Johnson Controls Looks To Unlock Value By Offloading Underperformers

Johnson Controls Looks To Unlock Value By Offloading Underperformers

Johnson Controls, Inc. (NYSE:JCI) – supplier of auto parts to automakers including General Motors Company (NYSE:GM) and Ford Motor Company (NYSE:F) – spiked yesterday after reports surfaced that it plans to sell some of its business.

While earlier reports suggested the company planed to divest its interiors business, the company has now clarified it is considering selling its automotive electronics business and has appointed JP Morgan Chase & Co. to explore potential suitors.

With annual revenues of $41.9 billion in the last 12 months ended 30 September, Johnson Controls is nothing short of a behemoth in its business segment. Over the last three months, the stock has appreciated 18 per cent but the company is under constant pressure to pare some of the non performing business.

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Johnson Controls

Regarding the electronics business, the company earlier revealed plans of improving its geographical presence in China and India. However, the business reported an 8 percent drop in its top line in the latest quarter, attracting renewed criticism from activist investors.

Company chief executive Steve Roell has also agreed to the suggestions in principal, stating that the business models, capital intensity and the manufacturing footprint requirements are very different. This is largely seen as an indication that the company is indeed looking to sell some of its operations.

The division makes driver information displays and devices that link smartphones and other devices to the rest of the vehicle, posted sales of $1.35 billion in latest full year, representing little over 3 per cent of its overall sales revenue.

The divesture, if and when it happens, would leave the company with four major businesses which would include automotive seating, automotive interiors, building controls, and car batteries. The proceeds from the value unlocking exercise would be used for the expansion of other divisions such as car seats.

Currently, the company is faced with a slowdown in the European market while stiff competition from newer players continues to erode its margins in emerging markets. The continued recovery in the U.S. economy, business operations in North American are factors helping the company.

In the latest quarter, the company said its automotive production jumped 11 per cent in North America but it faces tough market conditions in Europe. Although the proposed divestment will not address its European problems, it will somewhat calm the criticism over non performing business and unlock some value.

Given the continued strength in the U.S. economy, investors can look at American Axle & Manufacturing in this space which derives over half of its annual revenue from the U.S. In comparison, only 3 percent of its revenue came from Europe last year. It was thus, no surprise that the company reported a tenfold jump in net income to $320 million in the latest quarter while revenues grew 21.6 percent.

The stock currently trades at a price earnings ratio of just 2.7. It is worth noting that Deutsche Bank AG (NYSE:DB) (ETR:DBK) has a buy rating on the stock with a price target of $19, representing nearly 50 percent upside from current valuations. Sorl Auto Parts, Inc. (NASDAQ:SORL) is another player in the space which offers rich prospects of valuations improving from here.

The company is primarily engaged in production and supply of auto parts to clients in China. The Asian country has surpassed the U.S. as the largest automotive market and even though the growth has moderated in recent years, it is merely undergoing a consolidation phase. At a price earnings multiple of less than 6, the stock offers opportunity on the long side although it may be a gradual recovery.

Johnson Controls, Inc. (NYSE:JCI) is probably the stock which can offer best returns over the next quarter but American Axle & Manufacturing and Sorl Auto Parts, Inc. (NASDAQ:SORL) are other picks in the sector to play on the strengths of the U.S. and China markets.

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