Why Has Johnson Controls’ Stock Price Appreciated 29% This Year?

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65.32
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JCI: Johnson Controls logo
JCI
Johnson Controls

Johnson Controls‘ (NYSE:JCI) share price has rise considerably year to date, spurred on by an improved performance and an impressive outlook for the rest of its financial year.

JCI- Stock Price Rise

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The main reasons for the price rise have been highlighted below:

1. Impressive Growth In The Building Efficiency And Power Solutions Business In Q2 and Q3 (Ended March ’16 and June ’16)

JCI- Segment

Improvement in the Building Efficiency division has been driven by North America and Asia, where 3% and 9% growth were seen in the second quarter. The company’s joint venture with Hitachi has been very beneficial, and has exceeded the expectations. It has resulted in a strong performance in China, Japan, and Taiwan, with greater opportunities being witnessed in North America. The segment has also implemented strict price discipline and cost reductions, which have helped to drive profitability within the Hitachi JV.

In the Power Solutions segment, immense growth of the start-stop technology has helped to spur  a rise in revenue. In the second quarter, global shipments of start-stop were up 22%, driven by China and the Americas, where growth rates of 79% and 78% were seen. Lead prices of $1,700, versus $1,950 last year, have also impacted the company’s top line. The division also managed to improve its margins due to a strong price discipline and a favorable product mix.

2. Merger With Tyco To Result In Substantial Savings

Johnson Controls recently completed its merger with Tyco. The combination of highly complementary businesses facilitates the new company to offer comprehensive and innovative solutions to a wider market globally, across numerous end markets. The main purpose of the merger seems to be gaining size in its area of focus, which is becoming a colossus in the building controls, and equipment market. The new company will be able to witness immediate opportunities for growth, through cross-selling of products, complementary distribution networks, and a widened global reach. The geographic fit seems to be ideal, with JCI strong in the Chinese market, and Tyco effective in Europe. The combined company is expected to furnish minimum operational synergies of $500 million over the first three years, after closing. According to Johnson Controls, this will be achieved by increasing efficiencies, removing redundancies, integrating global branch networks, and leveraging the combined scale of the $20 billion building’s business platform. Besides the above savings, tax synergies of over $150 million are expected as a result of the inversion deal, wherein the tax domicile of the new company will be shifted to Ireland, home of Tyco. In Ireland, the corporate tax rate is 12.5%, as opposed to the 35% in the U.S. In such a scenario, while the new company still has to pay U.S. taxes on U.S. income, it can avoid paying U.S. taxes on overseas income.

Merger-Synergies-JCI

3. Outlook For AGM Batteries Looks Bright

Johnson Controls recently announced plans to invest $445 million to boost the  output of its Absorbent Glass Mat (AGM) batteries. These are technologically advanced car batteries that are more expensive than a conventional lead acid battery, but are better equipped to handle the strain of frequent engine restarts, and the ever-increasing load placed on car batteries. They are employed in vehicles with the start-stop technology, which, despite being fuel-saving, can tax a car battery, since the electrical system still uses the energy from the battery when the vehicle turns off.

The fuel savings with the start-stop technology is one of the main drivers for its increased adoption. Under average driving conditions, savings amount to 3% to 5%. However, with a high number of stops and with traffic lights staying red for extended periods, the figure can rise to 10%, according to Robert Fascetti, vice president for powertrains at Ford. Car manufacturers are also under intense pressure to meet strict fuel economy standards by 2025, and with the increased fuel efficiency of AGM batteries, this technology is destined to be on a majority of cars in the next few years. Currently, this technology is present in 10% of the U.S. and between 5% and 10% of the Chinese market. This figure is expected to rise to 50% during the next five years, according to Alex Molinaroli, CEO of Johnson Controls. It has a much wider presence in Europe already, comprising as much as 60% to 65% of the market currently. By 2020, 85% of all new vehicles in Europe are predicted to be powered with start-stop batteries. In Europe, JCI has in the past invested over $112 million in its facility in Hannover, Germany, to grow the production of AGM batteries by 65% since 2011. A similar investment was also made to expand its Zwickau plant, making it the largest production site for AGM batteries.

JCI- Start Stop

4. Raising Of FY 2016 EPS Guidance

JCI- Guidance

In the second quarter, the company raised its EPS guidance, which would reflect a 13% to 17% growth over the pervious year, as compared to an earlier guidance, which signified an 8% to 14% growth. Furthermore, in the third quarter, the company tightened its guidance to the higher end of the guidance provided, from $3.85-$4.00 to $3.95-$3.98, which would mean an increase of 15% to 16% over FY 2015. This reflects a continued strong operational performance by the company, and does not include any impact of the Tyco merger.

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Notes:

1) The purpose of these analyses is to help readers focus on a few important things. We hope such lean communication sparks thinking, and encourages readers to comment and ask questions on the comment section, or email content@trefis.com
2) Figures mentioned are approximate values to help our readers remember the key concepts more intuitively. For precise figures, please refer to our complete analysis for Johnson Controls.

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