September 2000

Market View

Portfolio Changes

Stock Focus: Ingersoll-Rand

Request our Printed Materials

The stock market appears to have a more optimistic view of the future than do bond investors, especially for the technology sector. Investors in some technology stocks appear to expect continued and sustained rapid growth. Companies like Cisco, Sun, and EMC sell for 100 times year 2000 earnings. I can’t find a pair of glasses rose-colored enough to make me pay those kinds of prices.

So who’s right, the bond investors or the technology investors? You might have guessed that I lean toward the bond folks. Some might argue that the broader economy can slow while technology companies race ahead. I don’t think that’s very likely.

Only two years ago, in the fall of 1998, technology stocks were selling at depressed levels. At the time, the conventional wisdom was that investors needed to stock their portfolios with only large companies with good brand names - stocks that had performed strongly during the middle of the decade. From that time, technology stocks have performed spectacularly, while the large, consumer products firms have languished. Now the conventional wisdom is that investors need a heavy technology exposure. New economy stocks, that’s where all the growth is. I think conventional wisdom will prove wrong again.

While investor eyes continue to focus on technology, there are wonderful opportunities in other sectors of the market, especially in sectors where investors seem to agree with the bond market and have already priced slower growth into those stocks. I expect to see good performance from stocks in the retail and industrial sectors, particularly from companies with solid lines of business and healthy finances.

[top]

During the quarter, I sold Hasbro. The toy market looks worse than it did toward the beginning of the year. Sales for both Mattel and Hasbro have fallen off; and even though Hasbro has a manageable debt load, it has high fixed costs. Rather than ride out the toy market slump, I decided to reinvest the proceeds in ABM Industries, a company that provides cleaning and other services to building owners nationwide. As more and more owners choose to have an outside company perform these tasks, ABM stands to gain. It is one of the few nationwide providers of cleaning services, and it is expanding into other services, such as security and parking.

Steve TeSelle

[top]

Ingersoll-Rand (IR) is a diversified manufacturing company based in New Jersey. The company has four main business segments: vehicles, like forklifts and steamrollers, used in infrastructure projects and materials handling; Air and temperature controls, which primarily serves the refrigeration market; Hardware and tools, which makes products for the architectural and security markets; and Manufactured products - stuff like bearings and pumps.

IR has a long track record of revenue and earnings growth. True, its businesses are cyclical, so that the company’s rate of growth may slow as the economy cools off; but we should still see growth rather than a fall in earnings and cash flow. IR continuously monitors its businesses; the company looks to sell under-performing assets and add to strong assets. Currently, IR is selling some of the pump and compressor operations and adding to its refrigeration and security products.

Over time, IR has traded around 8.5 times cash flow. At $35 per share, the stock trades at less than 7 times year 2000 cash flow. This price is also less than 11 times 2000 earnings, for a company that is expected to grow at a rate of 15-17%. This makes me think that investors have already priced the effects of an economic slowdown into the stock, which makes for a good buying opportunity.

IR earns an A rating from Value Line for financial strength. The solid, predictable revenue stream generates a cash flow of $5.50 per share (2000 estimate), more than enough to meet capital expenditures and to fund smaller acquisitions. The debt is easily manageable, with IR generating net income of more than six times long-term debt payments.

As with any investment, there are risks here. One is that IR develops internal problems, such as integrating newly purchased assets, or failing to deal with poorly performing products. But the company has a good track record, so I view this risk as manageable. Another risk is that we enter into a severe recession. In that case, a lot more than IR stock will be having trouble. Investors concerned about the threat of a severe recession would do better to increase their bond or cash exposure than to search for companies that wouldn’t be affected.

Even though I think IR is a great investment, I wouldn’t fill up a portfolio with just it or companies similar to it. I could be wrong (perish the thought!), or some unforeseen event could negatively affect IR and other durable-goods producing companies. However, an investment in IR fits well in a diversified portfolio, in combination with firms like Comerica Bank, Jones Apparel Group, and Dell Computer.

In these times of multiple market commentators, companies like IR have been labeled boring. I think most of what’s on television is boring, but I don’t think of stocks in that same vein. I tend to think of investments not as exciting or boring, but as having good potential or not-so-good potential. IR fits snugly into the good potential category.

Sources: Bloomberg, Value Line.

Written pieces are available on the following financial planning topics:

College Savings Options

Retirement:  What’s the Target?

To get a copy, please call us at 303-733-4999, or e-mail me at steselle@doratocapital.com.

[top]

© Dorato Capital Management, LLC. All rights reserved.