Is Emerson Electric A Better Pick Over Honeywell Stock?

We think that Emerson Electric (NYSE: EMR) currently is a better pick compared to Honeywell (NYSE: HON). EMR stock trades at about 3.0x trailing Revenues, compared to around 4.4x for Honeywell. Does this gap in Emerson’s valuation make sense? While Honeywell’s Aerospace business has been affected in 2020 due to the impact of the pandemic on the overall travel industry, Emerson’s business has been more resilient in the current crisis. Honeywell stock is being backed by investors with the expected rebound in air travel in 2021, given that vaccines are now approved in multiple countries. In fact, Honeywell’s sales are estimated to grow 6% in 2021, in-line with 6% growth estimated for Emerson. However, there is more to the comparison. Let’s step back to look at the fuller picture of the relative valuation of the two companies by looking at historical Revenue Growth as well as Operating Income and Operating Margin growth. Our dashboard Honeywell vs. Emerson Electric: HON stock looks overvalued compared to EMR stock has more details on this. Parts of the analysis are summarized below.

1. Revenue Growth

Between 2016 and 2019, Honeywell’s Revenues declined by about 7%, from around $39.3 billion to $36.7 billion. The decline can largely be attributed to divestiture of its turbochargers and home products businesses, excluding which the sales would have been up 21%. On the other hand, Emerson’s Revenue grew from $15.3 billion in fiscal 2017 (fiscal ends in September) to $18.4 billion in fiscal 2019, before dropping to $16.8 billion in fiscal 2020, owing to the pandemic. For the last twelve month period, Honeywell’s Revenues have also declined to $33.2 billion.

2. Operating Income

Honeywell’s operating income grew from $6.1 billion in 2016 to $6.9 billion in 2019, reflecting a 13% growth, led by both an increase in revenues and expansion of operating margins, which grew from 15.4% to 18.7% over the same period. Looking at Emerson, the operating income grew from $2.5 billion in fiscal 2017 to $3.0 billion in fiscal 2019, before dropping back to $2.5 billion in fiscal 2020. Emerson’s operating margins declined from 16.4% to 14.8% between fiscal 2017 and fiscal 2020, partly due  to increased costs during the pandemic.

The Net of It All

Although Emerson’s Revenue growth compares favorably with Honeywell over the recent years, it is due to Honeywell’s divestitures. Also, Honeywell’s operating margins have trended better compared to Emerson. However, Honeywell has a significant exposure to the Aerospace segment, which has taken a hit in the current pandemic, and even in 2021 the demand is unlikely to see a V-Shape recovery when it comes to the Aerospace business, in our view. On the other hand, Emerson will benefit from its process automation offerings, which are crucial for manufacturing companies to cut manpower costs and boost margins and Emerson, being a leader in this space, should stand to benefit meaningfully as the global economy recovers. Separately, the company’s Commercial and Residential Solutions business, – which sells air conditioning and refrigeration products and accounts for 35% of total revenue, could hold up better, supporting overall revenue growth. As such, we think the difference in P/S multiple of 4.4x for Honeywell versus 3.0x for Emerson will likely narrow going forward, implying better returns for Emerson stock.

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