Despite Slow Growth In Recent Months, UTC’s Building Business Is Set To Grow Strongly Over The Long Term

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In the first nine months of 2014, revenue from United Technologies‘ (NYSE:UTX) building & industrial business grew by a little over 2% per year, compared with 5% per year growth in the company’s overall revenue. [1] This slower revenue growth from the company’s building & industrial business is the result of flat sales from Europe, which has tempered growth from Asia and North America. United Technologies’ (UTC) building & industrial business consists of Otis elevators and escalators, Carrier heating, ventilation and air-conditioning (HVAC) systems and Kidde/Chubb fire prevention and security systems. In our opinion, despite uncertainty about economic recovery in Europe, UTC’s building & industrial sales growth will likely accelerate in the coming years as the business’ sales-mix is shifting towards fast-growing developing markets like China and India. And, it is in these developing markets that solid long term growth potential exists as far as building products are concerned. The building & industrial business will likely constitute about 45% of UTC’s overall revenue in 2014.

We currently have a stock price estimate of $121 for UTC, around 10% ahead of its current market price.

See our complete analysis of UTC here

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Rising Urbanization In Developing Countries Is Growing The Building Market

In the less developed regions of the world such as Africa, Asia excluding Japan, Latin American and the Caribbean, the percentage of population living in cities is significantly below the percentage of population living in cities in the developed regions of the world. Even countries such as China and India that have seen many years of high economic growth still have a significant portion of their populations living in rural areas. China for instance has around 48% of its population living in rural areas, while India has around 68% of its population living in rural areas. In comparison, developed countries such as the U.S., U.K. and Japan have over 80% of their population living in cities. [2] So, as a large number of people migrate from rural areas to cities in these less developed regions of the world, demand for commercial and residential buildings along side other physical infrastructure will rise from these regions. According to the World Urbanization Prospects report from the UN, urban population in the less developed regions of the world will grow from around 2.7 billion currently to about 3.2 billion in 2020 and to nearly 4 billion by 2030. So, the demand for elevators, escalators, building HVAC systems, fire prevention and security systems will grow significantly from the developing regions of the world in the coming years.

The potential for growth in these developing markets is also high as current penetration level of elevators, HVAC systems and other such building products in these markets is low. For instance, in China there are only about 2.5 elevators per 1000 people at present, compared with over 10 elevators per 1000 people in Western Europe. [3] Thus, Otis has significant room for growth in China and other developing markets. Overall, driven by rising urbanization in developing countries, UTC anticipates the market for its building business to grow from around $150 billion currently to about $210 billion by 2020. [4]

UTC Is Taking Steps To Gain A Significant Share Of The Growing Global Building Market

We figure the building business of UTC which includes Otis, Carrier, Kidde and Chubb is very well positioned to bag a significant portion of the growth anticipated in the global building market. Otis is the largest manufacturer of elevators and escalators in the world. Even though it competes with other large global players such as Schindler, ThyssenKrupp and KONE, it occupies a leading position in the developing markets of China and India. Over the past few years, Otis has also undertaken large scale restructuring to lower its operating costs. The unit has opened and expanded manufacturing plants in Asia-Pacific and Latin America, and has downsized facilities in Europe, Japan and North America to lower its manufacturing costs. These steps have enabled Otis to price its products more aggressively, which is necessary to compete in developing markets that have many local players who compete primarily on price.

Carrier too has taken a few steps like launching new high efficiency roof top air-conditioners. Other new products launches from UTC’s building business over the past few years include acoustic gas leak detection systems, Infinity series of heat pumps and Prism video management security systems. In our opinion, these steps will likely help UTC bag a significant portion of growth that is expected in the global building market in coming years.

In addition, UTC is also benefiting from its wide product portfolio, which consists of elevators, heating and cooling systems, security and safety systems. This wide range of building products has enabled UTC to develop integrated building solutions, which are in high demand from large commercial, residential and industrial projects. A large number of such projects are coming up in the developing countries so demand for integrated building systems is growing. Very few companies globally are in a position to develop integrated building systems. So, UTC has a competitive advantage over many of its peers in this segment.

All in all, we figure despite slow growth in recent months due to weakness in Europe, UTC’s building business is set to grow strongly over the long term driven by rising urbanization in the developing countries.

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Notes:
  1. UTC’s 2014 Q3 10-Q, November 19 2014, www.utc.com []
  2. Urban population percentage by country, May 2014, data.worldbank.org []
  3. Otis annual analyst meet presentation-Slide 8, March 14 2013, www.utc.com []
  4. UTC’s presentation at Goldman Sachs Conference, November 13 2014, www.utc.com []