Johnson Controls’ Net Falls Due to One-time Costs, But Outlook is Stable

Johnson Controls‘ (NYSE:JCI) earnings fell by 68% annually to 26 cents per share in the third quarter as restructuring and other one-time costs more than offset the moderate increase in the company’s top line. ^[1] These one-time costs were primarily related to changes in the company’s business portfolio. During the quarter, Johnson Controls completed its acquisition of Air Distribution Technologies (ADT), which is one of the largest providers of air distribution and ventilation products for buildings in North America. The company also sold its headliner and sun visor product lines during the quarter. Transaction related costs and losses from these divested businesses imposed $140 million in one-time costs on the company in the third quarter. Johnson Controls also spun-off its auto interior business during the quarter through a joint venture with a Chinese company. Restructuring related to this development imposed another $162 million in one-time costs on the company in the third quarter. ^[2] As a result, Johnson Controls’ third quarter earnings sank. However, excluding these one-time items, the company’s earnings rose by 17% annually to 84 cents per share on higher global automotive industry production. ^[2]

In our view, the one-time costs incurred by the company in the third quarter, do not significantly dilute the gains from the above mentioned portfolio changes. For instance, the acquisition of ADT has significantly strengthened Johnson Controls’ position in the building heating, ventilation and air-conditioning (HVAC) market by expanding its product portfolio. In the near term, this acquisition will likely help lift the company’s results through cross-selling opportunities.

Looking ahead, with gradual improvement in some of Johnson Controls’ key end markets, including the European auto sector and the global commercial HVAC market, the company’s results will likely grow in the fourth quarter. Johnson Controls forecasts its fourth quarter earnings to lie between $1 per share and $1.02 per share, up by around 11% annually. ^[2]

We currently have a stock price estimate of $51 for Johnson Controls, marginally above its current market price. We are in the process of incorporating the company’s third quarter earnings and shall update our analysis shortly.

See our complete analysis of Johnson Controls here

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Higher Automotive Industry Production Raised Johnson Controls’ Top Line

In the third quarter, global automotive industry production rose by 4% in North America, by 11% in China and by 1% in Europe. ^[3] This raised demand for auto seats and auto batteries, pushing up sales at Johnson Controls’ auto segments. Second quarter sales at the company’s auto seats segment rose by 7% annually, and at its auto batteries segment rose by 6% annually. Auto battery shipments from the company continued to rise in the quarter, with production of the Absorbent Glass Mat (AGM) batteries, which power start-stop vehicles, rising by 17% annually. ^[2] Start-stop batteries are gaining popularity as they help save fuel by turning off the engine when the vehicle comes to a rest. Johnson Controls is taking advantage of this increasing adoption of start-stop technology in vehicles through its AGM batteries. The company has invested large sums in increasing its global AGM production capacity, and we’re seeing concrete benefits from these investments as demand for start-stop batteries continues to rise.

Weak Commercial HVAC Markets Weighed on the Company’s Results

On the flipside, Johnson Controls’ revenues from its building efficiency segment, which provides HVAC systems and facility management services, fell by 4% annually in the third quarter. As a result, the company’s overall third quarter revenues increased by a modest 3% on a year-over-year basis. ^[2]

The decline in building efficiency segment sales was primarily due to weakness in the global commercial HVAC market. Even as the residential HVAC market in North America has recovered driven by an improving housing market, the commercial HVAC market has remained soft due to weak commercial construction spending. And with Johnson Controls’ HVAC portfolio focused on commercial buildings, the market weakness has weighed on the segment’s results. However, during the earnings presentation, Johnson Controls said that it is beginning to see improvement in some verticals of the global commercial HVAC market.

The company also said that it is seeing incremental improvements in the demand environment in Europe. We figure in the coming months, as Johnson Controls’ external environment keeps improving, its results will likely continue to grow. At the same time, the company will also gain from its recent portfolio changes. All in all, in our opinion, despite a fall in its second quarter profits, Johnson Controls’ outlook is stable.

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1. Johnson Controls’ F2014 Q3 earnings form 8-K, July 19 2014, www.johnsoncontrols.com [↩]
2. Johnson Controls’s F2014 Q3 earnings form 8-K, July 19 2014, www.johnsoncontrols.com [↩] [↩] [↩] [↩] [↩]
3. Johnson Controls’s F2014 Q3 earnings presentation, July 19 2014, www.johnsoncontrols.com [↩]