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Here's Why You Should Hold on to Illinois Tool Stock Now

We issued an updated research report on Illinois Tool Works Inc. ITW on Nov 30, 2018.

This machinery company currently carries a Zacks Rank #3 (Hold). Its market capitalization is approximately $46.1 billion.

A few growth drivers and certain headwinds, which might influence Illinois Tool Works, have been discussed below.

Factors Favoring Illinois Tool

Financial Performance & Bottom-Line Outlook: Illinois Tool pulled off a positive average earnings surprise of 1.92% in the last four quarters. This includes the impact of 0.53% earnings beat recorded in the third quarter of 2018. In this quarter, the company’s earnings grew 11.1% year over year on the back of benefits realized from enterprise initiatives.

For 2018, Illinois Tool anticipates gaining from solid product demand in North America and margin expansion. Further, lower taxes and decrease in share count will be advantageous. It predicts earnings per share (GAAP) of $7.55-$7.65, with the mid-point reflecting year-over-year growth of 15%.

Moreover, the Zacks Consensus Estimate for earnings per share on the stock is pegged at $7.60 for 2018 and $8.10 for 2019, reflecting year-over-year growth of 15.3% and 6.5%, respectively. In the next three to five years, the company’s earnings are predicted to grow 9.9%.

In the past month, Illinois Tool’s shares have yielded 6.2%, outperforming 2.9% increase recorded by the industry.

Tactical Initiatives: Over time, Illinois Tool gained from its Enterprise Strategy. These initiatives — including Business Structure Simplification, Portfolio Management and Strategic Sourcing — were introduced in 2012. While Business Structure Simplification and Portfolio Management strategies strengthened the company’s organic sales, Strategic Sourcing helped in managing costs and improving margins.

In the third quarter of 2018, the company’s operating margin improved 30 basis points (bps) year over year. Enterprise Strategy in the quarter contributed 100 bps to margins.

For 2018, Illinois Tool anticipates Enterprise Strategy to add roughly 100 bps to operating margin in 2018.

Impressive Capital-Allocation Strategy: Illinois Tool effectively uses its cash flow to augment growth opportunities as well as reward shareholders handsomely. The company rewards its shareholders through dividend payments and share buybacks. In the first nine months of 2018, it used $792 million for paying dividends and $1,500 million for buying back shares. It’s worth mentioning here that the company hiked its quarterly dividend rate by 28% and got approval for $3-billion share buyback program in August 2018.

For 2018, the company anticipates buying back approximately $2 billion worth of its shares.

Factors Working Against Illinois Tool

Top-Line Weakness: In the third quarter of 2018, Illinois Tool’s organic sales suffered from poor performance in the European, Chinese and the Asia-Pacific end markets. New emission regulations and lower exports to China hurt European auto production while lack of financing and poor consumer sentiments impacted Chinese auto production.

We believe that continuance of such headwinds might deter top-line growth in the quarters ahead. For 2018, the company anticipates top line to grow 3-4%, down from 4-5% mentioned earlier.

Rising Costs and Expenses: In the first nine months of 2018, Illinois Tool recorded 5.3% increase in the cost of sales and 0.6% hike in operating expenses. The company believes that tariffs imposed on import of various items have inflated its raw material costs and has been escalating its cost of sales lately.

The company believes that pricing actions are likely to mitigate $30 million of adverse impacts related to tariffs in 2018. Tariff woes are predicted to amount to $60 million in 2019.

Headwinds From Currency Translation: Geographical diversification is reflective of a flourishing business of Illinois Tool. However, this diversity exposed the company to headwinds arising from geopolitical issues and unfavorable movements in foreign currencies. In the third quarter of 2018, forex woes adversely impacted earnings by 3 cents.

Stocks to Consider

Some better-ranked stocks in the industry are DXP Enterprises, Inc. DXPE, EnPro Industries, Inc. NPO and Luxfer Holdings PLC LXFR. All these stocks currently sport a Zacks Rank #1 (Strong Buy). You can see the complete list of today’s Zacks #1 Rank stocks here.

In the past 60 days, earnings estimates for all these three stocks improved for the current year. Further, positive earnings surprise for the last quarter was 17.95% for DXP Enterprises, 23.64% for EnPro Industries and 60.61% for Luxfer.

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