Facility Consolidations And Aerospace Focus Will Improve Future Net Margins

Key Takeaways

• Facility consolidation and continuous improvement initiatives are likely to enhance net margins through cost reduction and increased operational efficiency.
  
• Strategic focus on aerospace and defense markets, along with new segment leadership, could drive revenue growth and improved margins.
  
• Kennametal's revenue and profitability face pressure from market challenges, declining key end markets, currency headwinds, and costly restructuring efforts.

Catalysts

Engages in development and application of tungsten carbides, ceramics, and super-hard materials and solutions for use in metal cutting and extreme wear applications to enable customers work against corrosion and high temperatures conditions worldwide.

• The planned consolidation of facilities in Spain and the U.S. and the resulting $15 million in annualized run rate savings are expected to improve net margins by reducing structural costs and optimizing the operational footprint.
  
• New leadership in the Infrastructure segment is expected to bring strong commercial, operational, and general management expertise, potentially driving revenue growth and improved net margins through enhanced strategic initiatives.
  
• Continuous improvement initiatives, such as process and efficiency improvements at large plants, are expected to boost net margins by enhancing operational efficiency and reducing costs.
  
• Strategic focus on growth in the aerospace and defense markets, where production levels are expected to increase, is likely to drive revenue growth and potentially higher earnings due to increased demand and favorable market conditions.
  
• The potential for ongoing advanced manufacturing production credits under the Inflation Reduction Act is anticipated to positively impact net margins by reducing tax expenses.

Kennametal Future Earnings and Revenue Growth

Assumptions

• Analysts are assuming Kennametal's revenue will decrease by 0.6% annually over the next 3 years.
• Analysts assume that profit margins will increase from 4.8% today to 6.0% in 3 years time.
• Analysts expect earnings to reach $124.2 million (and earnings per share of $1.56) by about March 2028, up from $96.2 million 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 17.0x on those 2028 earnings, down from 17.2x today. This future PE is lower than the current PE for the US Machinery industry at 21.4x.
• Analysts expect the number of shares outstanding to decline by 1.66% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 8.03%, as per the Simply Wall St company report.

Kennametal Future Earnings Per Share Growth

Risks

• Kennametal faces challenges in the European market (EMEA) due to worsening market conditions, which can impact revenue and future growth prospects.
  
• The company is experiencing a decline in key end markets such as general engineering and transportation, particularly in EMEA and the Americas, posing a risk to its revenue growth.
  
• The company's continued negative organic growth over five consecutive quarters indicates underlying market weakness, which could impact revenue and earnings if not addressed.
  
• Kennametal is dealing with external pressures like strengthening U.S. dollar and foreign exchange headwinds, which could negatively affect its revenue and net income.
  
• Cost-cutting measures, including plant closures and workforce reductions, incur substantial upfront costs ($25 million in pretax charges) that might outpace the realized savings in the short term, thus impacting the company's net margins and profitability.

Valuation

• The analysts have a consensus price target of $23.0 for Kennametal 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 $25.0, and the most bearish reporting a price target of just $19.0.
• In order for you to agree with the analyst's consensus, you'd need to believe that by 2028, revenues will be $2.1 billion, earnings will come to $124.2 million, and it would be trading on a PE ratio of 17.0x, assuming you use a discount rate of 8.0%.
• Given the current share price of $21.38, the analyst price target of $23.0 is 7.0% 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.