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2 Machinery Stocks Set to Beat Estimates in Q1

Zacks Equity Research

Last year, the industrial machinery sector was one of the most adversely impacted industries due to weak commodity prices, reduced investment in the energy sector owing to lower oil prices, poor economic conditions in some developed and developing nations, and Brexit. However, sentiment steadily improved thereafter, following the presidential victory of Donald Trump as investors expect his plans of big spending in infrastructure, and easing regulations for oil and coal exploration to boost the industry.

The upbeat performance of one heavyweight in the machinery industry, Caterpillar, Inc. (CAT), instils optimism in the machinery industry. Caterpillar has long been considered a bellwether of national and global economic strength. The company which had so far been bearing the brunt of a weak mining industry did not disappoint investors this time by delivering year-over-year improvement in both the top line and bottom line for the first time in 10 quarters. The better-than-expected results came on the back of the company’s incessant efforts to cut down costs to counter the impact of low-end user demand across many of its businesses.

Caterpillar falls under the Zacks categorized Manufacturing-Construction and Mining sub industry which is currently carrying a Rank of #25 (out of 265 industries we cover), being in the top 10%. The other machinery industries are also well placed namely the Machinery-Tools & Related Products (top 2%), Thermal Products industries (top 42%), Machinery-Material Handling (top 10%). Going by the Zacks rule, top 50% industries of all Zacks industries outperform the bottom half by a wide margin.

All these Machinery industries are broadly grouped under the Industrial Products sector (one of the 16 broad Zacks sectors). The industrial products sector holds the first position in the Zacks sector ranking, enjoying a space in the top 6%. Year to date, the industrial products sector has gained 8.7%, ahead of the S&P 500’s 8.2% gain largely driven by the government’s intention of increasing infrastructural investments and other growth policies.

Economic indicators, like industrial production, are pointing toward a healthy business environment for the industrial companies. Industrial production rose 0.5% in March, following a 0.1% move in February and a 0.3% dip in January. The increase in March was driven by a jump of 8.6% in the output of utilities, the largest in the history of the Index. For the first quarter as a whole, industrial production rose at an annual rate of 1.5 %.

Also, in the quarters ahead, governmental policies encouraging better trade relations, increase in infrastructural investments, job creation and high consumer-end demand will sustain growth for industrial machinery stocks. Until such improvements materialize, stocks with high investment rankings might interest investors seeking exposure in the machinery industry.

Performance So Far and Expectations for Q1

For the first quarter, 90.9% of the S&P 500 members in the industrial products sector have reported their numbers as of May 5, putting up a 25.1% growth in earnings. Taking into account all the S&P 500 sector participants that are yet to report, an earnings growth of 22.1% is projected for the sector. (Read more: A Positive & Reassuring Earnings Picture)

How to Make a Choice?

With a number of players in the industry, picking the right stocks is a daunting task. However, the Zacks proprietary methodology makes it easier. One can narrow down the list with the combination of a favorable Zacks Rank – Zacks Rank #1 (Strong Buy), 2 (Buy) or 3 (Hold) – and a positive Earnings ESP, which is the percentage difference between the Most Accurate Estimate and the Zacks Consensus Estimate. It helps in picking stocks that have high chances of delivering earnings surprises in their next earnings announcement. Our research shows that for stocks with this combination, the chance of a positive earnings surprise is as high as 70%. You can uncover the best stocks to buy or sell before they’re reported with our Earnings ESP Filter.

We have picked two machinery stocks that have the right combination of elements to post an earnings beat this season:

Deere & Company (DE) is the one world's foremost producers of agricultural equipment as well as a leading manufacturer of construction, forestry, and commercial and consumer equipment. The company has a market capitalization of $36 billion.

Deere has yielded a return of    37.9% in the past one year, outperforming the Zacks Categorized Manufacturing-Farm Equipment sub industry’s gain of 35.7%. The sub industry is also favorable placed, currently carrying a Rank of #25, being in the top 10%.

Despite weak global agricultural and construction sectors, Deere continues to perform well driven by ongoing success of developing a more durable business model and a wider range of revenue sources. The company will gain from the implementation of its operating plans and disciplined cost management as well as the impact of a broad product portfolio.

The Zacks Consensus Estimate for second-quarter fiscal 2017 is at $1.65, reflecting a 5.51% year-over-year growth. The company has outpaced the Zacks Consensus Estimate in the four trailing quarters, with an average positive earnings surprise of 60.50%.

Deere’s Zacks Rank #2 and Earnings ESP of +1.82% makes us confident of an earnings beat this quarter.

Moreover, the stock promises solid return of 20.9% on equity, higher than the sub industry’s return of 19.3%. Deere’s dividend yield is presently pegged at 2.12%. The company’s solid return profile and estimated five-year earnings growth rate of 7.58% improve prospects.

Deere is scheduled to release second-quarter fiscal 2017 results on May 19 before the market opens.

Nordson Corporation (NDSN) is one of the world's leading producers of precision dispensing equipment that applies adhesives, sealants and coatings to a broad range of consumer and industrial products during manufacturing operations. Currently, the company has a market capitalization of $7.39 billion.

The Nordson stock has surged 69.3% in the past one year, outperforming the Zacks Categorized Machinery- General Industrial sub industry’s increase of 35.7%. The sub industry is also favorable placed, currently carrying a Rank of #36, being in the top 14%.

Nordson’s backlog, 12 week order rates and project activity all remain solid, which bodes well for the second-quarter performance. The company will also benefit from its continuous focus on innovative products, new applications and superior customer service to capture growth in diverse end markets.

The Zacks Consensus Estimate for second-quarter fiscal 2017 is $1.30, reflecting a 9.45% year-over-year growth. The company has outpaced the Zacks Consensus Estimate in the trailing four quarters, with an average positive earnings surprise of 13.89%.
The stock, with a Zacks Rank #2 and an Earnings ESP of +0.77%, seems a good investment option.

Additionally, the stock’s earnings are projected to grow 14.23% in the next five years. Moreover, the stock promises solid return of 34.4% on equity, much higher than the industry’s gain of 23.8%.

Nordson is scheduled to release second-quarter fiscal 2017 results on May 22, after the market closes.

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Deere & Company (DE): Free Stock Analysis Report
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Caterpillar, Inc. (CAT): Free Stock Analysis Report
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