indicates that they believe on average, the company is fairly priced.
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.