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Cummins (CMI): 2019 Top Picks' Mid-Year Update

07/23/2019 5:00 am EST

Focus: INDUSTRIALS

Douglas Gerlach

President, ICLUBcentral, Inc.

Douglas Gerlach, editor of Investor Advisory Service, selected Cummins (CMI) as his top investment idea for 2019. The discount retailing stock has since risen 31%. Here's his latest update on the engine maker.

Cummins designs, manufactures, and distributes engines and related components for use in heavy-duty and medium-duty trucks, buses, construction and mining equipment, and standby power generation.

At year-end 2018, rising material costs, warranty issues, and questions about tariffs weighed heavily on CMI’s stock price and caused investors to push the price down 25% from its highs earlier in the year.

At the same time, the company reported that order backlog was the highest in 20 years for the company, providing support for a much higher stock valuation—as long as the company was able to execute effectively.

And in the two reported quarter since then, the company did just that. In Q4, sales grew 12% across all Cummins’ operating segments and major geographic markets, driven by higher commercial truck production and improved demand for construction and power generation equipment.

The Engine segment grew 18% as the company continued to benefit from a strong North American market. GAAP EPS grew 20% and EPS adjusted for tax and other items grew nearly 15% versus a year ago.

In Q1, Cummins sales increased 8% as North American sales grew 13% helped by higher build rates of medium-duty and heavy-duty trucks, as well as strong results from construction and power equipment. North American build rates for medium-duty trucks grew 18% and increased 22% for heavy-duty trucks, serving as a nice tailwind. International sales grew just 1%, with Chinese sales down 2%.

The company showed stronger gross margins and operating expense leverage, helped by lower engine system campaign costs, higher volumes, pricing, and efficiencies that more than offset the impact of tariffs. EPS more than doubled to $4.20, aided by a lower tax rate and share repurchases.

Cummins maintained its guide for full year 2019 sales to be flat to up 4% with improved truck markets in North America offsetting lower demand in power generation markets. For the full 2019 year, management indicated it expects both India and China to be about flat.

Management also increased its EBITDA margin target by 0.5% on both ends of the range, to 16.25%-16.75%, primarily due to lower projected material costs for the year. We continue to see Cummins as a solid candidate for long-term total return, despite its cyclicality, and currently consider it a buy up to $165.

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