* Lower growth for longer
The China-driven commodity and emerging markets boom has run its course. The capital goods industry has shifted from a 10-year super cycle to a low-growth decade, characterized by a multi-year down-cycle for process industries and by ever-increasing low-cost competition.
* Initiating on large-cap European electricals
We are initiating coverage on European electricals with BUY ratings on Schneider and Alstom, Hold ratings on Legrand and Siemens and a Sell rating on ABB. We also upgrade Philips to Buy (Hold). In this report, we assess the 'China' risk, evaluate the impact of slower growth in emerging markets and review companies' strategic options to address a multi-year low-growth environment and mounting price pressures.
Key stock recommendations. For valuation and risk comments, see p. 129
Schneider (BUY, target of €65) - We like its end-market exposure skewed towards construction and discrete industries. The group will now reap the benefits of a 10-year transformation with a greater focus on organic growth, M&A integration and operational efficiency.
Alstom (BUY, TP €27) – The group has significant financial leeway to build a more competitive cost base and participate in the much-needed sector consolidation. Adjusted for the JVs with GE, the P/E falls to 9.7x in FY17/18, a 40% discount to the sector average.
Philips (BUY, TP €29) –We expect the EV/EBITA multiple to expand from 10x today to 12x as the new entity is reclassified from ‘capgoods’ to ‘medtech’. There are also signs of recovery in the healthcare market (Chinese tenders bottoming out, growing US hospital construction spending).
ABB (Sell, TP SF18) – The shares trade at a 15% premium to the sector average despite unattractive end-markets (utilities, oil & gas, metals & mining and marine account for >60% of sales). We also doubt management favours the exit option for Power Grids as it would go against the group’s long-standing strategy to offer customers an integrated power and automation offering.