Description

We believe shares of nVent Electric (NVT) are an attractive long at these levels. This is a genuinely orphaned stock that still flies relatively under the radar for most investors. It has underperformed most peers YTD, and we feel a catch-up trade is warranted. Valuation-wise, at a near 8% FCF yield on 2020 estimates, we believe it presents particularly good relative value following the recent move higher in the broader industrials universe.

NVT was spun off from Pentair (PNR) in April 2018 following an activist campaign led by Nelson Peltz's Trian Partners. PNR retained the sexier water business (secular growth, ESG-friendly, etc), and NVT was spun containing the less-attractive Pentair electrical businesses. Interestingly, Peltz retained all the NVT shares he received on the spin. NVT didn't really show the spin-off pattern of stock underperformance in its first year as a public company (it performed roughly in line with the XLI, and ironically outperformed legacy PNR). From early on, several sell-siders pitched the thesis that NVT was an obvious takeout candidate, and that Peltz would market the company to potential acquirors after a year of being listed when (the argument went) the acquisition would be feasible without compromising the tax-free nature of the NVT/PNR spin-off. Many hedge funds bought into this thesis, and the top-holders list quickly reflected this. These hopes quickly went out the window in early May, a Trian filing revealed they were cutting their stake from around 10.4% to 8%. People quickly assumed the sale was off for whatever the reason, and the stock proceeded to underperform peers in May-June. On August 1st, the company reported an underwhelming 2Q (consistent with most of its peers, to be fair), and the stock took another leg down. Finally, on Sept 30th the company announced the departure of their CFO with little details given, and everyone feared the worst and ran for the exit.

To the surprise of most, NVT reported 3Q earnings on 30 Oct, and there was no meltdown: results were OK, and it turned out the CFO departure had nothing to do with the trajectory of the business or accounting matters. On top of that, it turns out Peltz is holding on to his 8% position in the company. And all of the sudden, there is a general sense in industrial-land that fundamentals are near the trough, which has led industrial trading multiples (and stock prices) to touch highs not seen in at least 2 years. In this context, NVT has bounced back some, but the stock is esentially unchanged vs the April 2018 levels when it spun off. Also, the company is trading at a 28% P/E discount to the SP500, vs an average 15% discount in its first year of trading. Its relative P/E multiple versus the industrial complex is also 10% below where it was in its first year. 

We believe there's been a clear case of shareholder rotation here, where the fast money has stampeded out, and an opportunity exists to get involved at an attractive valuation for a decent business where much of the original thesis hasnt changed that much after all. As a bonus, the company is still a feasible takeout candidate that lines up well with the M&A priorities expressed by larger companies like Eaton (ETN) or Schneider Electric (SU.FP).

Business description

NVT is a fairly simple to understand business. The company has 3 segments:

• Electric enclosures (37% of total EBITDA, 45% of sales)
• Thermal Management (32% of EBITDA, 30% of sales)
• Electrical & Fastening Solutions (31% of EBITDA, 26% of sales)

End-market exposures are 45% of sales to industrial customers, 27% are commercial/residential construction-related, 16% energy, and 12% infrastructure. The business overall has grown at GDP-type rates (2/3rds of sales are North America, with Western Europe around 22%). 

Enclosures and EFS have performed reasonably well this cycle, while Thermal Mgmt has been the problem child, showing disappointing organic growth that has been blamed on several reasons including lumpy energy projects.

Corporate-level margins of 21% EBITDA compare quite well with the multi-industrial complex, and support management's claim that this company makes more than just "metal boxes". Importantly, the business has shown resilient margins through the cycle, with the 2015-16 downturn brining only 100bps of margin pressure on a -3/-4% top line decline. 

In summary, NVT is a decent business. It is relatively cyclical, and it doesn't have the growth rates of ROP nor the margins of ITW. But it's far from a commoditized, deep-cyclical business on the other hand, even though it's currently valued as one.

Management

Management is okay. Beth Wozniack, a HON veteran, has been running the business for the last couple of years. We find she's doing a reasonable job, though Thermal Management execution could be steadier. The recently replaced CFO wasn't loved by the market and we think communication will improve under the new CFO.

In terms of capital deployment, management is keen on doing bolt-on deals and recently closed their first - Eldon Enclosures. We feel buybacks would be the best use of capital given the heavily discounted stock price, but still the risk of major mistakes in acquisitions seems low.

Trian still holds a Board seat. We have no insight as to their intentions - they seem to now be letting management do their thing. Interestingly, they've sold completely out of their investment in legacy PNR, but still hold 8% of NVT.

Catalyst

• Growth troughs
• More consistent execution
• Greater visibility in the public markets
• Potential takeout