gguy44
A year ago, I concluded that Federal Signal (NYSE:NYSE:FSS) was a solid performer which appeared to be fairly valued. The company has seen a solid operational performance in recent years, accompanied by bolt-on dealmaking, as these better results have resulted in solid share price gains aided in part by modest valuation multiple inflation.
Some Background
Federal Signal is a long-standing business which is a producer of specialty equipment which includes street sweepers, sewer cleaners, safety and security products. The company has seen a turbulent past as this was a $25 stock back in the 1990s, yet shares fell to just $5 in the aftermath of the big recession in 2009, but even in the years ahead, the (share price) performance has been lagging already.
Following some reshuffling of the portfolio which started a decade ago, the company has seen a solid recovery. In 2017, Federal Signal acquired TBEI to expand its environmental solutions and with shares trading at $16 appeal was seen as the deal could boost earnings to $1.20 per share.
The company saw strong growth in the years which followed, and early in 2020, FSS reported a $1.22 billion sales number for 2019 on which earnings of $1.79 per share were reported, as these stronger earnings resulted in shares rising to the $30 mark early in 2020. By September of last year, when I picked up coverage on Federal Signal, shares traded at $39 per share.
The company announced a $52 million bolt-on deal at the time, as the company maintained a $1.79 per share earnings guidance for the year, with net debt of $167 million being roughly equal to reported EBITDA. The 61 million shares outstanding represented a $2.4 billion equity valuation, or just over $2.5 billion enterprise valuation, with the company trading at just over 2 times sales. Having been constructive at $16 in 2017, I saw neutral to fair value at $39 in September of last year, as I saw few short to medium triggers on the short horizon as shares had risen to a market multiple.
Steady
After holding a neutral stance at $39 a year ago, shares rallied to the $50 mark late in the year, to fall to the low thirties in the spring of this year, with shares now trading at $39 per share again. Needless to say, this marks no capital gains in a year’s time.
In March of this year, Federal Signal announced the 2021 results with revenues reported up from $1.13 billion to $1.21 billion as operating profits were flat at $131 million amidst some gross margin pressure. Adjusted earnings rose eight cents to $1.75 per share amidst some smaller adjustments left and right. Net debt rose to nearly a quarter of a billion following some deals announced later in 2021, still very reasonable with EBITDA posted at $169 million and dealmaking resulting in an expected uplift in the 2022 results.
The original outlook called for sales at a midpoint of $1.40 billion in 2022, with earnings seen between $1.76 and $2.00 per share, as earnings growth is withheld on the back of expected higher tax rates. Following the second quarter earnings report, Federal Signal hiked the sales guidance to a midpoint of $1.415 billion, with earnings seen between $1.85 and $2.00 per share. Net debt rose to $295 million, the result of a combination of capital spending, smaller M&A and modest share buybacks, still okay with EBITDA trending at $200 million a year here.
With 61 million shares still trading at $39, the enterprise valuation is stable around $2.6 billion, as 2022 has been a story of modest growth, albeit largely driven by dealmaking.
Another Bolt-On Deal
In September, Federal Signal announced its next bolt-on deal in a transaction to acquire TowHaul in a $46 million deal, in an attempt to bolster the line-up of lowboy trailers, gooseneck equipment, dragline bucket transporters and road-counting trucks.
The deal is truly a bolt-on deal with the purchase price being less than 2% of the current valuation, as no financial details have been announced, all while leverage is still very much under control.
Final Thoughts
Right now, Federal Signal continues to trade at a 20 times multiple based on this year’s earnings estimates which looks fair, but given the lackluster market performance actually marks a small premium compared to the wider market. With leverage coming in around 1.5 times EBITDA, this remains very manageable by all means.
The increased valuation multiples undoubtedly have to do with the observation of the market that Federal Signal has been doing quite well in recent years, as well as on the back of the improved positioning of the business, with Federal Signal now operating the Environmental Solutions Group and Safety & Security Systems Group.
Despite these solid results, I am reiterating my fair value rating as I did last year, as a flattish share price performance versus the wider market declines has made that relative valuations of Federal have risen, albeit supported by resilient performance year to date. Nonetheless, the fair valuation argument prevails, as I greatly applaud Federal Signal’s performance, yet I am waiting for a more interesting level to get involved (again).
Be the first to comment