If you’re buying stocks during a downturn, it’s a good idea to make sure they have good growth prospects coming out of the recession. In this context, it’s a great idea to look at industrial automation and software companies that power industrial automation. They represent a growing industry whose best days are yet to come.
Industrial automation, industrial software and Industry 4.0
To understand the full benefits of automation, it is essential to be aware of “Industry 4.0”, also known as the “Fourth Industrial Revolution”. Simply put, it refers to the confluence of the digital and physical worlds. An example comes from the creation of a so-called “digital twin” of a physical asset. Suppose a gas turbine or a bottling plant is digitally twinned. Internet of Things technology generates a mass of data from the physical asset, which is then digitally analyzed and modeled using the twin. In this way, artificial intelligence can better model, guide and predict the behavior of the physical asset. For example, bottling line data could be digitally modeled and simulated to better predict when equipment needs repair, reducing costly downtime and improving productivity.
The benefits of automation
It is always tricky to succinctly articulate these concepts. So I thought it would be interesting to refer to what the management of a leading industrial company, Stanley Black & Decker (SWK -2.59%), recently said of his Industry 4.0 opportunity. The tools and hardware company is trying to reduce its manufacturing and supply chain costs, and automation is one way to do that.
Speaking at a conference recently, CEO Don Allan said, “If you did power tool assembly in China or Mexico, you might have 50 to 75 people on the line,” while the solution machine that the company uses in North Carolina has 10-12 people operating it. He noted that an updated version of the Automated Factory could reduce that number to 2-3. While the cost of doing the latter “is almost equivalent to the cost” of doing the line in China or Mexico, the advantage is that Stanley can run an automated line “24/7”, as Allan puts it.
In addition to factory-level productivity benefits, the ability to create cost-effective facilities allows companies to reduce the complexity of their supply chains and relocate production. This is a huge plus for a company like Stanley, which alongside much of the industrial sector suffered significant supply chain issues in 2022. Unfortunately, the pandemic and associated lockdowns have created a enormous pressure on supply chains and shortages of products like semiconductors and other components. . Automation and digitization of production are helping to improve supply chain efficiency and should enable companies to better manage inventory and the supply of critical components. It also gives greater flexibility in locating a production plant so management can reduce the complexity of their global supply chain. As such, it’s a safe bet that companies will continue to consider investing in Industry 4.0 solutions during any recession.
How to invest in the sector
A few ways to invest in this trend include automation company Rockwell Automation (ROK -0.31%) or its industrial software partner CTP (PTC -1.01%). One of the largest players in automation, Rockwell manufactures control products, sensors, controllers and systems and sells to the three major automation end markets. Namely, discrete automation (semiconductor manufacturing, automotive production, etc.), process automation (continuous processing of raw materials such as oil and gas and chemicals), and hybrid automation ( food and beverages, life sciences, etc.).
Although management had to cut its full-year organic sales growth this year (from 10%-14% to 10%-12%) due to supply chain volatility (a refrain familiar this year), it is still expected to double in numbers growth.
The business is very profitable and has traditionally been a good cash generator, generating high margins for teenagers. However, despite the stock’s decline this year (nearly 38%, as of this writing), the stock still doesn’t look like a wild buy. Based on its ratio of enterprise value (market capitalization plus net debt) to earnings before interest, taxes, depreciation, and amortization (EBITDA), it’s hard to prove the stock has much value.
ROK EV to EBITDA data by YCharts
Rockwell has a strategic alliance with PTC and has also invested heavily in the company, and the latter appears to be good value. The company has upgraded its growth forecast for 2022 and is delivering impressive growth in its leading computer-aided design and product lifecycle management (PLM) software solutions. At the same time, its growth products (Internet of Things, or IoT and Augmented Reality, or AR; Industry 4.0-specific solutions) are intended for long-term growth. PTC’s IoT solutions connect the physical world to the digital world, while its AR solutions help visually represent data in the physical world – think of a service engineer looking at a complex network via a tablet running a digital overlay of the network in front him. Based on its excellent long-term growth prospects and Wall Street analyst projections of $700 million in free cash flow in 2024 (less than 18 times 2024 free cash flow), PTC is a good value for a high growth stock.
There’s no denying that Rockwell and PTC will come under pressure if the economy slows and short-term orders dry up. But on the other hand, the productivity gains from implementing Industry 4.0 solutions (as the Stanley Black & Decker example above shows) will ensure they come out strong from any recession and beyond. As such, a stock like PTC is very attractive to buy on a downside.