Bosch Divestiture Will Allow Focus On Higher-Margin Segments

Key Takeaways

• Strategic transformation and divestiture efforts aim to improve operational efficiency and focus on higher-margin segments, enhancing revenue and net margins.
  
• Strong growth in the data center sector and service offerings is expected to support long-term financial performance and increase earnings.
  
• Restructuring expenses and tax rate increases may strain cash flow and net earnings, while order timing fluctuations risk future revenue growth.

Catalysts

Engages in engineering, manufacturing, commissioning, and retrofitting building products and systems in the United States, Europe, the Asia Pacific, and internationally.

• Johnson Controls' strategic transformation to become a pure-play provider for commercial buildings and the anticipated completion of its simplification process are expected to enhance operational efficiency, leading to sustained top-line growth and significant margin expansion, positively impacting future revenue and net margins.
  
• Significant growth in the data center sector, with record backlog orders due to increased demand for cooling solutions, positions Johnson Controls for sustained revenue growth as key customers place multiyear, high-value orders.
  
• The divestiture of the Residential and Light Commercial business to Bosch will allow Johnson Controls to focus on higher-margin segments and utilize sale proceeds for potential share repurchases or reinvestments, benefiting earnings per share (EPS).
  
• The implementation of a multiyear restructuring plan is expected to result in approximately $500 million in annual cost savings over the next three years, improving net margins and contributing to long-term financial performance.
  
• A strong focus on service growth, especially in high-demand areas like Service and Controls within the Building Solutions segment, is anticipated to provide a favorable mix to margins and contribute to increased earnings.

Johnson Controls International Future Earnings and Revenue Growth

Assumptions

• Analysts are assuming Johnson Controls International's revenue will grow by 4.4% annually over the next 3 years.
• Analysts assume that profit margins will increase from 6.1% today to 10.9% in 3 years time.
• Analysts expect earnings to reach $2.9 billion (and earnings per share of $4.68) by about December 2027, up from $1.4 billion today. The analysts are largely in agreement about this estimate.
• In order for the above numbers to justify the analysts price target, the company would need to trade at a PE ratio of 24.1x on those 2027 earnings, down from 39.5x today. This future PE is greater than the current PE for the US Building industry at 22.1x.
• Analysts expect the number of shares outstanding to decline by 2.63% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 8.61%, as per the Simply Wall St company report.

Johnson Controls International Future Earnings Per Share Growth

Risks

• The company anticipates significant restructuring expenses of approximately $400 million over the next three years, which could strain cash flow and net earnings if not effectively managed.
  
• The adjusted free cash flow conversion target of 85% for the fiscal year 2025 reflects potential challenges in maintaining operational efficiency, affecting the company's levered means of returning value to shareholders.
  
• There are pressures on profit margins from changing market dynamics and mix, as indicated by lower margins in some high-growth areas like North America's Building Solutions, which may impact net margins.
  
• Despite a strong backlog, the potential slowdown or backlog reduction due to fluctuating order timing in key verticals such as data centers may risk future revenue recognition and growth stability.
  
• Expected increases in effective tax rates from 12% in FY25 to 16-17% in the following years due to global tax reform could lead to rising tax expenses, impacting net earnings.

Valuation

• The analysts have a consensus price target of $88.01 for Johnson Controls International 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 $97.0, and the most bearish reporting a price target of just $79.0.
• In order for you to agree with the analyst's consensus, you'd need to believe that by 2027, revenues will be $26.1 billion, earnings will come to $2.9 billion, and it would be trading on a PE ratio of 24.1x, assuming you use a discount rate of 8.6%.
• Given the current share price of $84.02, the analyst's price target of $88.01 is 4.5% 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.