imc 0914 CLOSE 08-22-14 · 2015. 1. 28. · manufacturers, include Eaton Corp., ITT Corp., and IDEX Corp. (in the flow control sector); Emerson Electric Co. and Hubbell Inc. (electrical

Please see General Disclaimers on the last page of this report.

Current Environment ............................................................................................ 1

Industry Profile .................................................................................................... 12

Industry Trends ................................................................................................... 14

How the Industry Operates ............................................................................... 20

Key Industry Ratios and Statistics ................................................................... 25

How to Analyze an Industrial Machinery Company ..................................... 26

Glossary ................................................................................................................ 33

Industry References ........................................................................................... 34

Comparative Company Analysis ...................................................................... 36

This issue updates the one dated March 2014.

Industry Surveys Industrial Machinery Jim Corridore, Industrials Sector Equity Analyst

AUGUST 2014

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S&P CAPITAL IQ INDUSTRY SURVEYS (ISSN 0196-4666) is published weekly. Redistribution or reproduction in whole or in part (including inputting into a computer) is prohibited without written permission. To learn more about Industry Surveys and the S&P Capital IQ product offering, please contact our Product Specialist team at 1-877-219-1247 or visit getmarketscope.com. Executive and Editorial Office: S&P Capital IQ, 55 Water Street, New York, NY 10041. Officers of McGraw Hill Financial: Douglas L. Peterson, President, and CEO; Jack F. Callahan, Jr., Executive Vice President, Chief Financial Officer; John Berisford, Executive Vice President, Human Resources; D. Edward Smyth, Executive Vice President, Corporate Affairs; Charles L. Teschner, Jr., Executive Vice President, Global Strategy; and Kenneth M. Vittor, Executive Vice President and General Counsel. Information has been obtained by S&P Capital IQ INDUSTRY SURVEYS from sources believed to be reliable. However, because of the possibility of human or mechanical error by our sources, INDUSTRY SURVEYS, or others, INDUSTRY SURVEYS does not guarantee the accuracy, adequacy, or completeness of any information and is not responsible for any errors or omissions or for the results obtained from the use of such information. Copyright © 2014 Standard & Poor's Financial Services LLC, a part of McGraw Hill Financial. All rights reserved. STANDARD & POOR’S, S&P, S&P 500, S&P MIDCAP 400, S&P SMALLCAP 600, and S&P EUROPE 350 are registered trademarks of Standard & Poor’s Financial Services LLC. S&P CAPITAL IQ is a trademark of Standard & Poor’s Financial Services LLC.

INDUSTRY SURVEYS INDUSTRIAL MACHINERY / AUGUST 2014 1

CURRENT ENVIRONMENT

Industrial machinery sector continues to recover slowly

Manufacturing indicators began to show year-over-year improvements in late 2009, along with revenue and earnings figures for industrial companies—a comeback after the severe economic recession between 2007 and 2009. In 2010 and into early 2011, industrial machinery companies built on this momentum as the economic recovery gained steam, leading to improved sales and earnings for the group. However, while the economy improved, there were still concerns about world economic growth and rising commodity prices, and the pace of growth in the industrial machinery sector slowed.

With a number of European economies in recession and growth slowing in both the US and emerging markets, economic concerns heightened in 2012. Even before the US Congress reached a compromise on January 1, 2013, to delay the fiscal cliff, businesses had been curbing investments, and financial markets were fluctuating in reaction to news, both good and bad, in the months leading up to the cliff. We think the implementation of across-the-board cuts that came with sequestration in March 2013 slowed the economic recovery in the US and further delayed capital spending decisions. This uncertainty affected growth in revenues, orders, and net income among large industrial machinery companies.

In spite of the increased risks in the economic environment, the US economy continues on a slow recovery path that we think is likely to accelerate as we move through 2014. The International Monetary Fund (IMF) estimates that in 2014, world output growth will reach 3.6% (from 3.0% in 2013) and US output growth will reach 2.8% (from 1.3% in 2013). We think this low-growth environment in the US economy will eventually lead to improvements in orders and revenues for industrial machinery companies during the second half of 2014. Fundamentally, we think the improvements in the economy are correlated with higher levels of economic activities that will spur demand in the manufacturing industry (e.g., automobile and packaging manufacturing), which industrial machinery companies can take advantage of.

As of July 2014, our near-term outlook for the industrial machinery universe was positive, reflecting a further rebound seen in manufacturing and machinery usage in the US during the year. Europe continues to stabilize and emerging regions are starting to pick up. S&P Capital IQ (S&P) predicts a 7.4% growth in the emerging regions, despite recent economic reports indicating a slowdown of growth in China.

Manufacturing indicators showed positive trends in 2013 through the first half of 2014, following sporadic trends between 2011 and 2012. For example, the Purchasing Managers’ Index (PMI) from the provider of manufacturing and non-manufacturing industry data, the Institute for Supply Management (ISM), has pointed to a contraction in manufacturing conditions over the last few years. However, market conditions, as reflected by the index, now seem to be holding firmly above 50 (a reading above 50 indicates improving conditions). PMI reached 55.3 in June 2014, up from 51.3 during the first month of 2014. The favorable PMI in the first half of 2014 followed an index score of 56.5 in December 2013, up from 52.9 and 50.2 in the same period in 2011 and 2012, respectively. S&P still sees manufacturing gradually improving during the second half of 2014 Domestic fiscal budget issues may restrain growth, but should be offset by the ongoing US economic recovery. We also note that the Global PMI, a weighted average of manufacturing activity globally, increased in 2013 from 51.5 in January to 53.3 in December, but dropped to 52.4 in March 2014.

Other industrial indicators and surveys have followed a similar path, with a positive trend in early 2011 before turning lower, then improving in early 2012 and dipping back downward in the second half of the year. As of July 2014, some of these indicators and surveys—such as the Electroindustry Business Confidence Index (EBCI) from the National Electrical Manufacturers Association (NEMA), the quarterly Manufacturing Barometer from PricewaterhouseCoopers and the ISM’s semiannual Report on Business were pointing to an improving manufacturing environment during 2014. We discuss some of these indicators in more detail later in this section.

2 INDUSTRIAL MACHINERY / AUGUST 2014 INDUSTRY SURVEYS

The industrial machinery universe encompasses a wide range of industrial firms that supply the machinery, equipment, parts, and services that other companies use to operate their manufacturing operations. This Survey focuses primarily on three segments: flow control equipment, electrical equipment, and industrial automation. The overall health of the global economy and of manufacturing activity influences demand in each sector, though to varying degrees and at differing times in the business cycle. Below, we review industrial machinery vendor results for the first half of 2014. In addition, we discuss the broad macroeconomic factors that affect manufacturing in general, and the industrial machinery sector in particular. However, because sector-specific factors also drive demand, we discuss each area separately following our macroeconomic review.

INDUSTRIAL MACHINERY VENDORS GENERALLY PERFORM WELL

S&P analyzes the industrial machinery industry by examining a handful of firms that we use as a barometer of the overall industry universe. These eight companies, comprising most of the major US and European manufacturers, include Eaton Corp., ITT Corp., and IDEX Corp. (in the flow control sector); Emerson Electric Co. and Hubbell Inc. (electrical equipment); and ABB Ltd., Honeywell International Inc., and Rockwell Automation Inc. (factory and process automation). As of July 29, 2014, the group had an aggregate market capitalization of $242.2 billion. For individual companies, market cap ranged from $4.3 billion (ITT) to $73.3 billion (Honeywell).

Aggregating results from individual companies, these eight firms generated total sales of $34 billion in the first quarter of 2014, an increase of 1.1% from the same quarter in 2013. The group’s aggregate net income was $2.9 billion in the first quarter of 2014, and was up 0.2% from the same period a year ago. Based on first quarter data, the group’s median sales increased by 3.6% in 2014.

S&P thinks the increase in net income in the first quarter of 2014 reflects not only the improvement in price and volume, but also the group’s high operating leverage. Higher capacity utilization allows for greater absorption of fixed costs and tends to contribute to operating margin expansion.

MANUFACTURING PROVES RESILIENT DESPITE ITS UPS AND DOWNS

To gauge the prospects of the manufacturing sector and the economy as a whole, we follow a number of proxies, indicators, and metrics. Below we discuss what we think are the most important of these measures.

PMI in growth mode for most of the past few years The Purchasing Managers’ Index (PMI), a broad barometer of manufacturing activity from the ISM, is one of the most important indicators for the industrial machinery sector. The manufacturing PMI is a composite

Table B01: MAJOR INDUSTRIAL MACHINERY VENDORS’ REVENUES AND NET INCOME

MAJOR INDUSTRIAL MACHINERY VENDORS' REVENUES AND NET INCOME — FIRST QUARTER(Ranked by 2014 first quarter sales)

MARKET

CAP*

COMPANY (MIL. $) 2013 1Q 2013 1Q 2014 % CHG. 2013 1Q 2013 1Q 2014 % CHG.

Honeyw ell 73,387 39,055 9,328 9,679 3.8 3,924 966 1,017 5.3

ABB 54,559 41,848 9,715 9,471 (2.5) 2,907 664 544 (18.1)Emerson Electric 46,385 24,669 5,960 5,812 (2.5) 2,004 561 547 (2.5)Eaton 33,612 22,046 5,310 5,492 3.4 1,861 378 439 16.1Rockw ell Automation 16,609 6,352 1,523 1,601 5.1 756 176 180 2.5Hubbell 7,101 3,184 740 760 2.6 327 66 64 (2.6)ITT 4,329 2,497 608 675 10.9 489 21 32 54.8IDEX 6,229 2,024 494 544 10.0 255 61 75 21.6

Total 242,211 141,675 33,679 34,032 1.1 12,523 2,893 2,898 0.2

Mean % change 3.9 9.6Median % change 3.6 3.9

*As of July 29, 2014Source: Company reports.

--------------- SALES (MIL. $) --------------- - - - - - - - - - - - - NET INCOME (MIL. $) - - - - - - - - - - - -


index based on an equal weighing of five major indicators: new orders, production levels, employment, inventories, and supplier deliveries. The PMI and its component measures are also diffusion indexes, which measure the degree to which change is occurring in the underlying data and the dispersion of the data. A reading above 50 is indicative of expansion, whereas below 50 indicates a contraction.

ISM data (including the PMI, its five components, and other important manufacturing metrics) are cyclical and follow a steady, discernible pattern, with clear peaks and troughs over the business cycle. (The

accompanying chart, “PMI, New Orders, & Order Backlog,” contains historical ISM data.) Historically, a full peak-to-peak cycle, on average, has lasted two years, but can be as short as six months or as long as three years. Furthermore, the typical trough-to-peak period (the mid-cycle length) lasts approximately one to two years. However, in the past 10 years, the cycle appears to have lengthened, with some arguing that a full cycle can include a mid-cycle slowdown.

In 2009, manufacturing activity began to improve. The PMI turned positive in August, with a reading of 53.5, up from 49.9 in July and 34.9 in January of the same year. Subsequently, the PMI remained above the 50 demarcation,

indicating an expansion in manufacturing activity, for 39 straight months, through October 2012. This has been supported by growth in both the new orders and production indexes over the same period. However, after a long period of expansion, the PMI dipped to 49.9 in November 2012 and to 49.0 in May 2013.

Over the past four years, a closer look at the PMI (as shown in the accompanying chart) reveals that the pace of activity among manufacturers has been relatively volatile. The PMI peaked in March 2010 at 59.3, but then declined to 56.1 in June, suggesting that growth in manufacturing activity was decelerating. From that point, the PMI again turned higher, peaking at 59.6 in February 2011, with component indexes like new orders and production showing strength.

PMI values turned lower as 2011 progressed (similar to the trend in 2010), steadily decreasing to 52.3 in July and reaching their lowest level of 51.5 in October. The index improved after that, suggesting a renewed strength in manufacturing heading into 2012. The strength continued in the first 10 months of 2012, with the index value rising to 53.7 in January and to 54.1 in April, but then dropping to 49.9 in November, before improving to 50.2 in December. In 2013, the index rose to 53.1 in January and to 54.2 in February. Then, it started declining and reached 49.0 in May, before improving for six consecutive months to reach 57.3 in November; it ended the year at 56.5. In 2014, the index rose from 51.3 in January to 55.4 in May and 55.3 in June.

The new orders index followed trends similar to the overall PMI, although new orders rose above 50 in June 2009 (to 51.7), two months before the overall PMI did likewise. Growth in new orders continued through the first four months of 2012, with the index reaching a high of 57.6 in April 2012. However, it dropped to 47.5 in July 2012, signifying a slight weakness in economic conditions across the US. The index improved in the following three months and reached 52.8 in October 2012. The index again dropped in the last two months of 2012, reaching 49.7 in December. Similar to the PMI, the new orders index showed improvement heading into 2013, reaching 53.3 in January and 57.8 in February. It then declined, falling to 48.8 in May, but improved in the following months and ended the year at 64.2. The level of production in December 2013 was not sustained in the first month of 2014, with the index dropping to 51.2. However, there was consistent improvement in the index from February (54.5) to June (58.9).

Chart H01: PURCHASING MANAGERS INDEX, NEW ORDERS, & ORDER BACKLOG

20

30

40

50

60

70

80

2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 *2014

PMI New orders Order backlog

*through June.Source: Institute for Supply Management.

PURCHASING MANAGERS, NEW ORDERS, & ORDER BACKLOG DIFFUSION INDEXES


Based on our analysis, a historically strong inverse relationship between new orders and the customers’ inventories indexes is evident. Since its inception in January 1997, the customers’ inventories index has generally moved in an opposite direction to the new orders index, meaning that a low reading in the customer inventory index would correlate to a high reading in the new orders index. The same relationship is also true of the relative trend in both indexes. Further still, we see that historically, the new orders index has shown a degree of persistent growth, meaning it achieved an index demarcation of 50 or above in any six-month period following a customer inventory index level less than or equal to 45.

There was an appreciable increase in the customers’ inventories index from its 2010 low of 32, which it hit twice—in January and May. The index reached a high of 45.5 in November 2010 at a time when the production index was above the 50 level. This suggests to us that a portion of the growth in production during 2010 was attributable to the restocking of inventories. From late 2010 until mid-2011, the customers’ inventories index generally moved sideways. It then began to trend higher, reaching 50 by November 2011. This index runs counter to the other ISM indexes (meaning low readings are more positive). A reading below 50 indicates that customers’ inventories are considered too low, whereas a reading above that level indicates they are too high.

In December 2011, the index decreased to 42.5, leading to an acceleration in new order growth during the first nine months of 2012. The index increased to 47.5 in January 2012, then dropped to 43.5 in May before again rising to 49.5 in July, the same mark it hit again in September. The index dropped to 42.5 in November, before rising to 47.5 in December. In 2013, the index rose to 48.5 in January and gradually declined to reach the yearly low of 42.5 in August. The index ended the year at 47.5, dropped to 44.0 in January 2014, and was sporadic from February to June.

Global PMI has largely mirrored performance of PMI Recent Global Purchasing Managers’ Index (GPMI) readings suggest that global manufacturing activity remains relatively weak. Compiled by Markit Economics, a specialist compiler of business surveys and economic indices, the GPMI is a weighted-average composite index of manufacturing activity globally, based on surveys covering more than 7,500 purchasing managers in 29 countries.

Reflecting the trends in the US-based PMI, the GPMI began to show that global manufacturing activity was again growing in the second half of 2009. In 2010, the GPMI exhibited fairly strong growth trends, especially in the first six months. While the GPMI average of 53.4 in 2011 was higher than the 46.8 average in 2009, it was still low compared with the 2010 average of 55.1. After the GPMI reached its 2011 high of 59.2 in February, it subsequently fell to a 27-month low of 51.3 in October, and closed the year at 52.7. Growth in the GPMI continued in 2012, with the index reaching 54.5 in January and rising to a 12-month high of 55.4 in February. By June, however, it dropped to a near-stagnation level of 50.3, with a slowdown in the US economy and continuing weakness in the Eurozone. The index ended the year at 50.2 in December. While the UK stagnated during December, the Eurozone and Japan experienced contractions; in contrast, emerging economies and the US both saw improvements. The GPMI continued its recovery in 2013 and stayed above the 50 mark throughout the year, indicating expansion. The GPMI reached 50.6 in June, from where it improved each month to reach a 32-month high of 53.3 in December. In January 2014, the index showed little change at 52.9, and in June, the GPMI stood at 52.7, up 4.2% compared with the prior-year period.

INDUSTRIAL PRODUCTION AND CAPACITY UTILIZATION RATES IMPROVING

The Federal Reserve’s monthly indexes of industrial production, capacity utilization, and total capacity measure the real output, the productive use of total capacity, and the estimate of sustainable potential output, respectively, for the total US economy and a number of sector groups, along with their aggregates, thus providing insights into the overall health of the manufacturing sector and the economy.

We think it is important to watch trends in both total industrial and manufacturing production, as well as changes in machinery production levels, in order to assess the health of the industrial machinery sector. The Federal Reserve’s total industrial production index (2007=100) improved to 92.4 as of December 2010, up 6.7% compared with the year-earlier level. In December 2011, this index reached 95.9, up 3.8% over the


December 2010 level. In December 2012, it reached 98.1, its highest level since June 2008. This represented a 2.2% increase over the December 2011 level. In 2013, the index improved further, reaching 101.6 in December. While this index was flat in January 2014 compared with the previous month, it reached 103.9 in June 2014, a 4.3% increase compared with June 2013, and the highest index between 2012 and the first half of 2014.

As the global economy rebounded, manufacturing activity also gained. The manufacturing production index was 97.7 in December 2013, up 2.2% versus December 2012. However, the rise of this index was not sustained at the beginning of 2014. The index dropped to 96.8 in January 2014, albeit a 1.5% increase compared with January 2013. The manufacturing production index increased consistently from February to June, with year-on-year increases of 2.2% and 3.4%, respectively, compared with the same period in 2013. However, within this index, production rates for the machinery group dropped 0.5% in June 2014 compared with the previous month, but increased 6.1% over a year period. In 2013, the year ended with a machinery production index of 102.9. The index accelerated through the first half of 2014, and as of June 2014, stood at 109.

Trends in capacity utilization In our view, aside from production rates, it is important to track the trend in capacity utilization—the productive capacity currently employed in the production of goods or services as a percentage of total available capacity. It is an important metric to watch, as it relates to the prospects for total economic growth and the fundamental outlook of the industrial machinery sector. We think higher employed capacity suggests the potential for higher industry pricing, increased levels of business spending, and a potential increase capacity to meet burgeoning demand. In the last two recessions, there appeared to be a strong correlation between upturns in capacity utilization, industrial machinery revenues and earnings, the official

end of each recession, and the share price performance of the related companies and indexes.

In the period from 1980 to December 2012, monthly capacity utilization data from the Federal Reserve showed that median total capacity utilization was 80.2% of available capacity, ranging from a low of 66.8% (in June 2009) to a high of 85.2% (January 1989). For the manufacturing subgroup, median capacity utilization over the same period was 78.4% of available capacity, ranging from a low of 63.6% (June 2009) to a high of 85.5% (January 1989). For the machinery sector, capacity utilization has ranged from a low of 56.5% (February

1983) to a high of 90.0% (January 1980), while the median was 77.5% of available capacity. In December 2013, total capacity utilization stood at 79.2% (up from 77.8% in December 2012), while the capacity utilization rate for the manufacturing subgroup reached 77.2% (up from 76.4% in December 2012).

The beginning of 2014 showed favorable trends, as total capacity utilization and the manufacturing subgroup’s capacity utilization reached 78.1% and 77.8%, respectively. In June 2014, total capacity utilization reached 79.1% (up from 77.8% in June 2013).When utilization rates are at or above the 80% threshold, manufacturers typically begin to consider adding incremental productive capacity. Although still below the 80% threshold, we think the recovery since June 2009 is further confirmation that the prospects for industrial machinery are improving and that as long as the economy continues to recover, so too will capacity utilization rates.

Chart H02: CAPACITY UTILIZATION

55

60

65

70

75

80

85

90

2000 2002 2004 2006 2008 2010 2012 *2014

MachineryDurable manufacturingAll manufacturing

CAPACITY UTILIZATION(In percent)

*through June.Source: Federal Reserve Board.


Similar trends are seen in the capacity utilization rates for the manufacturing subgroup and the machinery sector. In December 2013, capacity utilization rates for manufacturing had improved to 77.2% versus 76.4% in December 2012, whereas the machinery sector recorded a capacity utilization rate of 80.2% in December 2013, a drop from 81.7% in December 2012. In 2014, January started the year with 76.1% capacity utilization rate for the manufacturing subgroup and 78.9% for the machinery sector. As of June 2014, the manufacturing subgroup recorded a capacity utilization rate of 77.8% (up from 76.7% in June 2013), and in the same month, the machinery sector had a capacity utilization rate of 80.5% (up from 78.5% in June 2013).

We think this trends show that there is still some productive slack across the manufacturing group. Based on the most recent capacity utilization data, we think companies across the machinery sector are nearing the production limits of their current facilities and will need to increase spending on plant and equipment in order to grow. Further, we anticipate increased spending on maintenance and repair activities as companies push their equipment closer to full production.

GLOBAL ECONOMIC RECOVERY LIKELY TO BOOST CAPITAL SPENDING

Improving capital spending levels are one of the essential requirements for further expansion in the industrial machinery sector, in our view. Following overall declines in capital expenditures in 2008 and 2009, and a rebound in spending levels in 2010 and 2011, capital expenditures picked up again in 2012 as a percentage of sales. Rising end-market demand tends to lead to higher capacity utilization rates, which eventually requires increased capacity, as well as greater maintenance and repair work on heavily worked existing machinery.

A good proxy for the broader manufacturing sector and the economy as a whole is nondefense capital goods orders (excluding aircraft), reported by the US Department of Commerce. These types of orders can provide an overview of the manufacturing sector since they include larger, durable manufactured equipment, but exclude the volatile aerospace and defense industries. In addition, we think this broader

measure of orders is also a reasonable proxy for capital spending. Hence, it is an important measure to monitor, as it provides insight into the trend of business spending levels over time.

Nondefense capital goods orders (excluding aircraft), on a seasonally adjusted basis, grew 5% to $813.2 billion in 2013, following a 2% increase to $774.5 billion in 2012 from $759.0 billion in 2011. New orders in January 2014 declined 1.9% over the previous month to $67.7 billion, whereas new orders in May 2014 reached $70.7 billion, up 4.0% from the previous year. Through May 2014, new orders reached $347.5 billion, up 2.9% compared with the same period in the previous year. The average monthly growth rate for the first five months of 2014 was 0.5%.

Shipments for nondefense capital goods (excluding aircraft) rose 1.9% in 2013, to $791.1 billion. Through May 2014, shipments grew 3.1% to $338.6 billion from $328.3 billion through May 2013. On a monthly basis, shipments grew by an average of 0.3% in the first five months of 2014.

The book-to-bill ratio (the ratio of new orders to shipments) was consistently above 1.0 from March 2010 until May 2012. The book-to-bill ratio for 2012 was 0.99 (versus 1.04 for 2011), indicating that overall orders in 2012 were 1% below shipments. In 2013, book-to-bill ratio came in above 1.0, and increased to 1.03. When orders are significantly ahead of shipments, manufacturers typically start to build their backlog of unshipped orders, which usually leads to increased production rates in the future. In the first five months

Chart H04 NONDEFENSE CAPITAL GOODS, EXCLUDING AIRCRAFT

(32)

(24)

(16)

(8)

0

8

16

24

2004 05 06 07 08 09 10 11 12 13 *2014

Shipments Inventories

New Orders Unfilled Orders

*through May.Source: US Census Bureau.

NONDEFENSE CAPITAL GOODS, EXCLUDING AIRCRAFT (Three-month moving average of year-to-year % change)


of 2014, the book-to-bill ratio was recorded at 1.03. Unfilled orders grew by 3.6% in 2013 compared with a 7.5% increase during 2012. Through May 2014, such orders grew by 9.4%, compared with the same period in the previous year.

S&P thinks that the growth in new orders, relative to shipments, and the increase in unfilled order levels should be viewed in the context of total productive and manufacturing capacity trends. Total productive capacity, as reported by the Federal Reserve, increased on a year-over-year basis through July 2009, despite the financial crisis that started in late 2008. Capacity was cut more quickly in the manufacturing subgroup, declining from November 2008 and falling every month until May 2011. Interestingly, the machinery sector did not return to year-over-year improvement until November 2011.

We think these statistics reflect that while new order growth is subdued and unfilled orders also low, productive capacity remains below 2008 levels. We expect this to foreshadow further increases in capital spending and some additional productive capacity being required. A number of manufacturing-based surveys—including the ISM’s Semiannual Economic Forecast (released in May 2014), the PricewaterhouseCoopers Manufacturing Barometer, and the NAM/IndustryWeek 2014 first-quarter manufacturing index—support this thesis.

In the latest ISM semiannual report, survey respondents predicted manufacturing-related capital expenditures to rise by 10.3% in 2014, a deceleration compared with the 12.3% increase registered in 2013. In the same report, survey respondents stated that production capacity is expected to increase by 4.8% in 2014, which is lower than the reported 5.2% increase in 2013.

Further, the first-quarter 2014 PricewaterhouseCoopers manufacturing barometer showed that 39% of US industrial manufacturers surveyed (versus 43% in the first quarter of 2013) are planning major new investments over the next 12 months. This percentage represented a decline from 48% in the third quarter of 2013, a rise from 40% in the second quarter, and no change from 43% in the first quarter in 2013. Moreover, as many as 71% of those surveyed were optimistic about the growth of the US economy over the next 12 months (compared with 55% in the first quarter of 2013). This percentage was higher than the 68% in the fourth quarter, 60% in the third quarter, and 63% in the second quarter. However, this does not entail that manufacturers will increase capacity without limit, as it appears that capacity additions will be more pointed and select.

Manufacturers’ investment expectations for the next 12 months, as stated in the latest NAM/IndustryWeek Manufacturing Index (released in the first quarter of 2014), were higher: respondents think that capital spending levels will increase by just 1.9% in the next 12 months. In our view, manufactures are leaning toward making select capacity additions, especially building facilities or making investments closer to centers of growth or imbedded within a customer populace. Greater growth from emerging markets and resource nations suggest that manufacturing capacity will move closer to or expand within these regions.

COMMODITY PRICES

To keep up with the demand of their production processes, industrial machinery vendors are typically heavy consumers of a number of raw materials and commodities. Foremost among these are steel, copper, oil, and natural gas, to name a few. Prices for all of these raw materials surged from the beginning of the last decade into 2008, due in part to the industrialization of the developing world, but plunged back to 2002 levels (as measured by the Commodities Research Bureau Index) during the global recession that began in late 2007. Commodity prices increased significantly starting in mid-2009, due to a rebound in global demand and higher inflation expectations, in our opinion, only to fall back a bit in 2012 and 2013. However, commodity prices tend to be volatile, and can swing significantly on seemingly minor changes in the supply/demand balance or investor sentiment.

Steel. Based on average prices between January and May of 2014, the price of number one heavy melting steel averaged $389 per ton in 2014, up 8.6% from $358 in the same period in 2013. In full year 2013, the average price of steel was at $357 per ton, down 5.6% from $378 per ton in 2012. In light of the excess


steel capacity, we expect the average price per ton to decline slightly from the 2013 level, given the small rise in steel consumption projected for the rest of 2014.

Copper. In the first five months of 2014, copper prices averaged $6,875 per metric ton, down 10.1% from the $7,647 average over the same period in 2013. The latest average for copper prices is also lower than the full year 2013 average of $7,330 per metric ton—a 7.9% decline from the average price of $7,959 per metric ton in 2012, according to London Metal Exchange data. Copper prices generally trended downward in 2013 and in the first five months of 2014, which we think reflected a general reduction in customer inventories during this time. Economic indicators were also stressing the increased likelihood of a double dip recession, which yielded a monthly average price of $6,879 in May 2014.

Oil. Based on West Texas Intermediate (WTI) crude oil price, year to date through May 2014 showed an average oil price of $100 per barrel, up 6.4% from an average of $94 per barrel over the same period in

2013. For 2013, the price of oil averaged $98 per barrel, up 4% from $94.2 per barrel in 2012.

Due to economic weakening, oil fell to $85.61 per barrel in September 2011. Prices subsequently climbed, however, reaching a high of $106.19 per barrel in March 2012. We attribute this rise in prices to heightened concerns about supply disruptions in the Middle East and the Strait of Hormuz.

Reflecting the decreased demand and economic weakness, oil prices registered two consecutive steep declines in May and June 2012, reaching a low of $82.41 per barrel in June. Oil prices increased again and reached $94.70 per barrel in September. In the last quarter, prices declined and stood at $88.25 per barrel in December. In January 2013, oil prices were up again, averaging $94.83 per barrel, but remained steady through June. However, there was a steep increase in prices in July-September, when oil averaged $105.80 per barrel in the three-month period. However, by the end of the year, prices had declined to an average of $97.90 per barrel in December, but starting February 2014, prices started climbing above $100 per barrel.

Natural gas. During the first five months of 2014, the average Henry Hub natural gas price of $4.85 per British thermal units (MMBtu) increased 33.6% from the $3.63 average over the same period in 2013. Consequently, in full year 2013, the average was $3.69 per MMBtu,

which was 32.5% higher than the average price of $2.79 per MMBtu in 2012. In 2012, natural gas prices declined in the first half, falling from $3.08 per MMBtu in January to a low of $2.03 in May, after which they rebounded to $3.01 per MMBtu in August, as natural gas companies took rigs out of production. Prices continued to recover and reached $3.71 per MMBtu in December. Prices declined slightly to $3.23 per MMBtu in February 2013 and recovered again, with prices averaging $3.71 per MMBtu in July and $3.82 per MMBtu in December. The recovering natural gas price continued in the first five months of 2014, reaching $4.81 per MMBtu in May 2014.

Chart H03: KEY COMMODITY PRICES FOR INDUSTRIAL MACHINERY INDUSTRY

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*through May.HMS-Heavy melt steel.Source: London Metal Exchange; Commodity Research Bureau; Wall Street Journal; Natural Gas Week.


The rise in prices, in our view, can generally be attributed to cold winter weather throughout the US, which drove higher demand. Further economic recovery in 2014 also helped increase the demand for natural gas in the first five months of the year. Over the longer term, we would expect a cap on natural gas prices due to the surge in natural gas supplies coming out of the shale formations, like the Marcellus and Bakken shale regions.

OUTLOOK AND SECTOR REVIEW

We think the economic environment continues to improve following the deep 2007–2009 recession, and we see further gains in results for industrial machinery companies. This is supported by the growth and improvement shown in the ISM data and other economic indicators such as industrial production, capacity utilization, and data on nondefense capital goods (excluding aircraft). However, we view the recent slowing in global economic growth, along with continued weak conditions in Europe, as significant headwinds for companies in the industry. In our view, positive factors include economic growth in the US and in emerging markets, particularly in Asia and Latin America. We also note that sector-specific factors influence results in the flow control, electrical equipment, and industrial automation segments. We discuss each segment group in the following sections.

Gradual improvement in industrial machinery sector Following improvement in most of the manufacturing indicators in 2012, 2013, and the first quarter of 2014, we expect modest growth for most industrial machinery companies in the second half of 2014. Eaton Corp., for example, expects revenues from the industrial sector to grow 3% in 2014, while the company’s operating earnings per share (EPS) should increase 9%–14% (excluding charges to integrate recent acquisitions), with the midpoint of operating EPS to be up 11%.

Demand for flow control equipment is improving Due to a severe economic recession, 2009 saw dismal results, but new order and shipment rates for machinery and industrial machinery improved during 2010 and 2011, indicating that demand for flow control equipment has been improving. For instance, according to the US Department of Commerce, machinery orders through May 2014 increased 3.6% to $177.3 billion, from $171.1 billion through May 2013. As for industrial machinery, a subset of the machinery group, new order rates gained 28.6% through May 2014 to $22.4 billion, from $17.4 billion through May 2013. In 2013, industrial machinery performed favorably with new orders reaching $46.3 billion, a 17.3% increase compared with $39.4 billion in 2012.

Electrical equipment industry leaders starting to see gains S&P finds the durable goods order data from the US Department of Commerce and the EBCI from the NEMA particularly useful in evaluating the health of the electrical equipment industry. Using this data, we think that the electrical equipment industry saw similar declines as other machinery subsectors, but started to catch up during the first five months of 2014.

According to the Department of Commerce, new orders increased by 8.2% in 2011 and ended the year at $37.31 billion, then declined 0.5% in 2012 to end the year at $37.14 billion. In 2013, new orders were down 1.2% to $40.6 billion, from $41.1 billion in 2012. However, year to date through May 2014 data showed new orders increased by 0.8% to $17.2 billion, compared with $17.0 billion in the same period in 2013. Shipments, on the other hand, totaled $40.2 billion in 2013, down 1% from $40.6 billion in 2012. Through May 2014, shipments were down 0.4% to $16.37 billion, from $16.44 billion through May 2013.

The EBCI survey, which measures electrical manufacturer executives’ opinion of both current and future industry conditions for North America (coverage of Latin America, Europe, and Asia was discontinued in 2013) is another industry-specific indicator. Similar to the PMI, both of the EBCI index series (current conditions, future conditions) are diffusion indexes: readings above 50 indicate growth, while those below 50 point to contraction.

The current conditions index for North America between 2007 and 2012 reached its highest reading in February 2012 at 72.5, from where it declined to an annual low of 35.7 in August. The index then began recovering and reached 63.9 in December 2012. However, in 2013, it declined to 56.7 in June and to 52.8 in December. The EBCI for current conditions further slipped in 2014, to 40.6 in January, the first below


50-point level since October 2012. This index rebounded in February 2014, when it reached 50. The highest reading in the first six months (66.7) was recorded in April, but this dropped to 50 for both May and June. As for the future conditions index (illustrated in the accompanying chart), North America (83.3) showed strength in December 2013, and was sustained in the first six months of 2014, averaging 88.2. The highest reading for the first half of 2014 (92.9) was recorded in April.

Higher robotics orders reflect industrial automation demand In our view, trends in total capacity utilization and robot orders are significant indicators of the segment’s prospects in industrial automation. Capacity utilization is important, as high or increasing utilization rates portend

higher business spending. In addition, robotic orders can provide insights into near-term industrial automation prospects, primarily as robotics equipment works directly with other pieces of automation equipment. For example, robots perform welding and coating tasks—processes that might be used on production lines in the automotive or chemical industries, both of which use other automation equipment.

We look at trends in robotics orders to gauge demand levels in the industrial automation sector. According to the Robotic Industries Association (RIA), an industry trade group, North American shipments of industrial robots in 2013 totaled 22,591 robots valued at $1.4 billion. This reflected an increase of 11% on a unit basis and 7.8% on a dollar value basis from the prior-year period. In 2012, according to the RIA, the industry posted record sales of 20,328 units worth $1.29 billion.

We think that the aging of equipment and reduced spending during and following the 2007–2009 recession led to pent-up demand. This is evident in order rates and shipment data, in our view, during 2010, 2011, 2012, and through most of 2013. However, we think that industrial automation vendors will benefit from continued growth in spending on maintenance, repair, and replacement automation parts throughout 2014.

RISKS TO OUR OUTLOOK

We think that revenues and earnings for the industrial machinery subsector will continue to recover due to a further improvement in the global economic environment. However, significant risks remain. The following is a review of some of the more serious risks that may cause us to change our overall outlook.

Global austerity. S&P thinks the trend toward global austerity is a potential risk facing the industrial machinery group. Austerity measures (i.e., deficit-cutting policies enacted by governments that may also coincide with increased taxes) have been discussed or enacted by many nations, and, in the US, regionally (as in California). A reduction in spending levels may hurt sales and profits for the sector considering many industrial machinery companies sell directly to government agencies. In addition, austerity measures could hurt industrial machinery companies with lower living standards. Lastly, increased taxes implemented with any deficit-reducing initiatives could not only reduce sales for the sector, but also reduce corporate profitability.

In the second half of 2014, we see reduced risk of global austerity measures, as countries around the world deal with slowing economic growth. In our view, countries will be hesitant to add further risk to growth through cutting deficits. In addition, some markets in Europe and Asia are likely to see improved economic outlooks that make the need for austerity less pressing.

The end of government stimulus programs. Since government spending affects demand in the industrial machinery industry, the conclusion of the government-sponsored stimulus programs enacted during the

Chart H05 ELECTROINDUSTRY BUSINESS CONFIDENCE INDEX OF FUTURE CONDITIONS

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*"Future Conditions" defined as expectations for the industry over the next 6 months. A score of 50 or higher indicates conditions favorable to growth. †Survey not conducted July-Sept. 2013. ʬ Through June.Source: National Electrical Manufacturers Association (NEMA).

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recession of 2007–2009 may cause a slowdown in spending on machinery. For example, the American Recovery and Reinvestment Act (ARRA) of 2009 allocated up to $831 billion for a host of programs, including energy projects, road repair, transportation projects, and other spending programs that indirectly benefited industrial machinery companies. As of February 2014, virtually all of these funds had been paid out.

China also enacted its own stimulus programs during the recession, which we think helped indirectly to boost demand for industrial machinery. Further, there is the possibility that the Chinese government will release more stimulus packages to fuel domestic growth. For example, in July 2012, the Chinese government significantly increased its investment in the high-speed rail connecting Beijing and Shanghai, as a means of stimulating the economy. As of June 2014, China’s annual spending on capital projects and infrastructure was expected to reach three times that of US spending by 2025, according to PricewaterhouseCoopers. China also has been lowering its bank reserve requirements.

Federal Reserve starts to phase out quantitative easing. In an effort to revive the economy after the financial crisis, the Fed began a stimulus program in November 2008 under which it purchased mortgage-backed securities. In September 2012, the Fed initiated the third round of purchases, known as Quantitative Easing III (QE3), under which it purchased mortgage-backed securities worth $40 billion a month. In January 2013, the Fed began purchasing $45 billion of Treasury securities every month, taking its total purchases to $85 billion a month. These efforts pushed interest rates down and boosted the Fed’s balance sheet above $3.3 trillion.

Then, in December 2013, the Fed announced that it would taper its QE3 program by $10 billion a month, reducing the total amount purchased to $75 billion a month. In January 2014, the Fed announced that it would reduce its QE3 monthly purchases by another $10 billion, bringing down the total to $65 billion a month. The Fed subsequently reduced its monthly bond-buying program, and as of June 2014, current monthly purchases were at $35 billion. The Fed also plans to trim down monthly purchases by another $10 billion in August and September 2014, bringing the total down to $25 billion. We think the Fed will continue to taper the QE3 and end it by October 2014 with a final $15 billion purchases.

Lingering effects of the credit crisis. In the postwar period, economic downturns have typically been caused by one of two events: rising interest rates or overproduction. The recent recession, however, was not typical: it resulted from an overall contraction in the level and availability of credit. Past credit-led economic downturns have led to protracted economic slumps followed by slow and muted recoveries. Examples include the Panic of 1873, the Great Depression, and the “lost decade” in Japan: all were deep economic downturns followed by muted recoveries, as companies and individuals repaired their respective balance sheets and credit availability was limited.

Our outlook may overestimate the prospects for economic growth in general, and for the industrial machinery sector in particular, if a similar scenario were to occur now. For instance, the sovereign debt crisis still roiling Europe is one of the ramifications from the global credit crisis. In addition, what we view as the bifurcation in industrial markets is another sign of the lingering effects of the credit crisis. By bifurcation, we mean that larger, global companies with access to the credit markets are outperforming smaller, domestically focused manufacturing companies, as growth in the latter group appears muted.


INDUSTRY PROFILE

The business of making factories and facilities run

A large and diverse industry, the industrial machinery sector provides the equipment, tools, and apparatus occupying the factory floors of manufacturers, enabling them to produce their products and improve their operating efficiency. Such equipment includes products that regulate and measure the flow of fluids and gases used and produced in numerous industries, motors, machinery used in assembly lines, and machinery used in electronics, to name a few. For purposes of this report, S&P Capital IQ (S&P) focuses on three main sectors: flow control products, electrical equipment and components, and industrial automation equipment.

INDUSTRY SECTORS

This discussion focuses on the larger companies that figure in at least one of the three main industry categories. In addition to these firms, however, a great many others manufacture products and offer services in one or more of these sectors. It is important to note that disaggregating revenues between categories can be difficult. Some, if not most, manufacturers in this group operate in more than one area, and they may combine financial data for the purposes of their business segment reporting.

Flow control In this subsector, companies produce products used to control water, oil, gases, or other fluid-like materials that are needed in the course of industrial production. In this segment, products include valves, pumps, controls, measurement devices, couplings, fittings, adapters, fluid connectors, motors, cylinders, drives, filtration products, mechanical seals, actuators, turbines, fans, blowers, compressors, hydraulic components, accumulators, and other associated products and services.

Companies in this subsector sell to a diverse group of customers, including power plants, water and wastewater treatment facilities, oil and gas drillers and refiners, and pulp and paper manufacturers. They also serve companies in the following industries: chemicals, food, beverages, pharmaceuticals, aerospace, marine, agriculture, construction machinery, textiles, industrial and telecommunications equipment, transportation, medical equipment, mining, mobile equipment, machine tool manufacturers, and other manufacturers.

The major manufacturers in this sector generated some $17.2 billion in sales of flow control products in 2013. In the first quarter of 2014, they generated $4.2 billion in sales. We think revenue increased due to a combination of improving global demand and some inventory restocking.

Table B03 SELECTED FLOW CONTROL MANUFACTURERS REVENUES

SELECTED FLOW CONTROL MANUFACTURERS REVENUES — FIRST QUARTER(Ranked by 2014 first quarter sales)

FLOW CONTROL TOTAL FLOW CONTROL

SALES REVENUES SALES AS % OF

- - - - - - (MIL.$) - - - - - - - - - - - - - (MIL.$) - - - - - - - TOTAL SALES

COMPANY 2013 1Q 2013 1Q 2014 2013 1Q 2013 1Q 2014 2013 1Q 2013 1Q 2014

Eaton Hydraulic; Aerospace; Truck; Automotive

8,590 2,129 2,242 22,046 5,310 5,492 39 40 41

Flow serve [total company] 4,955 1,097 1,068 4,955 1,097 1,068 100 100 100SPX Flow technology 2,638 613 617 4,717 1,091 1,069 56 56 58Roper Industrial technology 780 182 197 3,238 737 834 24 25 24ITT Control technologies 278 69 73 2,497 608 675 11 11 11

Total 17,240 4,089 4,197 37,453 8,842 9,138 46 46 46Source: Company reports.


Electrical equipment and components Companies operating in this category make electric motors; heating, ventilation, and air conditioning (HVAC) equipment; water testing equipment; electrical power equipment; circuit protection products; and commercial and industrial lighting fixtures and components, along with other related products and services. Specific goods developed and manufactured by the industry include electric motors, circuit breakers, transformers, generators, electricity meters, relays, panel boards, switchgear, wiring devices, lighting fixtures, outlet boxes, grounding equipment, cable accessories, insulators, compressors, refrigeration systems, temperature control units, thermostats, and HVAC systems.

The companies in this subsector sell into various end markets, including HVAC manufacturers and service providers; electric utilities; mining companies; architectural firms; engineering companies; commercial and residential construction; aircraft manufacturing; automotive transportation production; medical; general manufacturers; and telecommunications.

S&P estimates that the major manufacturers in this sector generated $8.1 billion in electrical equipment and related sales in the first quarter of 2014, up 8.3% from $7.5 billion in the same period in 2013. In the first quarter of 2014, they generated $5.9 billion in sales, up 6.0% from the same period in the previous year. On average, electrical equipment and related sales comprised 68% of total sales for the major manufacturers in the first quarter of 2014.

Industrial automation The industrial automation category includes a wide variety of products, parts, and manufacturing systems integrated with other types of industrial machinery (such as in automobile assembly lines or food product manufacturing) to add technology-driven improvements and efficiencies to manufacturing processes. A handful of large firms from various points on the globe dominate this concentrated industry.

Table B04 SELECTED ELECTRICAL EQUIPMENT MANUFACTURERS REVENUES

SELECTED ELECTRICAL EQUIPMENT MANUFACTURERS REVENUES — FIRST QUARTER(Ranked by 2014 first quarter sales)

ELECTRICAL ELECTRICAL

EQUIPMENT SALES TOTAL REVENUES EQUIPMENT SALES

- - - - - - - - - (MIL.$) - - - - - - - - - - - - - - - - - - (MIL.$) - - - - - - - - - AS % OF TOTAL SALES

COMPANY SEGMENT 2013 1Q 2013 1Q 2014 2013 1Q 2013 1Q 2014 2013 1Q 2013 1Q 2014

Schneider Electric [total company] 23,551 3,825 4,117 23,551 3,825 4,117 100 100 100Emerson Electric Netw ork pow er 4,885 1,213 1,232 24,669 5,960 5,812 20 20 21Hubbell Electrical 2,263 515 539 3,184 740 760 71 93 94

Total 30,699 5,553 5,888 51,404 10,525 10,689 60 53 55Source: Company reports.

Table B05 SELECTED INDUSTRIAL AUTOMATION VENDORS REVENUES

SELECTED INDUSTRIAL AUTOMATION VENDORS REVENUES — FIRST QUARTER(Ranked by 2014 first quarter sales)

TOTAL SALES MARKET

- - - - - - - - - (MIL.$) - - - - - - - - - CAP* INDUSTRIAL

COMPANY SEGMENT 2013 1Q 2013 1Q 2014 (MIL.$) AUTOMATION NICHE

ABB Discrete automation and motion; Process automation

18,412 4,305 4,324 54,559 Mainly Continuous

Honeyw ell Automation & control solutions 16,556 3,786 4,074 73,387 Mainly ContinuousEmerson Electric Industrial automation; Process

management13,495 3,233 3,340 46,385 Mainly Continuous

General Electric Appliances & Lighting 8,338 1,917 1,857 255,207 Mainly DiscreteRockw ell Automation [total company] 6,352 1,523 1,601 16,609 HybridSiemens Industry automation 5,933 1,503 1,461 105,570 HybridSchneider Electric Industry automation 3,122 790 1,049 28,964 Hybrid

Total 72,208 17,057 17,705 … …

*As of July 29, 2014Sources: Company reports.


In this sector, manufacturers focus on discrete or process control automation (with the latter subdivided into two categories, continuous and hybrid). These can include industrial automation products, and systems, software, and services focused on controlling and improving manufacturing processes.

Specific products in this segment include robots, sensors, drive systems, low-voltage controllers, process automation products, instrument systems, mounted bearings, gear reducers, mechanical drives, pulleys, couplings, clutches, motors, motor brakes, adjustable speed drives, variable-speed and index drives, software, mechanical power transmission equipment, ultrasonic welding and cleaning equipment, conveyor systems, and testing equipment. Customer end markets include automotive, plastics, rubber, machinery, printing, pharmaceutical, consumer, food, and other industries requiring automated manufacturing processes.

The automation industry is characterized by a small number of large competitors that typically cross-sell their automation systems and equipment bundled with other products, such as electrical equipment. Some of the largest firms in this sector produced a combined $72.2 billion in automation sales in 2013, or a decline of 8.6%, versus the $79.0 billion in 2012. In the first quarter of 2014, the group generated $17.7 billion in sales, up 3.5% over the same period in the previous year.

INDUSTRY TRENDS

Demand drivers and business economics can vary from one subsector group to another in as far as the industrial machinery industry is concerned. Nonetheless, the industry subsectors also share a number of similar trends and themes. This section considers and details these common trends, as well as other developments affecting specific industry subsectors. We start with what we view as new or emergent trends, followed by a discussion of trends that we think will continue to affect the industrial machinery sector over the long term.

DEMAND GROWTH LIKELY TO CONTINUE AT A MODERATE PACE

In the second half of 2014, S&P Capital IQ (S&P) expects manufacturing and machinery usage in the US to expand gradually despite still-uncertain global market conditions in Europe and some emerging regions. We see a rebound in China, and expect developing regions will drive the recovery over the longer term. We see improved confidence levels and an increased willingness on the part of manufacturers and other industrial machinery customers to spend on various types of machines. In addition, pent-up demand should boost orders, in our view. Further still, inventory restocking by distributors and vendors of machinery equipment should benefit industrial machinery sector results.

ACQUISITIONS REMAIN STRATEGIC PRIORITY FOR THE INDUSTRY

Following a dearth of acquisitions in 2009 and a sharp increase in the dollar volume completed in 2010, we think that the pace of acquisitions started 2011 relatively strong. However, as the crisis in Europe deepened and the financial markets became more risk-averse, the pace slowed as the year ended in 2011. We think this holds true within the broader universe of industries as well as for industrial machinery companies.

Despite the economic environment after the recession, the number of deals and the overall deal value increased in 2011 from 2010 for the industrial manufacturing sector. There were 65 acquisitions within the manufacturing sector announced during 2011 where either the buyer or seller was a US company, up from 50 in 2010, according to PricewaterhouseCoopers. Total value of the announced deals was $36 billion in 2011, versus $22 billion in 2010, according to its tally. The momentum toward consolidation and acquisitions further increased in 2012—the total number of deals announced reached 165, and were valued at $84.8 billion. In 2013, the total number of deals decreased to 152, and were valued at $59.7 billion. Finally, during the first quarter of 2014, there were 33 recorded acquisition transactions valued at $14.7 billion, a decline from 40 deals in the previous quarter in 2013 valued at $9.8 billion.

We think there will be a further increase in acquisition activity in the second half of 2014. In our view, a number of factors, including a rising stock market, which we expect to lead to greater confidence in the


marketplace and allows companies to finance potential acquisitions via equity offerings. In addition, we think that a greater availability of debt financing, with attractive terms, makes acquisitions a more compelling use of capital. Large industrial machinery companies have increased balance sheet cash over the last few years, and we think investors will begin to pressure these firms to put that capital to work.

We also expect that consolidation within the industrial machinery subsector will remain a long-term trend. Reasons for this opinion include the fragmented nature of the flow control, electrical, and automation equipment categories; the large number of smaller competitors in the industry; rising capacity utilization creating the need to either expand or acquire capacity; and larger companies’ access to (or ability to generate) capital. Many large participants in these industries consider their operating subsidiaries to be components of a business portfolio that they manage to optimize capital resources and provide the most favorable returns to investors. Such companies often make acquisitions to round out or broaden product lines. In addition, companies may use acquisitions to deepen market penetration rates.

At the same time, we think company management teams are taking a hard look at all of their divisions in an effort to determine which have the greatest potential for growth and should be considered a core operation, and which have a subpar outlook or will require significant investment. In some cases, vendors look to become less cyclical and less capital intensive by spinning off undesirable units and acquiring businesses that are more stable and less cyclical. For this reason, we expect increased divestiture activity in the coming year as well.

Due to the fragmented nature of the industrial machinery sector, opportunities remain for larger firms to make smaller acquisitions that allow manufacturers to expand their product lines or sales territories. Companies often use this method to enhance revenue growth or help improve returns. Vendors look for small, bolt-on acquisitions, as well as those that offer entirely new product platforms. Acquisitions, if executed properly, offer a method to deploy excess cash in search of greater returns.

Some recent transactions highlight these trends. For example, in February 2014, Illinois Tool Works agreed to sell its industrial packaging unit, valued at $3.2 billion, to Carlyle Group. In January 2014, Emerson Electric Co. acquired the remaining 44.5% interest in EGS Electrical Group (an industrial automation company) from SPX Corp., its joint venture partner. In November 2013, Rockwell Automation agreed to acquire Jacobs Automation (which provides intelligent track motion control technology); and in October, the company agreed to acquire vMonitor (a global technology leader in wireless solutions for the oil and gas industry). Also in October 2013, Emerson acquired Enardo LLC, a safety and environmental control equipment manufacturer. In September 2013, Honeywell acquired Intermec for $600 million cash. Intermec is a provider of mobile computing, radio frequency identification solutions (RFID), voice-enabled workflow and data-collection solutions, and printing solutions.

ENERGY, INFRASTRUCTURE LIKELY TO BE INDUSTRY GROWTH DRIVERS

We think that industrial machinery companies with exposure to infrastructure construction and the energy/resource sector are likely to experience a more aggressive expansion in 2014. Developing countries in Asia, such as China and India, have continued to experience outsized growth in their economies, a trend we expect to continue longer term. Nevertheless, India’s GDP growth in 2012 dropped to a decade-low of 4.7%, due to a contraction in the manufacturing and farm sector; its growth was 6.6% in 2011. In 2013, the Indian economy expanded by 5.0%. The World Bank has forecast that India’s GDP growth rate would increase to 5.5% in 2014. This improvement may stem from governmental efforts to accelerate poverty reduction and revenue generation, which are vital to increasing investments in the country.

The Chinese economy—the world’s second largest economy after the US—expanded 7.7% in 2013, down from 7.8% in 2012 and 9.3% in 2011. World Bank projects that China’s GDP growth will reach 7.6% in 2014. Despite the recent declines, these growth levels remain far above those achieved in the US and other developed nations in the same periods.

This outsized growth has placed a strain on the developing world’s infrastructure, and compelled these nations to embark on multiyear expansion programs. These investments include the buildout of roads, highways, power plants, energy transmission and distribution systems, and manufacturing and industrial facilities.


Industrial machinery companies have benefited, and will likely continue to benefit, from developing nations’ efforts to expand the capacity of their infrastructure to meet the needs of the burgeoning economies.

The industrial machinery sector is also likely to benefit from the developing need for quality energy supplies. According to 2013 figures estimated by the World Bank, the populations of China and India combined totaled 2.6 billion. As both these and other developing economies expand, their need for energy will increase at an accelerating rate, directly benefiting companies exposed to energy extraction, mining, drilling, and transportation. That said, we think that world supplies of energy will become ever more constrained as time progresses due to the declining overall quality of available energy resources and the ability to get to and extract current reserves. This trend will directly benefit industrial machinery companies, as mining and other energy-related firms turn to more sophisticated machines to extract, process, and transport these commodities.

Growth in green Growth in green initiatives is another potential growth driver for the industrial machinery sector. Green is a catchall moniker for processes, products, initiatives, and manufacturing philosophies and practices that enable manufacturers to reduce energy or raw material consumption. Growth in green machinery products appears to have grown in recent years, especially for products used in alternative energy sources, such as wind or solar, or for the reduction of energy use by industrial machines, such as Baldor Electric’s Super-E motors.

In our view, only time will tell if the growth in green initiatives is just a passing manufacturing fad. For instance, a 2009 IndustryWeek survey of manufacturers indicated that many have yet to adopt green practices, despite increased environmental regulations. However, according to “Sustainability Nears a Tipping Point” (Winter 2012), a report conducted jointly by MIT Sloan Management Review and the Boston Consulting Group, two-thirds of the manufacturing companies surveyed said that sustainability has been made a permanent theme within their companies, up from only 55% last year. Further, one-third of the respondent companies said that turning to sustainable practices has added to their profitability.

GLOBALIZATION: AN ONGOING PROCESS WITH PLUSSES…

Locating manufacturing facilities internationally, especially in regions with low operating costs, makes sense for suppliers in numerous ways. By relocating to low-cost regions, suppliers can reduce their production costs and thereby improve their competitiveness and overall margins. In addition, with emerging markets likely to account for a growing share of demand, being located in these regions lowers transportation costs, reduces shipping time, increases customer contact capability, and improves aftermarket servicing. We also note that many international economies have lower overall corporate tax rates, thus making tax expenses for companies domiciled or operating in these regions lower than for those operating in the US.

In our opinion, another important reason for industrial machinery companies to have a global footprint is that it can provide stability through diversity. Growth may be accelerating in one region, while slowing in another. We witnessed this in 2008, as strong growth in emerging markets outpaced growth in the US and other developed markets. Further, some of the emerging-market economies (notably China and India) that grew at a relatively robust pace during the recession of 2007–2009 continued to do so in 2010 and 2011. These economies are also likely to experience stronger growth in the long term, as their countries industrialize and infrastructure is built. The developed economies, in contrast, experienced deep recessions and muted economic recoveries in late 2009 and in 2010, and their growth rates are likely to be lower over the long term as well.

Most companies have established manufacturing facilities in such places as Asia, Latin America, and Eastern Europe to capitalize on the long-term growth trend in international and emerging markets. Moving production facilities closer to customers helps reduce manufacturing, transportation, and supply-chain costs, while cutting the time to market and helping companies learn about and become immersed in the market’s culture. We also note that setting up manufacturing facilities in these markets can also increase the pace of innovation and enhance a company’s adaptability to changing market dynamics.

The opening of new markets has provided the sector avenues of growth that would otherwise not have been available. A global workforce has allowed companies to reduce both labor and manufacturing costs along


with product prices, thus increasing their competiveness. Globalization is also creating a greater need for one-stop shopping, whereby customers are marketed differentiated products depending on location, but under the same procurement strategy and budget. Thus, suppliers of industrial machinery have three choices: expand their operating presence into new regions, partner with local companies in order to offer a global suite of products, or acquire direct foreign competitors. Finally, the opening of global markets has increased the availability and number of potential suppliers, which can give the largest vendors a higher degree of purchasing leverage. Besides opening new avenues for growth, globalization has allowed industrial machinery companies to become competitive, via mergers and acquisitions on a global scale.

…and minuses Regardless of these positive aspects, globalization also has negative implications. For instance, the volatile rise in commodity prices since 2000 can be attributed (at least partially, in our view) to the globalization in trade and the rise of emerging-market demand. In the last decade, the Reuters/Jeffries Commodity Research Bureau commodity price index rose from a low of 186.2 in October 2001 to a peak of 445.1 in June 2008, a 139% increase over less than seven years. The index fell to a low of 212.2 in February 2009, and then subsequently climbed to 364.0 in April 2011. Commodity prices then declined again, with an index reading of 299.2 in August 2012. Prices increased, and the index rose to 311.3 in October 2012, but then fell again to 295.01 in January 2013. During 2013, the index declined further to 285.1 in August and stood at 280.2 on December 31. As of June 30, 2014, the index stood at 308.2, an 11.8% increase from the same period in 2013.

Further, as emerging markets industrialize, local suppliers and industrial machinery vendors are taking root. The result is an increase in competition for both domestic and global suppliers, particularly in sectors that are fragmented. In addition, higher energy and other input costs have led many industrial companies to pursue a decentralized manufacturing footprint in order to reduce overall manufacturing and supply-chain costs.

S&P thinks these negative aspects of globalization have led to a localization counter-trend that we call “on-shoring”. On-shoring is the establishment of manufacturing facilities in many locations globally to improve order processing times and increase the level of customer service and customization, while reducing the overall time to market, the cost and complexity of supply-chain dynamics, and overall transportation costs. This trend appears to be gaining traction globally and nowhere is it more prevalent than in the US, as some industrial machinery companies (and other manufacturers, for that matter) have begun to move previously outsourced operations back to domestic manufacturing facilities. Notably, such large manufacturers as General Electric Co., Caterpillar Inc., Ford Motor Co., and others have implemented or announced plans to bring previously offshore manufacturing back to the US.

Lean manufacturing and cost containment will drive efficiency Improving operating efficiency and reducing costs have become something of a religion for the industrial machinery sector—customers, distributors, original equipment manufacturers, and suppliers alike. The demand for reliable equipment and globalization are encouraging suppliers to relocate production to regions of the world with the lowest overall costs. This move to other regions has made supply chain management—everything from inventory procurement, production, and production location, to getting products to market—an important issue for industrial machinery companies.

Many industrial machinery companies have begun to learn that being bigger isn’t always better. For some, greater size has led to rising costs without commensurate growth in revenues. In an effort to address this problem, suppliers have increasingly turned to such manufacturing/supply-chain management practices as Six Sigma, lean manufacturing, Kaizen, and others. These concepts encourage producers to become more efficient and do more with less by improving their manufacturing processes, reducing their fixed overhead and working capital, shortening their manufacturing time, reducing overall waste in the manufacturing process (such as transporting materials, high inventory levels, wait-times, overproduction, and defects), and improving product quality and customer satisfaction. Although these manufacturing philosophies have different names and different focuses, they all share the desire to reduce overall manufacturing system waste, while increasing the overall value delivered to both the customer and the manufacturer.


TRENDS IN FLOW CONTROL

The flow control sector suffered through some rough years at the start of the last decade after peaking in the mid-to late 1990s. This was partly due to struggles in heavy industrial equipment industries, which reduced overall demand for industrial machinery products. For example, shipbuilding, the press industry, steel mills, plastics, and automotive manufacturing—typically big customers of flow control products—all experienced weak results into 2003, due in part to an economic recession in the US, and reduced their purchases of flow control equipment accordingly.

Many of these customers also moved their manufacturing facilities offshore, while companies that sell flow control products did not react quickly enough to this change. Companies that were faced with old and outdated facilities, but new market dynamics, distribution channels and supply-chain realities, saw their sales decline. Meanwhile, younger companies, largely in Asia, developed competitive offerings at attractive prices and encouraged customers to switch suppliers.

Despite these two trends, we think the industry experienced a better time in the years following 2003, as the global economy improved and the developing world industrialized. However, this resurgence would be short-lived as the deep recession of 2007–2009 took hold.

The off-shoring trend is unlikely to abate. However, some customers have found the use of offshore suppliers a liability due to a number of factors, and a counter-trend of “on-shoring” or “localization” appears to be an emergent trend. The issues of off-shoring suppliers has grown increasingly complex in recent years, as cultural and language barriers have made international supply chains unappealing for some customers. In addition, the volatility in energy prices since 2008 highlighted one flaw of off-shoring: a significant increase in energy prices raises the cost of transportation and can result in a higher price that nullifies the cost savings that off-shoring promised.

We think that demand continues to shift toward hydraulic systems and away from pneumatic systems, due in part to energy costs remaining above long-term averages. Hydraulic systems typically are more efficient than pneumatic systems: hydraulic systems use fluids (instead of air) to transfer energy, and when energy costs rise, manufacturers pay more attention to the energy efficiency of their operations. We also think that technology adaptations will continue to augment flow control equipment, and that the ability of products to “think,” “talk,” and integrate into existing information and supply-chain systems will remain a point of product differentiation. In our view, energy exploration and distribution companies have become a major new customer segment relative to years past.

Electronics should boost sector For flow control manufacturers, outfitting old-technology pumps and valves with the latest innovations can be costly in terms of higher research and development costs, and time to market. However, these innovations ultimately increase industry growth, as new and innovative products can offer customers a better value proposition. Equipment that incorporates electronics, such as diagnostic instruments and sensors, adds value for customers in the form of greater reliability, less downtime, and increased functionality.

Innovation in electronics will yield products that are smarter, smaller, and able to communicate directly through computer controls, thus increasing the number of potential uses for customers. The fields of lasers, electronic miniaturization, and nanotechnology (the miniaturization of technology to the sub-atomic scale) could have a significant impact by increasing the number of industrial applications in which technology can raise productivity. For instance, electronics have enabled flow meters to measure multiple liquids flow rates simultaneously, an important application in the oil and gas industries.

Improved materials open new markets Companies that make pumps, valves, and other flow control equipment have started developing new ceramic materials that better withstand corrosion, pressure, and changes in temperatures, and that preserve formation longer than traditional materials. As a result, water-based machinery (such as water hydraulics) is less prone to leakage and erosion problems. Manufacturers in the meatpacking and pharmaceutical industries have capitalized on these improvements by using water hydraulics in their operations.


In addition, new sealing and sound insulation components have greatly reduced noise levels from motors and pumps. This enables those components to handle the stresses from higher-pressure levels, which in turn increases the number of applications in which they can be used.

More conventional materials have been redesigned and combined with technology applications to enhance the product. Two such instances are magnetic and thermal flow meters. Both take generally accepted scientific principles in magnetism and heat-transfer in substances and apply these to the measurement of fluid through pumps and valve without any interference with the fluid itself, thus lower ownership and maintenance costs of the pump.

INNOVATION, NEW PRODUCT DEVELOPMENT, AND PRODUCT LIFE CYCLES

For industrial equipment manufacturers, research and development (R&D), product innovation, and new product development are the cornerstone of increasingly productive machinery—a trend we foresee continuing over the long term. For example, by building a more powerful electric motor in an existing frame design, the manufacturer can offer products that outperform those of its competitors without adding to customers’ footprint or overhead while providing more output vis-à-vis the energy consumed. The race for better technology has led to shorter product life cycles. Knowing that their peers are developing new features, companies are less willing to rest on the laurels of existing products.

However, innovation can lead to headaches for customers, at least in the short term. Depending on the degree of innovation, suppliers’ sales representatives may need to train customers in the use of the new equipment. Customers also may discover that new, high-tech equipment changes maintenance in unexpected ways, such as increased ownership costs or different repair schedules. For customers that share information with their own customers, any change in information technology may cause downstream problems.

In addition, innovation comes in different forms: sustaining or disruptive. Coined by the innovation expert Clayton Christensen, sustaining and disruptive innovations differ in the way they affect the market and the competitive dynamics of market participants. Sustaining innovations involve new functionality added to an existing product or the introduction of a niche product aimed at a small sub-segment of the market; as such, they typically only affect existing market dynamics. Disruptive innovations, in contrast, upset existing market dynamics via a new product that may have a lower price point or that competes with established competitors via new product dynamics. For example, Dell Computer’s manufacturing process lowered the price of a PC while offering customers customization, which at the time was a different way of competing in computer manufacturing. We think that most innovations in the industrial machinery sector are sustaining innovations.

TRENDS IN THE ELECTRONIC EQUIPMENT MARKET

Based on the improvement in results over the past three years, we think electrical equipment vendors are likely to experience further growth in revenues and earnings in the second half of 2014, as the global economic recovery continues, leading to higher overall demand. Electronic equipment companies are a diverse group, with products used in a broad range of industries and applications. We continue to expect some weakness in the electronic equipment used in more late-cycle industries, such as commercial construction (especially relative to electronic equipment sold to early or mid-cycle industries). That said, we do think that overall order rates and growth associated with the late-cycle industries will improve as 2014 progresses. In addition, we also see demand growth from a continued need for maintenance and repair-related equipment and services, along with higher spending to replace depreciated equipment.

TRENDS IN AUTOMATION PRODUCTS

Capacity utilization rates in North America were relatively low from 2001 through 2005, driven by weaker demand, the recession of 2001–2002, and the movement of production capacity offshore to lower-cost regions. Thus, manufacturers had little incentive to build new factories in North America, while those that needed to expand production were able to make greater use of existing capacity. From 2005 through the first half of 2008, however, results for the industrial automation sector improved, as the economy recovered and capacity utilization rates either rose or generally remained above 80%. Yet, the recovery was not to last


indefinitely, as the slowing global economy brought about by the contraction in available credit and the worsening of credit quality led to a contraction in industry results. Since 2000, total productive capacity in the US expanded by only 7.8%, for a compound annual growth rate of 0.6%.

Over this period, the building of fewer new factories in North America meant fewer projects to automate entire plants and production facilities. Suppliers of industrial automation equipment responded via mergers and acquisitions, and by building plants overseas to capture international capacity growth—typical methods used to generate growth when domestic organic growth lags. Capacity utilization levels improved in 2005 and remained around the important 80% level until March 2008, when utilization rates fell below 80%, followed by an accelerated decline beginning in July 2008. However, capacity utilization subsequently recovered from its May 2009 low and stood at 71.6% in December 2009. In addition, capacity utilization rates continued to improve in 2010, and by December 2010, total capacity utilization was 76%. The recovery continued in 2011 and the utilization rate stood at 78.3% in December 2011. In 2012, capacity utilization rates remained between 78% and 79%, having reached 78.8% in December. During 2013, capacity utilization increased and stood at 78.5% in December, and the average capacity utilization of the first half of 2014 was at 78.3%.

Aftermarket support crucial New projects and some pent-up demand have generated growth for automation products. However, recent organic growth has come primarily from the maintenance, repair, and operations (MRO) markets. Existing automation systems need servicing and repair at some point. By offering strong aftermarket support, industrial automation vendors generate fairly reliable and stable revenue stream. In addition, by maintaining close relations with an existing customer base, vendors can better sense which aspects of the customer’s operations need improvement, and can make recommendations to fix those problems. Strong aftermarket support can engender good relations between vendor and customer, and reduce the probability that the customer will decide to switch its entire automation system needs to another vendor.

To encourage a customer to switch automation suppliers, an automation vendor typically must offer significantly improved technological benefits, cost savings, or both, because the short-term costs of switching can be substantial. Subsequent problems with incompatible equipment or a supplier that goes out of business can mean large and unforeseen costs for the customer.

Automation systems can last 20 to 30 years, hence customers want assurance that aftermarket support will be available and long-term warranties are honored in the future. For these reasons, larger firms that have the size, stability, and breadth of product offerings to win and retain customer business dominate the industrial automation industry.

HOW THE INDUSTRY OPERATES

Industrial machinery is the lifeblood of the production and manufacturing processes and is the backbone of most modern machines. For manufacturers in a wide variety of sectors, industrial machinery is the heart of operations that occupy the factory floors and other industrial processes. In commercial enterprises, for example, industrial machinery consists of the refrigeration units needed to keep food from spoiling along the entire value chain from production, transportation, and finally to the grocery store display cases. Other examples include automation products—such as conveyor belts, pumps, valves, robotics, and other industrial machines—used in a high number of manufacturing processes. Still other industrial machinery includes products such as motors, generators, heating and cooling systems, and other electrical equipment.

Producers of industrial machinery are diverse and may offer very different products, including electric motors, pumps, and valves. Increasingly, this equipment is relying on industrial automation systems that involve robotics, sensors, lasers, computer systems & software, and other high-tech advances. However, all of these products have one thing in common: they must use sophisticated technology in order to win and retain customers’ business.


Operating performance in the industrial machinery industry tends to, on average, lag global economic growth to some extent, as the sector’s largest customers prefer to hold off significant increases in capital spending until they are more certain that an economic recovery is gaining steam. However, demand is not entirely cyclical nor is it completely late-cycle, because customers eventually must replace aging equipment. Still other industrial machinery products help customers maintain and repair the current installed base of machinery. In addition, many other products are early-cycle and are sold to customers whose operations gain coincidently with economic growth, such as automotive manufacturers or residential construction. We also note that aftermarket services add a noncyclical component to an industrial machinery provider’s revenue base. Customers that choose to retain older equipment will need maintenance on these machines and will look toward industrial machinery vendors to provide this service.

Customers that choose to retain older equipment must do a cost-benefit analysis over the lifetime of the equipment to determine if the extra maintenance from breakdowns is likely to exceed the cost of buying new equipment or additional capacity. While new equipment is less likely to break down, it also entails a high up-front purchase price. In addition to a cost-benefit analysis, capacity utilization rates and projections of future product demand will drive capacity increases or decreases for industrial machinery vendors. When capacity utilization rates are high (around 80%, in our view) and/or demand growth is anticipated, companies typically will purchase additional machinery and equipment in an effort to expand manufacturing capacity. Conversely, when capacity utilization rates are low and management expects little or no long-term pickup in demand levels, companies will likely forgo purchases of industrial machinery.

Within this general context, the various categories of the industrial machinery industry, which include flow control products, electrical equipment, and industrial automation, exhibit differences and similarities. Many of the major players in the industrial machinery industry participate in all three of these categories.

FLOW CONTROL PRODUCTS

A typical flow control system may have a number of different elements. It could include a hydraulic pump or air compressor to convert mechanical power into fluid power, enabling the user to direct the flow of a liquid. It also may have a motor, which converts the fluid power to mechanical power, and valves, which control the direction, pressure, and rate of flow. Flow control systems may have filters and lubricators to condition the fluid, sealing devices to help contain the fluid, and reservoirs to store the fluid. Finally, such systems have instruments such as pressure switches, gauges, flow meters, sensors, and transducers, to monitor the performance and flow of the fluid power system.

Industrial and commercial applications Flow control products are used in a wide variety of applications where water, wastewater, other liquids, gases, or slurry-like materials must be transported. An example is the pumping of oil or other petro-chemicals out of the ground or the distribution of water from reservoirs to residential customers. The energy needed for these applications can be generated in two ways: hydraulic power, where energy is transmitted and controlled via a pressurized liquid (typically oil or water), or pneumatic power, where energy is transmitted and controlled via pressurized air. Flow control has a wide variety of industrial and commercial applications. The most important are mobile, industrial, and aerospace.

Mobile. This is defined as the transporting, excavating, and lifting of materials for construction, agriculture, marine, or military purposes, among others. Products involved include, but are not limited to, backhoes, graders, tractors, truck brakes and suspensions, spreaders, and highway maintenance vehicles.

Industrial. This sector provides power transmission and motion control products used in industrial machinery. Applications include metalworking, controllers, material handling, and assembly equipment.

Aerospace. Aerospace flow control products are classified as pumps and valves for use in commercial and military aircraft, as well as spacecraft. Products include landing gear, brakes, flight controls, motor controls, and cargo loading equipment.


Valves and pumps The valve and pump markets are both highly fragmented and becoming increasingly global. More than 1,000 small and medium-size companies are in operation in the valve market, with many focused on niche applications, specific geographies or customer segments, or both. Despite its fragmented nature, industry consolidation has been ongoing, a trend that we think is likely to continue for the foreseeable future, as large global customers in industries such as power production, semiconductor manufacturing, general industrial and manufacturing, and pharmaceuticals prefer to deal with suppliers that can meet their global, supply chain, and pricing needs.

Costs, performance are key In industrial segments, valves are sold to the chemical and petrochemical and other markets, where they are used to control materials flow. Commonly used types are gate valves, globe ball valves, butterfly valves, and plug valves. For these customers, price can be a key consideration in determining which products to purchase, though performance can be equally, if not, more important. Some specialized segments, such as the drilling and gathering of crude oil for the petroleum production and refining industries, often use high-pressure steel valve products.

Because of the vast array of valves used in industrial applications, technological advances and features are paramount. However, despite the highly specialized nature of the valve market, suppliers typically have little pricing power, likely due to the industry’s fragmented state and the commoditization of products.

To counteract buyers’ power, and to succeed in what is a marginally profitable industry, suppliers are increasingly trying to find new ways to create value. One way they are doing this is by venturing deeper into specialized product segments, into specialization by customer type and geography, and by becoming more vertically integrated across their respective supply chains, in order to better control input pricing. Other strategies include interacting more closely with customers in order to better specify performance requirements, more effectively manage the supply chain, and by offering aftermarket support, services, and maintenance for the lifespan of the pumps and valves.

Suppliers are also moving into the manufacturing of specialized products such as innovative pump and valve technologies, including automation, advanced measurement, software, energy saving technologies, wireless devices, and other technologies in conjunction with legacy products.

One such technological innovation in the pump industry is the intelligent pump, or a pump that has the ability to automatically regulate and control flow and pressure. This new class of intelligent pumps can include wireless measurement devices that automate the fluid handling processes while other flow meters also include laser devices that more accurately measure fluid materials. Still other innovative pump technologies include energy saving devices, such as solar power convertibility or the incorporation of magnets and other electronics to produce accurate measurements of fluid flow more efficiently.

In commercial segments, pumps and valves are used to enable the movement of water and wastewater throughout a building or structure. Most buildings require standardized bronze or iron valves; given the commodity-like status of these items, cost is a key criterion for these manufacturers. Examples of commercial systems that use valves include HVAC, and plumbing systems in office buildings, shopping centers, hotels, prisons, and warehouses.

Raw materials Flow control products can incorporate a number of raw materials in their production. The major raw materials costs incurred by manufacturers of these products include steel, copper, other metals, plastic resins, and electronic components. Manufacturers will typically seek to hedge their exposure to spot commodity prices in an inflationary environment (such as existed from about 2000 to 2008) and will do so through a number of methods. These methods include price escalators in customer contracts, changes to product pricing, surcharges, or other hedging programs via the purchase or sale of commodity derivative securities.


Distribution models Distribution within the flow control industry is often a function of how much a particular product or customer segment needs support or necessitates other service offerings. Newer technologies that customers do not yet know how to operate require more product support than well-understood or older technology. The greater the needed support, the greater the importance to a company of using its own direct sales force to ensure that customers get the right information.

For older technology (such as manual valves) that both suppliers and potential customers already understand, a manufacturer may use a nonexclusive distributor network to reduce its costs and lower the product’s cost to the customer. They also may sell directly to other original equipment manufacturers will little or no sales contact. New high-tech offerings, in contrast, likely will require a company to use its own direct sales force to train customers in operation, maintenance, and safety procedures.

ELECTRICAL EQUIPMENT

The electrical equipment category comprises manufacturers of motors, generators, wiring, lighting, and other integral components of electrical devices. According to the US Department of Commerce, electrical equipment manufacturers in the US had product shipments of nearly $12.95 billion through April 2014, down 0.2% from $12.93 billion through April 2013. Shipments totaled $40.2 billion in 2013, down 1% from 2012. More importantly, new orders increased 2.2% to $13.7 billion through April 2014, from $13.4 billion through April 2013. In 2013, new orders had declined slightly to $40.6 billion, down 1.2% from 2012. We also note that unfilled orders in April 2014 stood at $11.82 billion, up 0.3% from $11.78 billion in November 2012.

Each subcategory within the electrical equipment group may offer a wide variety of individual product types, depending on the needs of the customer. For instance, electric power can be converted into mechanical energy by means of an electrical motor that has a rotating shaft. However, within the broader context of electric motors, for example, there are integral horsepower motors, used in industrial and commercial applications; fractional horsepower motors, used in furnaces, air conditioners, pumps in swimming pools and hot tubs, and garage door openers; and hermetic motors, used in air conditioning and refrigeration compressors.

Industry standards and product life cycles The National Electrical Manufacturers Association (NEMA), a nonprofit organization supported by manufacturers of electrical equipment, has fostered innovation and benefited customers by helping to develop a series of technical standards for electrical products. Standardization of industry products—such as designing motors of similar horsepower and speed to fit into the same frame—permits a customer to replace one manufacturer’s product with another’s, and promotes efficiency. Standardization thus spurs competition and ultimately, greater innovation.

Electrical equipment has a given physical lifespan. However, the length of time during which a customer uses that product can depend on the rate of innovation or the cost/benefit analysis of maintaining an older product versus buying a new product requiring maintenance.

Minor technological improvements occur on a regular basis, while major improvements in design or performance might occur once every five to 10 years. When customers are deciding whether to replace their equipment, they will weigh the benefits of continuing with an existing legacy product versus switching to a newer, more innovative product with better features but higher capital costs. However, we note that switching costs are somewhat reduced by standardization.

What do customers want? Customers of electrical equipment want greater power than is available in their current equipment, but in a smaller space, thus yielding higher efficiency, lower raw material and energy costs for the object that encloses the motor, and a reduced “footprint.” Advances in insulation technology have permitted improvements: as a motor generates more power, it also produces more heat; thus, a motor’s capacity to withstand higher temperatures helps manufacturers to meet customers’ requirements.


Raw materials The major raw materials costs incurred by electrical equipment manufacturers are for steel, copper, and, to a lesser extent, aluminum or other metals. Many companies, recognizing the need to buy these commodities on a regular basis, hedge their exposure to spot commodity prices in an inflationary environment. Companies may protect themselves by including language in customer contracts that calls for surcharges or price escalators when raw materials costs increase. Electrical equipment manufacturers can also hedge their commodity price exposure via the purchase or sale of derivative securities. Neither technique is perfect, however: there may be a time lag between the point when cost increases begin to occur and the surcharges are activated, and it may not be possible to fully hedge against cost increases.

Sales channels Manufacturers of electrical equipment sell their goods either under their own brand name or under another company’s brand name (as original equipment manufacturers, or OEMs). Most companies use a combination of direct and indirect sales channels. For larger accounts, companies will typically assign a direct sales agent, while making exclusive or nonexclusive distributors available to serve smaller customers. To distribute goods through third parties, manufacturers establish and support networks of independently owned dealers. Dealers stock sample motors and other devices and maintain inventories for sale. They also are responsible for gathering orders and passing them through to the manufacturer.

Most dealers are affiliated with a single manufacturer. The manufacturer typically supports the dealer’s sales and marketing efforts (with cash payments, marketing strategies and materials, purchase financing, and the like), provides wholesale financing of dealers’ inventory, and offers sales and lease financing to retail customers. Manufacturers also can give discounts, rebates, and other marketing subsidies to stimulate sales when necessary.

Concentration and competition The electrical equipment industry is relatively fragmented, with about a dozen major competitors and a large number of smaller suppliers. For most of the larger companies, electrical equipment is a major segment of their revenue base, complemented by revenues derived from other areas, such as industrial automation, other industrial machinery equipment, robotics, or complimentary services. For large conglomerates such as General Electric Co. or Siemens AG, electrical equipment is a relatively small part of their total operations.

While price competition certainly is to be expected, as in any sector, firms also compete based on the depth of their product offerings to customers or product compatibility. Particularly in the case of larger sales or project work that involve an entire manufacturing system, a provider may ensure that the hardware works properly with the customer’s automation technology and may offer technical support after installation in the event that problems arise. For customers, the more important it is that new equipment operates well with their pre-existing factory footprint, the more value they place on such network issues.

INDUSTRIAL AUTOMATION

Industrial automation refers to the system of controls for factory and manufacturing equipment, including robotics, sensors, and programmable logic controllers (PLCs). By automating certain aspects of manufacturing production and processes, a company can reduce labor costs, improve consistency of product quality, reduce waste, and even run real-time diagnostics to assess plant efficiency, increase product throughput, perform equipment diagnostics, or acquire other informational metrics. In the context of the industrial machinery universe, automation works in concert with the flow control and electrical equipment to reduce manufacturing costs and to squeeze greater production from an existing manufacturing asset base.

The PLC. The most basic element of industrial automation is the PLC: small computers used to automate processes that must be repeated (for example, the welding of car doors to automobile frames on a production line). The user of the PLC creates a logical program that monitors the status of various inputs to the production process, and instructs those inputs to perform needed tasks. As the technology has evolved, the PLC has been used in a variety of broad applications, including motion control and process control.


Sensors. Another element of industrial automation is the sensor. Sensors evaluate the status of the production process, for instance, whether certain conditions have been met. The sensors, using the PLCs, instruct other components what to do next. As an example, in flow control systems, a sensor can determine whether the water level in a tank has reached its maximum; if it has, the sensor can instruct a valve to close to keep the water from rising too high.

Robotics. Finally, we have robots and robotics. Robotics enable components to perform indicated and repetitive tasks, such as physically closing a valve. Depending on the manufacturing process, other kinds of control equipment, including drives, positioners, and actuators, may be involved.

Discrete versus continuous versus hybrid automation The type of industrial automation employed depends on the manufacturing process employed. A production line in which each step occurs progressively, such as in the making of an automobile, is known as discrete automation. Discrete automation involves the assembly of component parts or subsystems used in the construction of another product. For instance, automobiles, computer systems, appliances, and electronics devices are all examples of products that are produced using discrete automation production systems.

In contrast, manufacturing whereby all steps are not taken individually (e.g., in beverage manufacturing) or a continuous stream product employs process control automation. Process control automation can be further subdivided into continuous processes and hybrid processes. In a continuous process, automation ensures that levels, pressure, temperatures, viscosity and flow rates are maintained at desired levels (such as with oil exploration) and that the process runs continuously until the desired output is achieved.

A hybrid process is a combination of discrete and continuous automation. An example would be in the production of carbonated beverages, where specific ingredients are mixed together to create the desired concentrate, before being moved to the bottling station, where they are deposited into the correct can or bottle sizes.

R&D crucial Industrial automation products typically work in conjunction with the broader plant-level and enterprise-level products used across the production process and throughout the entire supply chain. For this reason, customers place increasing importance on product reliability and the ability of their control products to “talk” to other computers throughout the organization and supply chain, sharing information and enabling the company to adjust production in real time. Vendors must continually revamp their automation product lines to yield innovative improvements. Thus, research and development (R&D) is a critical element in the fortunes of industrial automation companies.

Markets and competition The industrial automation landscape is dominated by a handful of large firms, unlike the fragmented flow control and electrical equipment categories. This is due, at least in part, to the structure of the competitive market and customer needs including short product lifecycles, the high R&D costs associated with ongoing innovation, and the customer’s desire to purchase automation equipment in integrated systems.

The major players in the automation universe come from around the globe. The largest US firms include Emerson Electric Co., Rockwell Automation Inc., and Honeywell International Inc. European-based majors include Siemens, Schneider Electric SA, ABB Ltd., and Invensys plc. Asia-based majors include Yokogawa Electric Corp., Mitsubishi Corp., Fanuc Ltd., and Omron Corp.

KEY INDUSTRY RATIOS AND STATISTICS

Purchasing Managers’ Index. Released monthly by the Institute of Supply Management (ISM), the Purchasing Managers’ Index (PMI) is a composite measure composed of five seasonally adjusted diffusion indexes. The five measures are evenly weighted within the PMI and comprise new orders, production, employment, supplier deliveries, and inventories. Measurements above 50 tend to indicate improving conditions. For the manufacturing sector, the PMI in June 2014 was 55.3, an increase from 50.9 in June 2013.


Industrial production. Reported by the Federal Reserve Board in the middle of each month for the previous month, these indexes measure the seasonally adjusted output of the US manufacturing, mining, and utility industries. The base year is currently 2007 (2007=100). The data are divided into various categories based on industry, industry group, and market aggregates. For the machinery industry, the June 2014 industrial production index was 109, indicating that real output within the group was 1.8% higher than in 2007. This was higher than the reading of 105.3 in January 2014, but lower than the reading of 109.5 in May 2014.

Capacity utilization. Capacity utilization is another measure released monthly by the US Federal Reserve Board. It measures actual monthly production relative to total production potential and is expressed as a percentage. Rising capacity utilization or readings over 80% are usually associated with higher industrial production and increasing demand, and may portend higher future prices. The total US industry capacity utilization rate from 1972 to 2012 averaged 80.2%. As of June 2014, total capacity utilization was 79.1%, better than the 77.8% recorded in June 2013. Capacity utilization for the machinery industry, which averaged 74.4% between 2000 and 2012, was 80.5% in June 2014, up from 78.5% a year earlier.

Manufacturers’ shipments. The US Census Bureau, a data-gathering agency within the US Department of Commerce, tracks manufacturers’ shipments on a monthly basis. It divides these data into various categories, including (but not limited to) farm machinery equipment, construction machinery, and industrial machinery, along with aggregate amounts such as the capital goods or nondefense capital goods excluding aircraft (an important proxy for capital expenditures). Statistics are disseminated 60 days after the close of each month, but are typically revised after the final release. For the machinery segment, aggregate shipments totaled $35.8 billion in April 2014 on a seasonally adjusted basis, up about 4.4% from $34.3 billion in April 2013. In 2013, aggregate shipments totaled almost $411.2 billion, an improvement of 3.0% from $399.2 billion in 2012.

Order backlog/unfilled orders. For some companies in the industrial machinery universe, the order backlog can be a useful indication of demand levels and expected revenues. However, it may be difficult to compare order backlogs across companies due to different reporting practices; therefore, this measure is most useful as a gauge of order strength relative to a company’s own prior historical backlog data. The US Department of Commerce derives the unfilled orders (backlog) time series from the same data as manufacturers’ shipments. For the machinery segment, unfilled orders totaled $115.2 billion in April 2014, up 10.2% from $104.5 billion in April 2013.

Manufacturers’ new orders. The US Department of Commerce derives this time series from the same data as manufacturers’ shipments. For the machinery group, new orders increased by 4.3% to $36.7 billion in April 2014, versus $34.5 billion in April 2013. In 2013, aggregate new orders totaled $417.1 billion, up 7.9% over 2012.

Manufacturers’ inventories. The US Department of Commerce derives this time series from the same data as manufacturers’ shipments. For the machinery segment, inventories increased slightly by 0.3% to $66.0 billion in April 2014, from $66.2 billion in April 2013.

HOW TO ANALYZE AN INDUSTRIAL MACHINERY COMPANY

Industrial machinery companies derive most of their revenue from the manufacture, sale, and servicing of productive equipment used in a variety of industries. Although each category has its own particular nuances, there are many similarities in operations and in performance measures for industry participants.

The sectors covered by this publication typically involve products that are customer-specified to some degree. Many of the products are manufactured in either batch or specific job orders. Customers may order these products in a competitive bidding process or through detailed negotiations for larger product categories. For smaller and lower price point products, customer orders may involve a range of channels, including distributors, resellers, and a direct sales force. Manufacturers may also provide service and support on their equipment and may offer warranties as well. In the section that follows, we consider analytical elements that are common to all of the industrial machinery groups, as well as specific factors for each of the industry categories.


BACKLOG, NEW ORDERS, AND THE BOOK-TO-BILL RATIO

Companies in the industrial machinery universe typically receive orders for products from customers and, depending on product lead times, can generate a backlog. In its most general sense, backlog represents the accumulation of unshipped orders. However, there are different kinds of backlog. Gross orders represent the value of new orders that the firm has received. Net orders represent gross orders minus the value of any cancelations. Backlog is reported in dollars and typically includes orders to be shipped within a year, but sometimes represents long-term orders. It usually is reported on a rolling 12-month basis.

Some orders are firm and funded—the customer has made an initial deposit and is thus obliged to pay the balance upon shipment—and cannot be canceled. Others are unfunded, such as contracts with government bodies that must authorize funds for financing the purchases. The quality of a company’s backlog will be highly dependent on its accounting practices and sales processes.

While an increase in the backlog can be indicative of an upswing in demand, it should not be viewed in isolation; a higher backlog without a corresponding increase in the value of new orders may indicate production problems and longer time to completion. A comparison of new orders to sales (the book-to-bill ratio) can provide insights of the underlying demand trends. A ratio greater than 1.0 may indicate increasing demand and growth in the backlog, while a ratio below one implies falling demand and declining backlogs.

When examining these figures, one should also be keenly aware of how a company calculates its data. When examining orders, it is necessary to know whether the company is disclosing gross, firm, or net orders, whether backlogs represent firm and funded backlogs, whether the backlog is cancellable, or if the company has increased the backlog’s worth by including the value of options (contracts permitting a customer to buy additional units at a specified price).

INCOME STATEMENT ANALYSIS

Analysis of a company’s income statement provides the data needed to measure operating performance over a specified period. Analysis of longer-term results lets one discern and examine trends in sales and profits over the course of a business cycle.

Sales and revenues Generally accepted accounting principles (GAAP) require that companies recognize a sale when it is realized, or realizable, and earned. For industrial machinery companies, this typically occurs when a product is shipped or a service is rendered. Thus, in the case of flow control, electrical equipment, and automation systems, manufacturers record sales when their products are shipped to independent dealers or to end users, or when the service is performed.

On occasion, manufacturers of large custom-built machinery or equipment will receive long-term contracts to make highly specific equipment. These companies normally record sales on a percentage-of-completion basis, reflecting the portion of the sales contract that they have fulfilled.

Recording revenues under percentage-of-completion contracts can be tricky because of the flexibility in measuring contract mileposts. Under the percentage-of-completion accounting method, sales and profits recognized on individual contracts or jobs are based on a project’s overall expected profitability and are also subject to adjustment upon completion of the projects. For example, if a contract were expected to result in X dollars of income, when the job was Y% complete, Y% of X dollars would be recognized as profit. The danger with this kind of accounting is that it recognizes profits before they are realized. If cost overruns occur late in a project, a charge to earnings may be required to reflect the job’s lower actual profit. Thus, relying on conservative profit estimates can increase the likelihood that any adjustment will be a favorable one.

Another caveat is that companies have wider latitude to manage earnings under this type of accounting, by recognizing more or less profit in a given accounting period. In periods when overall profits are higher than expected, a company might recognize a lower profit on individual contracts, which would hold earnings at a desired level. Conversely, when business is slow, profits that had been deferred might be recognized to increase


reported earnings. While such an earnings management approach may enable the company to report an orderly earnings increase that meets investors’ expectations, we do not think that it provides a desirable level of transparency into a company’s financial position or financial performance.

In contrast, manufacturers of large custom-built machinery or equipment could use the completed contract method of revenue recognition, which would recognize revenues and expenses only once the contractual obligations are complete. This method may improve transparency, but it also increase the “lumpiness” of revenues and earnings and, thus, is seldom used in practice.

Gross profit margin ratio The gross profit margin ratio (or gross margin) measures a company’s profitability of sales after the cost of goods sold, but before selling, general, and administrative (SG&A) expenses, research and development (R&D) costs, interest expense and other overhead expenses. To calculate the gross margin, subtract the cost of goods and services provided from sales, and divide the result by sales. Gross margin is one of the clearest performance measures of a company’s operations because it excludes the impact that a company’s corporate overhead and financial cost structure have on its ultimate profitability.

Gross profit margins can lend important insight into trends in market pricing, product mix, costs of raw materials and labor, and the competitive pricing environment. In addition, they can help the analyst discern the impact of raw materials and labor costs on the business. Tracked over time, gross margins can provide a reliable read on a company’s productivity.

Comparing gross margins across companies is tricky, as different companies derive gross profits in various ways. Some include depreciation expense in the cost of goods sold, while others list it separately as an operating expense. Other ways in which gross profit margins may differ across firms include the inclusion or exclusion of general expenses, advertising costs, warranty expenses, or one-time expenses.

Research and development expense An expense item that merits close attention is research and development (R&D). Because the industrial machinery universe uses advanced technology to improve the functionality and value proposition of its products for customers, a company’s long-term prospects increasingly depend on ongoing innovation.

Typically, a company will target a certain percentage of sales as its R&D budget. Companies with relatively higher spending on R&D are more likely to generate new products that could create sustainable advantages over the competition, potentially leading to higher sales and profitability. Within the industrial machinery segment, companies focusing on automation systems and flow control typically spend more on R&D than those in the electrical equipment industry.

SG&A expense Another overhead cost—selling, general, and administrative (SG&A) expense—can be a function of the company’s distribution strategy. The largest portion of SG&A expense often comes from selling expenses, though SG&A also frequently incorporates other support expenses, such as staff compensation, legal expenses, and occasional bad debt expense.

Companies with large direct sales forces and branch offices throughout the regions they serve typically have higher SG&A expenses. In return, however, they are more likely to have a knowledgeable sales force and greater penetration of their target markets, which could yield improved sales. Companies that rely more on independent dealers incur lower costs, but with the potential trade-off of a less knowledgeable sales force and/or nonexclusive arrangements, whereby the dealers also sell competing products. Lower SG&A and R&D expenses help increase operating profit margin, especially when gross margin is also higher.

Earnings It is also important to look at a company’s actual GAAP earnings, especially its sales and expense recognition methods. In our view, industrial machinery companies with high quality earnings will experience few one-off events that increase or reduce earnings. Earnings stability is another important consideration: a company that delivers smooth upward earnings growth (without earnings management techniques, as described earlier)


is regarded more favorably than one that delivers erratic returns. Finally, companies that generate earnings that are more cash-based, versus accrual-based earnings, should be viewed more positively.

BALANCE SHEET INDICATORS

A company’s balance sheet provides important information about its financial strength that is not observable from the income statement. While the income statement offers a view of a company’s performance for a certain period (such as the most recent fiscal year, or the most recent quarter), the balance sheet offers a snapshot of a company’s assets, liabilities, and equity at a specific point in time.

Debt-to-capital ratio The debt-to-capital (D/C) ratio indicates the extent to which a company finances its operations and capital expenditures through borrowings that must be paid back in the future. The other financing alternative, equity financing, occurs when a company issues new shares to the public or when a company retains and reinvests earnings. Including such hybrid financing alternatives as preferred debt, the combination of debt, equity, and alternative financing is the sum total of a company’s capital, or financing sources.

The higher the debt-to-capital ratio, the greater the financial leverage that a company is using. While greater leverage typically enables a company to increase sales, operating activity, and return on equity, it also increases the interest expense, thus reducing profitability and increasing the company’s financial risk.

Most companies in the industrial machinery universe use some debt to finance their operations and capital expenditure requirements. However, too much debt can elevate the risk of investing in shares of a company, as a greater proportion of cash that the company generates has to go toward interest payments and bond principal payments, rather than being reinvested in the business for further growth or returned to shareholders in the form of dividends and/or share repurchases. In the industrial machinery universe, most companies aim to achieve a D/C ratio in the 30%–50% range.

Current ratio The current ratio measures the value of current assets (assets that can be turned into cash in less than one year) against the value of current liabilities (payments that the company must make in less than one year). The current ratio, therefore, is a good indicator of a company’s near-term liquidity because it suggests that company’s ability to meet all of its immediate obligations to creditors. Most companies in the industrial machinery universe will have a current ratio of at least 1:1, and preferably much higher.

Accounts receivable and days sales outstanding Accounts receivable are usually short-term (ranging anywhere from a few days up to a year) credit lines that a company extends to customers and represent amounts owed for products sold or services rendered but have yet to be paid. Receivables typically increase along with growth in revenue. In this regard, accounts receivables should be examined relative to revenue.

Days sales outstanding is a measure of the average number of days it takes a company to collect receivables from customers. We believe this measure is useful when tracked over time. A significant increase in days sales outstanding may be indicative of customers’ weakening financial position, relaxation of credit terms, and/or a lower quality of earnings. (Days sales outstanding is calculated as the average receivables balance over a certain period of time divided by sales, multiplied by the number of days in the period.)

Inventory levels and turnover Inventories are comprised of raw materials, work-in-progress, and finished goods that represent assets ready or nearly ready for sale. As with other current assets, inventories will tend to increase at rates similar to revenue growth. Circumstances that may result in inventory growth differing from revenue include an anticipation of higher future demand, increasing raw material costs, the choice of inventory accounting methodologies, slowing customer demand, or overproduction. The inventory turnover ratio (calculated by cost of goods sold divided by the average inventories) can be used to examine inventory levels over time and across different firms. A decline in the inventory turnover ratio may be indicative of excess inventory stemming from weakening demand, overproduction, or both.


Inventory cost accounting methods can also change the analysis of a company’s inventory levels and inventory turnover ratio (and, in turn, the analysis of cost of goods sold). Industrial machinery companies typically account for inventory via one of two methods: first-in, first-out (FIFO), or last-in, first-out (LIFO). In periods of rising costs, companies using LIFO accounting will typically report a higher cost of goods sold and lower inventory levels, which can alter the comparative analysis of any ratios using these metrics.

STATEMENT OF CASH FLOWS ANALYSIS

The statement of cash flows serves as a bridge between a company’s income statement and its balance sheet. It provides a level of financial detail that is otherwise not available on other financial statements, and details a company’s sources and uses of cash. The statement of cash flows is broken down into three segments—operating, investing, and financing cash flow. Each provides insight into the operations of an industrial machinery company.

Cash flow from operations Cash flow from operations (CFO) is a measure of the cash coming into the firm from operating sources. For industrial companies, it is typically calculated by adjusting net income for non-cash income and expenses along with any cash-related changes in operating assets. Over time, growth in CFO should approximate net income growth for established companies. Net income growing faster than CFO or negative CFO could indicate earnings management.

CFO can also be a useful gauge of financial stability for an industrial machinery company. Companies that generate large levels of cash tend to be more financially stable and need less external financing, can readily pay down debt, and have dividends that are more secure.

Capital expenditures and free cash flow Capital expenditures, found in the investing section of the cash flow statement, represent both cash investments in long-term assets, including property, facilities, and equipment, and spending to maintain current assets. In this respect, capital expenditures are important as they represent investments made for growth and spending to maintain current business levels.

All else being equal, companies with larger capital expenditures have lower free cash flow (FCF). As with CFO, companies with greater FCF generally have greater financial flexibility and generally lower financial risk. FCF measures cash available to the firm after cash payments to maintain or continue present levels of growth.

Cash flow for acquisitions Another important item in the investing section of the cash flow statement is expenditures related to acquisitions. This intermittent line item represents the cash outlays used to acquire other companies within a given period. Companies that typically make large or continual acquisitions will generally require higher levels of CFO, FCF, or access to external financing to fund any purchases.

Financing cash flow activities Cash flow from financing activities (CFF) is a measure of the net cash flow between the company and its shareholders, creditors, and other investors. Line items typically incorporated in CFF include dividend payments to shareholders, the issuance and payment of short-term and long-term debt, and issuance and repurchase of common stock. CFF can provide analysts insight into how a company is financing its operations and other activities.

VALUATION METRICS

Several valuation metrics can be used to compare how expensive a company’s equity shares are relative to competitors in its universe. Caution must be exercised in the interpretation of these metrics. A company that appears cheap relative to its peers, for example, may be at certain competitive disadvantages, such as a relative lack of new product innovations, higher debt levels, lack of innovative products or exposure to higher growth markets, or lower profit margins, to name a few reasons. As a result, other investors may place a lower valuation on the shares of such a company.


EV/EBITDA This ratio compares enterprise value (EV) with a company’s earnings before interest, taxes, depreciation, and amortization (EBITDA). EV is the market value of a company’s equity shares and debt financing, less cash. EBITDA is indicative of a firm’s earning power, regardless of capital structure, tax planning, or non-cash charges, and can be compared with those of other companies on an apples-to-apples basis.

Industrial machinery companies typically use varying degrees of debt financing and have varying interest expenses. Requirements for new capital spending (which incurs depreciation and amortization expenses) also differ. The EV/EBITDA calculation levels the playing field by adjusting for such variations. Were we to look only at earnings, a company that invests a great deal (thereby incurring high depreciation and amortization expense) would be unfairly penalized relative to a company that invests almost nothing. A company with an EV/EBITDA valuation that is lower than those of its peers is considered less expensive.

Price-to-earnings ratio The price-to-earnings (P/E) ratio compares the market value of one share of a company versus its earnings per share (EPS). Typically, the P/E is calculated with the current price against the expected earnings in the following fiscal year (e.g., today’s price versus expected earnings in calendar year 2014).

For the industrial machinery universe, wide swings in the P/E ratio can occur, as the sector goes into and out of favor with the investing public, depending on factors such as interest rates, inflation, or company-specific factors such as demand, the company’s expected growth, or the riskiness. In general, the ratio of price to forward 12-month earnings typically falls in the 12 times to 20 times range. For example, if a company’s stock is trading at $30.00 per share, and investors expect, on average, that the company will earn $2.00 per share in 2014, then the P/E for this company is 30/2.00, or 15.

Price-to-sales ratio The price-to-sales (P/S) ratio is calculated by dividing a company’s equity market value by its revenue, with revenue expressed as sales from the last fiscal year or from the preceding four quarters, or using expected revenue in the following fiscal year (e.g., today’s market value versus expected revenue in calendar 2014).

The P/S ratio does have limitations—it does not take into account the capital or tax structure of companies, for example—and thus we think it should be used sparingly in the valuation of industrial machinery companies. We typically use a P/S valuation ratio only for companies that are experiencing temporarily depressed levels of earnings.

MANAGEMENT EFFICIENCY

An important way to measure how management is performing and how well it is using the company’s capital is by examining the profitability on various balance sheet items. Investors can look at profitability derived from total assets, or in relation to just the company’s equity base, or they can look at what returns it generates from the amount of capital it invests annually.

Return on assets A company’s return on assets (ROA) measures the net income created during one-time period, usually a 12-month span, such as a year, versus the average value of the company’s assets in that particular period. The ROA does not consider any financial leverage used to generate the net income; therefore, it is often considered a more conservative metric.

Return on equity A company’s return on equity (ROE) measures the net income generated in a particular time period, such as a fiscal year, against the average value of the equity in the company during that period. Since it is using only equity, this metric incorporates a company’s use of financial leverage, and by definition is higher than ROA when financial leverage is employed. A company with a higher ROE than its peers likely is generating relatively more income given its level of equity. However, investors should always be alert to the amount of leverage employed to generate the ROE.


Return on invested capital A company’s return on invested capital (ROIC) is one of the most important efficiency metrics for the industrial machinery industry. The ROIC measures the net operating profit after tax during a particular time period, usually 12 months, against the amount of capital the company has invested during that time frame. The higher a company’s ROIC is over its cost of capital, the greater the value that is created through its operations.

Dividend payout ratio The dividend payout ratio compares the dividend per share, which a company returns to its shareholders in cash, with the EPS that it generates. For example, a company that pays out 15 cents per share in cash to its shareholders each year, and which generated $1.00 per share of earnings, has a dividend payout ratio of 15%. The company uses the remaining 85% of the earnings (which would be referred to as the retention rate) internally: to fund operations, make new capital investments, or pay down existing debt. The ROE minus the retention rate in percent can suggest a company’s sustainable growth level of shareholders’ equity in the future.


GLOSSARY

AC motor—A motor operating on an AC current. Two general types are induction and synchronous.

Actuator—A device that activates a movement or a process; used to transfer motion from one object to another.

Alternating current (AC)—A current that flows in both directions in an electric circuit.

Compressor—A machine for compressing air or other gases.

Continuous Automation—An automation process that helps manufacturers ensure the temperature, viscosity, flow rate, composition, and other characteristics of a product during the assembly/manufacturing process.

DC motor—A motor operating on DC current, which is often used when variable-speed operation is required.

Direct current (DC)—A current that flows in only one direction in an electric circuit; current can be either continuous or discontinuous, and either constant rate or varying.

Discrete automation—This process involves the assembly of parts into products that can be measured in units such as automobiles, food products, computers, household appliances, and electronics.

Distributed control system (DCS)—A network of computerized stations whose purpose is the control of an industrial process or plant. A DCS is focused on controlling and monitoring several process variables, such as temperature, pressure, flow, and water level.

Electric motor—A machine that converts electrical power into mechanical power in the form of a rotating shaft.

Flowmeter—A device for monitoring and measuring the flow of a substance (typically fluid or gas).

Fractional horsepower motor—An electric motor with output of less than one horsepower.

Horsepower (hp)—A measure of the rate of work. An electrical device with one hp can lift 33,000 pounds to a height of one foot in one minute.

Hybrid Automation—A manufacturing process that combines the aspects of continuous and discrete automation processes.

Hydraulic pump—A device that increases water pressure and moves a liquid in a specific direction.

Kaizen—A Japanese word meaning “change for the better,” it is a manufacturing philosophy that focuses on the continual improvement of production processes.

Lean manufacturing—A manufacturing practice that considers all the expenditures within the production of a product and attempts to reduce or eliminate all the waste within the process.

Pneumatic pump—A device that uses air pressure to move liquid or gas in a specific direction.

Programmable logic controller (PLC)—A computerized device used to control equipment in an industrial facility. The PLC replaces the wires that would otherwise be needed for different pieces of equipment to communicate.

Six Sigma—A set of practices originally developed by Motorola to improve processes by eliminating defects. Popularized by General Electric, this rigorous methodology uses data and statistical analysis to measure and improve a company’s operational performance, practices, and systems; the goal is to reduce defects to less than 3.4 per million.

Valve—A device that controls the flow (typically through pipes) of liquid or gas.


INDUSTRY REFERENCES

PERIODICALS

Assembly Magazine http://www.assemblymag.com Monthly; covers the technology, products, applications, and industry news relevant to product assembly.

Automation World http://www.automationworld.com Monthly; focused on the field of industrial automation.

Control Design Control Magazine http://www.controldesign.com http://www.controlglobal.com Monthly; the first covers the automation, control, and instrumentation needs of original equipment manufacturers (OEMs); the second covers the North American process automation market.

Industrial Automation Insider (IAI) http://www.iainsider.co.uk Monthly newsletter; provides industrial measurement and control systems users with information on the evolution and convergence of systems technologies.

Industrial Equipment News http://www.ien.com Monthly; reviews product technologies in a variety of fields including automation, assembly, e-manufacturing, maintenance and repair operations (MRO), motion control, robotics, sensing, and security.

Industrial Maintenance and Plant Operations http://www.impomag.com Monthly magazine for plant and maintenance managers; reports on important trends, issues, and products in the MRO market.

IndustryWeek http://www.industryweek.com Monthly; focuses on new manufacturing techniques and machines, information technology, microelectronics, organizational practices within the manufacturing sector, analysis, and trends in global manufacturing.

Machinery Outlook http://www.machineryoutlook.com Monthly; covers the construction, mining, lifting, agriculture, and material handling machinery industries.

Robotics Online http://www.robotics.org Bimonthly; covers robotics and flexible automation.

Supply House Times http://www.supplyht.com Monthly; serves the plumbing, hydronics, and HVAC industries.

The Engineer http://www.theengineer.co.uk Online publication focused on product design and engineering.

TRADE ASSOCIATIONS

Association of Equipment Manufacturers (AEM) http://www.aem.org Represents manufacturers of agricultural, mining, forestry, utility, and construction equipment, plus suppliers of related products and services. Provides statistics and addresses safety, technical, and public policy issues.

Association for Manufacturing Technology http://www.amtonline.org Represents the interests of US providers of manufacturing machinery and equipment. Formerly called the American Machine Tool Distributors’ Association.

The Institute for Supply Management (ISM) http://www.ism.ws Nonprofit association representing the purchasing and supply management profession; provides statistics on the general manufacturing industry.

National Electrical Manufacturers’ Association (NEMA) http://www.nema.org Established in 1926, NEMA provides a forum for the standardization of electrical equipment and represents industry interests in new and developing technologies.

National Fluid Power Association http://www.nfpa.com Represents companies in the US fluid power industry; promotes advanced knowledge of hydraulic and pneumatic motion control technology.


Valve Manufacturers Association http://www.vma.org Represents the interests of its members (about 100 valve and actuator makers in the US and Canada); a voice for the flow control industry.

RESEARCH FIRMS AND INSTITUTIONS

ARC Advisory Group http://www.arcweb.com Focuses on manufacturing, logistics, and supply-chain solutions.

The Freedonia Group Inc. http://www.freedoniagroup.com Market research firm; provides industry research reports and forecasts on a wide variety of industries.

Frost & Sullivan http://www.frost.com Provides market information on more than 30 major industries.

McGraw Hill Construction Dodge http://www.dodgeprojects.construction.com A unit of McGraw Hill Financial, it provides construction information, statistics, and news. Formerly called F.W. Dodge.

McIlvaine Co. http://www.mcilvainecompany.com Provides technical information, market reports, sales leads, and market research in the environmental, energy, contamination control, and process industry fields.

GOVERNMENT AGENCIES

Bureau of Labor Statistics (BLS) http://www.bls.gov A division of the US Department of Labor, the BLS is the federal government’s principal fact-finding group in labor economics and statistics.

The Federal Reserve System http://www.federalreserve.gov The Federal Reserve, or the Fed, is the US central bank, an independent government organization that supervises and regulates banks, conducts US monetary policy, and provides services to the US government and the public. It was created by Congress in 1913 with the passage of the Federal Reserve Act.

US Census Bureau http://www.census.gov A division of the US Department of Commerce; collects US population and economic data.


COMPARATIVE COMPANY ANALYSIS

Operating Revenues

Million $ CAGR (%) Index Basis (2003 = 100)

Ticker Company Yr. End 2013 2012 2011 2010 2009 2008 2003 10-Yr. 5-Yr. 1-Yr. 2013 2012 2011 2010 2009

INDUSTRIAL MACHINERY‡ATU § ACTUANT CORP -CL A AUG 1,279.7 A,C 1,605.3 A 1,445.3 A 1,160.5 A,C 1,239.8 A,C 1,663.9 A 585.4 8.1 (5.1) (20.3) 219 274 247 198 212AIN § ALBANY INTL CORP -CL A DEC 757.4 760.9 D 814.7 D 914.4 871.0 1,086.5 D 869.0 (1.4) (7.0) (0.5) 87 88 94 105 100B § BARNES GROUP INC DEC 1,091.6 A,C 1,230.0 A 1,169.4 D 1,133.2 1,034.2 1,362.1 D 890.8 A 2.1 (4.3) (11.3) 123 138 131 127 116BGG § BRIGGS & STRATTON JUN 1,862.5 2,066.5 A 2,110.0 2,027.9 2,092.2 A 2,151.4 1,657.6 1.2 (2.8) (9.9) 112 125 127 122 126CIR § CIRCOR INTL INC DEC 857.8 845.6 822.3 A 685.9 A 642.6 A 793.8 A 359.5 9.1 1.6 1.4 239 235 229 191 179

CLC † CLARCOR INC NOV 1,130.8 1,121.8 1,126.1 A 1,011.4 907.7 1,059.6 A 741.4 4.3 1.3 0.8 153 151 152 136 122CR † CRANE CO DEC 2,595.3 2,579.1 D 2,545.9 2,217.8 A 2,177.5 2,604.3 A 1,636.0 4.7 (0.1) 0.6 159 158 156 136 133DCI † DONALDSON CO INC JUL 2,445.0 2,502.3 2,302.7 1,884.3 1,874.7 2,240.1 1,218.3 7.2 1.8 (2.3) 201 205 189 155 154DOV [] DOVER CORP DEC 8,729.8 A,C 8,104.3 A,C 7,950.1 A,C 7,132.6 A 5,775.7 A 7,568.9 A,C 4,413.3 A,C 7.1 2.9 7.7 198 184 180 162 131NPO § ENPRO INDUSTRIES INC DEC 1,144.2 1,184.2 1,105.5 A 865.0 803.0 A,C 1,167.8 730.1 A 4.6 (0.4) (3.4) 157 162 151 118 110

ESE § ESCO TECHNOLOGIES INC SEP 490.1 D 688.4 693.7 607.5 A 619.1 D 623.8 A,C 396.7 A,C 2.1 (4.7) (28.8) 124 174 175 153 156FLS [] FLOWSERVE CORP DEC 4,954.6 4,751.3 4,510.2 4,032.0 4,365.3 4,473.5 2,404.4 7.5 2.1 4.3 206 198 188 168 182GGG † GRACO INC DEC 1,104.0 1,012.5 A 895.3 A 744.1 579.2 817.3 A 535.1 A 7.5 6.2 9.0 206 189 167 139 108HI § HILLENBRAND INC SEP 1,553.4 A 983.2 883.4 A 749.2 A 649.1 678.1 NA NA 18.0 58.0 ** ** ** ** NAHSC † HARSCO CORP DEC 2,896.5 3,046.0 3,302.7 3,038.7 2,990.6 3,973.6 A 2,118.5 3.2 (6.1) (4.9) 137 144 156 143 141

IEX † IDEX CORP DEC 2,024.1 A 1,954.3 A 1,838.5 A 1,513.1 1,329.7 1,489.5 797.9 9.8 6.3 3.6 254 245 230 190 167ITW [] ILLINOIS TOOL WORKS DEC 14,135.0 C,D 17,924.0 17,786.6 D 15,870.4 13,877.1 D 15,869.4 D 10,035.6 3.5 (2.3) (21.1) 141 179 177 158 138IR [] INGERSOLL-RAND PLC DEC 12,350.5 D 14,034.9 14,782.0 D 14,079.1 D 13,195.3 13,227.4 A 9,876.2 D 2.3 (1.4) (12.0) 125 142 150 143 134ITT † ITT CORP DEC 2,496.9 2,227.8 D 2,119.0 D 10,995.0 D 10,904.5 11,694.8 5,626.6 (7.8) (26.6) 12.1 44 40 38 195 194JBT § JOHN BEAN TECHNOLOGIES DEC 934.2 917.3 955.8 880.4 841.6 A 1,028.1 NA NA (1.9) 1.8 ** ** ** ** NA

KMT † KENNAMETAL INC JUN 2,589.4 2,736.2 A 2,403.5 1,884.1 1,999.9 A,C 2,705.1 1,759.0 A 3.9 (0.9) (5.4) 147 156 137 107 114LECO † LINCOLN ELECTRIC HLDGS INC DEC 2,852.7 2,853.4 2,694.6 2,070.2 A 1,729.3 2,479.1 A 1,040.6 A 10.6 2.8 (0.0) 274 274 259 199 166LDL § LYDALL INC DEC 398.0 378.9 383.6 D 338.0 248.9 305.7 D 271.4 3.9 5.4 5.0 147 140 141 125 92MLI § MUELLER INDUSTRIES DEC 2,158.5 2,189.9 A 2,417.8 2,059.8 1,547.2 2,559.5 F 1,001.9 F 8.0 (3.4) (1.4) 215 219 241 206 154NDSN † NORDSON CORP OCT 1,542.9 A 1,409.6 A 1,233.2 A 1,041.6 819.2 1,124.8 A 667.3 8.7 6.5 9.5 231 211 185 156 123

PLL [] PALL CORP JUL 2,648.1 2,671.7 D 2,740.9 2,401.9 2,329.2 2,571.6 1,613.6 5.1 0.6 (0.9) 164 166 170 149 144PH [] PARKER-HANNIFIN CORP JUN 13,015.7 A 13,145.9 A 12,345.9 A 9,993.2 A 10,309.0 A 12,145.6 A 6,410.6 A 7.3 1.4 (1.0) 203 205 193 156 161PNR [] PENTAIR PLC DEC 7,479.7 4,416.1 A,C 3,456.7 A 3,030.8 2,692.5 3,352.0 A,C 2,724.4 A 10.6 17.4 69.4 275 162 127 111 99SNA [] SNAP-ON INC DEC 3,237.5 3,099.2 2,978.5 2,681.5 2,420.8 2,934.7 2,277.0 F 3.6 2.0 4.5 142 136 131 118 106SPW † SPX CORP DEC 4,717.2 D 5,100.2 D 4,551.4 A 4,886.8 D 4,850.8 D 5,855.7 D 5,081.5 D (0.7) (4.2) (7.5) 93 100 90 96 95

SXI § STANDEX INTERNATIONAL CORP JUN 701.3 A 634.6 D 633.8 A 578.5 607.1 697.5 D 574.5 A,C 2.0 0.1 10.5 122 110 110 101 106SWK [] STANLEY BLACK & DECKER INC DEC 11,001.2 A,C 10,190.5 A,C 10,376.4 A,C 8,409.6 A 3,737.1 4,426.2 A,C 2,678.1 D 15.2 20.0 8.0 411 381 387 314 140TNC § TENNANT CO DEC 752.0 739.0 754.0 A 667.7 595.9 A 701.4 A 447.6 5.3 1.4 1.8 168 165 168 149 133TKR † TIMKEN CO DEC 4,341.2 4,987.0 5,170.2 4,055.5 3,141.6 D 5,663.7 3,788.1 A 1.4 (5.2) (12.9) 115 132 136 107 83VMI † VALMONT INDUSTRIES INC DEC 3,304.2 A,C 3,029.5 A 2,661.5 1,975.5 A 1,786.6 1,907.3 A 837.6 C 14.7 11.6 9.1 394 362 318 236 213

WTS § WATTS WATER TECHNOLOGIES INC DEC 1,473.5 D 1,445.6 D 1,436.6 A 1,274.6 1,225.9 D 1,459.4 A 705.7 D 7.6 0.2 1.9 209 205 204 181 174WWD † WOODWARD INC SEP 1,936.0 A 1,865.6 1,711.7 1,457.0 1,430.1 A 1,258.2 586.7 12.7 9.0 3.8 330 318 292 248 244XYL [] XYLEM INC DEC 3,837.0 3,791.0 3,803.0 3,202.0 A 2,849.0 NA NA NA NA 1.2 ** ** ** ** NA

Note: Data as originally reported. CAGR-Compound annual grow th rate. ‡S&P 1500 index group. []Company included in the S&P 500. †Company included in the S&P MidCap 400. §Company included in the S&P SmallCap 600. #Of the follow ing calendar year. **Not calculated; data for base year or end year not available. A - This year's data ref lect an acquisition or merger. B - This year's data ref lect a major merger resulting in the formation of a new company. C - This year's data reflect an accounting change. D - Data exclude discontinued operations. E - Includes excise taxes. F - Includes other (nonoperating) income. G - Includes sale of leased depts. H - Some or all data are not available, due to a f iscal year change.


Net Income

Million $ CAGR (%) Index Basis (2003 = 100)

Ticker Company Yr. End 2013 2012 2011 2010 2009 2008 2003 10-Yr. 5-Yr. 1-Yr. 2013 2012 2011 2010 2009

INDUSTRIAL MACHINERY‡ATU § ACTUANT CORP -CL A AUG 147.6 87.3 124.5 70.4 23.9 122.5 29.0 17.7 3.8 69.1 509 301 430 243 82AIN § ALBANY INTL CORP -CL A DEC 17.6 (40.8) 26.5 37.6 (22.4) (82.2) 54.1 (10.6) NM NM 32 (76) 49 70 (41)B § BARNES GROUP INC DEC 72.3 98.3 91.6 53.3 39.0 97.1 33.0 8.2 (5.7) (26.4) 219 298 277 161 118BGG § BRIGGS & STRATTON JUN (33.7) 29.0 24.4 36.6 32.0 22.6 80.6 NM NM NM (42) 36 30 45 40CIR § CIRCOR INTL INC DEC 47.1 30.8 36.6 12.6 5.9 (59.0) 17.9 10.2 NM 53.0 264 172 205 71 33

CLC † CLARCOR INC NOV 118.1 123.0 124.0 96.1 71.5 95.7 54.6 8.0 4.3 (4.0) 216 225 227 176 131CR † CRANE CO DEC 219.5 195.4 26.3 154.2 133.9 135.2 104.3 7.7 10.2 12.4 210 187 25 148 128DCI † DONALDSON CO INC JUL 247.4 264.3 225.3 166.2 131.9 172.0 95.3 10.0 7.5 (6.4) 260 277 236 174 138DOV [] DOVER CORP DEC 965.8 833.1 846.4 707.9 371.9 694.8 285.2 13.0 6.8 15.9 339 292 297 248 130NPO § ENPRO INDUSTRIES INC DEC 27.4 41.0 44.2 61.3 (143.6) 53.5 33.2 (1.9) (12.5) (33.2) 83 123 133 185 (433)

ESE § ESCO TECHNOLOGIES INC SEP 31.3 46.9 52.5 44.8 49.3 47.4 26.7 1.6 (8.0) (33.3) 117 175 196 168 184FLS [] FLOWSERVE CORP DEC 485.5 448.3 428.6 388.3 427.9 442.4 52.9 24.8 1.9 8.3 918 848 810 734 809GGG † GRACO INC DEC 210.8 149.1 142.3 102.8 49.0 120.9 86.7 9.3 11.8 41.4 243 172 164 119 56HI § HILLENBRAND INC SEP 63.4 104.8 106.1 92.3 102.3 93.2 NA NA (7.4) (39.5) ** ** ** ** NAHSC † HARSCO CORP DEC (226.4) (253.7) (9.4) 10.9 133.8 245.6 87.0 NM NM NM (260) (292) (11) 13 154

IEX † IDEX CORP DEC 255.2 37.6 193.9 157.1 113.4 131.4 62.4 15.1 14.2 578.2 409 60 311 252 182ITW [] ILLINOIS TOOL WORKS DEC 1,630.0 2,495.0 2,017.0 1,527.2 969.5 1,583.3 1,040.2 4.6 0.6 (34.7) 157 240 194 147 93IR [] INGERSOLL-RAND PLC DEC 620.1 1,024.3 400.0 758.9 462.9 (2,567.4) 593.5 0.4 NM (39.5) 104 173 67 128 78ITT † ITT CORP DEC 487.7 109.5 (578.0) 654.0 650.7 775.2 390.9 2.2 (8.9) 345.4 125 28 (148) 167 166JBT § JOHN BEAN TECHNOLOGIES DEC 34.0 37.1 30.8 37.9 32.8 44.1 NA NA (5.1) (8.4) ** ** ** ** NA

KMT † KENNAMETAL INC JUN 203.3 307.2 229.7 47.8 (102.4) 167.8 18.1 27.3 3.9 (33.8) 1,121 1,695 1,267 264 (565)LECO † LINCOLN ELECTRIC HLDGS INC DEC 293.8 257.4 217.2 130.2 48.6 212.3 54.5 18.3 6.7 14.1 539 472 398 239 89LDL § LYDALL INC DEC 19.2 16.8 9.0 2.7 (14.2) (6.1) 8.4 8.6 NM 14.0 229 201 108 33 (169)MLI § MUELLER INDUSTRIES DEC 172.6 82.4 86.3 86.2 4.7 80.8 44.2 14.6 16.4 109.5 390 186 195 195 11NDSN † NORDSON CORP OCT 221.8 224.8 222.4 168.0 (160.1) 117.5 35.2 20.2 13.6 (1.3) 631 639 632 478 (455)

PLL [] PALL CORP JUL 330.0 280.9 315.5 241.2 195.6 217.3 103.2 12.3 8.7 17.4 320 272 306 234 190PH [] PARKER-HANNIFIN CORP JUN 948.4 1,151.8 1,049.1 554.1 508.5 949.5 196.3 17.1 (0.0) (17.7) 483 587 535 282 259PNR [] PENTAIR PLC DEC 536.8 (107.2) 34.2 198.5 115.5 256.4 144.3 14.0 15.9 NM 372 (74) 24 138 80SNA [] SNAP-ON INC DEC 350.3 306.1 276.3 186.5 134.2 236.7 78.7 16.1 8.2 14.4 445 389 351 237 171SPW † SPX CORP DEC 198.9 (81.2) 149.9 194.4 46.4 253.2 264.6 (2.8) (4.7) NM 75 (31) 57 73 18

SXI § STANDEX INTERNATIONAL CORP JUN 45.3 46.9 36.1 28.0 (1.9) 19.3 13.8 12.6 18.6 (3.4) 328 339 261 202 (14)SWK [] STANLEY BLACK & DECKER INC DEC 518.3 449.5 691.3 198.2 226.8 225.4 96.7 18.3 18.1 15.3 536 465 715 205 235TNC § TENNANT CO DEC 40.2 41.6 32.7 34.8 (26.2) 10.6 14.2 11.0 30.5 (3.3) 284 294 231 246 (185)TKR † TIMKEN CO DEC 262.7 495.5 454.3 267.4 (61.4) 267.7 36.5 21.8 (0.4) (47.0) 720 1,358 1,245 733 (168)VMI † VALMONT INDUSTRIES INC DEC 278.5 234.1 228.3 94.4 150.6 132.4 25.9 26.8 16.0 19.0 1,077 905 883 365 582

WTS § WATTS WATER TECHNOLOGIES INC DEC 60.9 70.6 64.7 63.1 41.0 47.3 36.5 5.3 5.2 (13.7) 167 194 177 173 112WWD † WOODWARD INC SEP 145.9 141.6 132.2 110.8 94.4 121.9 12.3 28.0 3.7 3.1 1,182 1,147 1,071 898 764XYL [] XYLEM INC DEC 228.0 297.0 279.0 329.0 263.0 NA NA NA NA (23.2) ** ** ** ** NA

Note: Data as originally reported. CAGR-Compound annual grow th rate. ‡S&P 1500 index group. []Company included in the S&P 500. †Company included in the S&P MidCap 400. §Company included in the S&P SmallCap 600. #Of the follow ing calendar year. **Not calculated; data for base year or end year not available.


Return on Revenues (%) Return on Assets (%) Return on Equity (%)

Ticker Company Yr. End 2013 2012 2011 2010 2009 2013 2012 2011 2010 2009 2013 2012 2011 2010 2009

INDUSTRIAL MACHINERY‡ATU § ACTUANT CORP -CL A AUG 11.5 5.4 8.6 6.1 1.9 7.2 4.3 6.8 4.4 1.5 13.8 8.9 15.0 9.5 3.5AIN § ALBANY INTL CORP -CL A DEC 2.3 NM 3.3 4.1 NM 1.5 NM 2.1 2.9 NM 3.4 NM 6.3 8.8 NMB § BARNES GROUP INC DEC 6.6 8.0 7.8 4.7 3.8 3.6 5.9 6.4 3.9 2.8 7.4 12.9 12.8 7.6 6.2BGG § BRIGGS & STRATTON JUN NM 1.4 1.2 1.8 1.5 NM 1.8 1.5 2.2 1.9 NM 4.2 3.5 5.4 4.2CIR § CIRCOR INTL INC DEC 5.5 3.6 4.5 1.8 0.9 6.6 4.3 5.5 2.1 1.0 10.5 7.7 9.9 3.6 1.7

CLC † CLARCOR INC NOV 10.4 11.0 11.0 9.5 7.9 8.9 10.5 11.4 9.5 7.4 12.2 14.2 15.6 13.3 10.7CR † CRANE CO DEC 8.5 7.6 1.0 7.0 6.1 6.8 6.8 0.9 5.7 4.9 20.7 22.6 2.9 16.5 16.5DCI † DONALDSON CO INC JUL 10.1 10.6 9.8 8.8 7.0 14.2 15.3 14.0 11.7 9.2 24.8 28.7 26.8 23.2 18.5DOV [] DOVER CORP DEC 11.1 10.3 10.6 9.9 6.4 9.1 8.4 9.4 8.6 4.7 18.8 16.9 17.9 16.4 9.4NPO § ENPRO INDUSTRIES INC DEC 2.4 3.5 4.0 7.1 NM 2.0 3.1 3.7 5.2 NM 4.8 7.9 9.1 15.6 NM

ESE § ESCO TECHNOLOGIES INC SEP 6.4 6.8 7.6 7.4 8.0 2.9 4.6 5.3 4.7 5.3 5.1 7.6 9.1 8.4 10.0FLS [] FLOWSERVE CORP DEC 9.8 9.4 9.5 9.6 9.8 9.9 9.5 9.4 8.9 10.3 25.8 21.6 19.6 19.9 27.0GGG † GRACO INC DEC 19.1 14.7 15.9 13.8 8.5 15.9 13.6 20.3 20.4 9.3 38.7 38.4 48.5 43.4 26.0HI § HILLENBRAND INC SEP 4.1 10.7 12.0 12.3 15.8 4.1 9.2 9.5 11.4 18.5 11.8 22.1 26.0 27.3 34.5HSC † HARSCO CORP DEC NM NM NM 0.4 4.5 NM NM NM 0.3 3.7 NM NM NM 0.7 9.3

IEX † IDEX CORP DEC 12.6 1.9 10.5 10.4 8.5 9.0 1.3 7.4 7.0 5.3 16.8 2.5 13.4 11.9 9.3ITW [] ILLINOIS TOOL WORKS DEC 11.5 13.9 11.3 9.6 7.0 8.3 13.4 11.8 9.4 6.2 16.1 24.2 20.8 16.8 11.8IR [] INGERSOLL-RAND PLC DEC 5.0 7.3 2.7 5.4 3.5 3.4 5.5 2.1 3.8 2.3 8.7 14.6 5.4 10.1 6.7ITT † ITT CORP DEC 19.5 4.9 NM 5.9 6.0 13.7 3.1 NM 5.6 6.0 51.2 15.7 NM 15.6 18.8JBT § JOHN BEAN TECHNOLOGIES DEC 3.6 4.0 3.2 4.3 3.9 5.2 5.8 5.2 6.8 5.8 26.2 40.0 35.6 49.0 123.8

KMT † KENNAMETAL INC JUN 7.8 11.2 9.6 2.5 NM 6.4 10.6 9.1 2.1 NM 11.9 18.7 15.6 3.7 NMLECO † LINCOLN ELECTRIC HLDGS INC DEC 10.3 9.0 8.1 6.3 2.8 13.9 12.7 11.6 7.5 2.8 20.5 20.4 18.8 11.8 4.7LDL § LYDALL INC DEC 4.8 4.4 2.4 0.8 NM 7.3 6.9 3.9 1.2 NM 10.2 10.0 5.7 1.8 NMMLI § MUELLER INDUSTRIES DEC 8.0 3.8 3.6 4.2 0.3 14.7 6.7 6.6 7.1 0.4 28.5 12.1 10.5 11.5 0.7NDSN † NORDSON CORP OCT 14.4 16.0 18.0 16.1 NM 11.5 14.3 19.4 17.9 NM 28.5 36.2 41.3 38.4 NM

PLL [] PALL CORP JUL 12.5 10.5 11.5 10.0 8.4 9.7 8.5 10.1 8.3 6.7 19.8 18.7 23.6 21.0 17.4PH [] PARKER-HANNIFIN CORP JUN 7.3 8.8 8.5 5.5 4.9 8.0 10.4 10.1 5.6 5.0 17.8 22.4 21.5 12.8 10.7PNR [] PENTAIR PLC DEC 7.2 NM 1.0 6.5 4.3 4.6 NM 0.8 5.0 2.9 8.6 NM 1.7 9.7 5.9SNA [] SNAP-ON INC DEC 10.8 9.9 9.3 7.0 5.5 8.7 8.1 7.5 5.2 4.4 17.9 18.4 18.9 13.9 10.8SPW † SPX CORP DEC 4.2 NM 3.3 4.0 1.0 2.8 NM 2.2 3.3 0.8 9.0 NM 6.9 9.8 2.4

SXI § STANDEX INTERNATIONAL CORP JUN 6.5 7.4 5.7 4.8 NM 9.2 9.8 7.8 6.4 NM 17.0 19.2 16.5 15.2 NMSWK [] STANLEY BLACK & DECKER INC DEC 4.7 4.4 6.7 2.4 6.1 3.2 2.8 4.4 2.0 4.7 7.7 6.6 9.9 4.4 12.3TNC § TENNANT CO DEC 5.3 5.6 4.3 5.2 NM 9.2 9.8 7.9 8.9 NM 16.1 18.2 15.0 17.4 NMTKR † TIMKEN CO DEC 6.1 9.9 8.8 6.6 NM 6.0 11.5 10.6 6.5 NM 10.8 23.3 23.0 15.3 NMVMI † VALMONT INDUSTRIES INC DEC 8.4 7.7 8.6 4.8 8.4 10.4 9.6 10.4 5.6 11.5 19.4 18.7 22.1 11.1 21.4

WTS § WATTS WATER TECHNOLOGIES INC DEC 4.1 4.9 4.5 5.0 3.3 3.5 4.1 3.9 3.9 2.5 6.3 7.6 7.1 7.1 4.8WWD † WOODWARD INC SEP 7.5 7.6 7.7 7.6 6.6 7.2 7.8 7.7 6.6 7.2 13.6 14.7 15.4 14.7 14.1XYL [] XYLEM INC DEC 5.9 7.8 7.3 10.3 9.2 4.8 6.5 6.9 10.5 NA 10.6 15.2 12.3 14.9 NA

Note: Data as originally reported. ‡S&P 1500 index group. []Company included in the S&P 500. †Company included in the S&P MidCap 400. §Company included in the S&P SmallCap 600. #Of the follow ing calendar year.


Debt as a % of

Current Ratio Debt / Capital Ratio (%) Net Working Capital


INDUSTRIAL MACHINERY‡ATU § ACTUANT CORP -CL A AUG 2.4 1.8 1.7 1.3 1.5 30.1 24.8 32.5 30.2 31.6 111.1 161.0 241.8 321.4 311.2AIN § ALBANY INTL CORP -CL A DEC 3.3 2.2 3.0 3.1 2.7 33.7 30.4 44.8 47.2 50.6 82.5 85.3 111.0 124.3 158.1B § BARNES GROUP INC DEC 1.9 3.1 2.7 1.6 2.1 28.4 43.1 31.0 26.2 31.3 177.1 153.4 100.3 155.2 150.6BGG § BRIGGS & STRATTON JUN 3.1 3.0 2.8 1.6 2.9 25.2 26.3 23.4 0.0 28.8 38.5 37.2 36.0 NM 50.4CIR § CIRCOR INTL INC DEC 2.8 2.4 2.3 1.6 2.5 8.0 12.8 19.6 0.2 0.4 13.5 24.0 38.8 0.5 0.7

CLC † CLARCOR INC NOV 4.3 3.7 3.8 3.2 3.4 9.6 1.7 1.8 2.1 6.7 17.0 3.4 3.6 4.8 16.5CR † CRANE CO DEC 1.7 2.3 1.9 2.0 2.2 36.9 29.5 31.8 27.8 30.3 156.0 59.7 79.9 81.4 68.8DCI † DONALDSON CO INC JUL 2.2 2.2 2.1 2.2 2.3 8.5 18.2 17.9 25.4 26.7 17.7 34.7 36.1 54.4 67.3DOV [] DOVER CORP DEC 2.0 1.5 2.8 2.7 2.6 30.5 29.0 29.0 26.7 29.4 160.2 210.7 99.6 86.6 117.5NPO § ENPRO INDUSTRIES INC DEC 1.1 1.7 1.7 2.7 2.0 29.5 43.5 43.2 43.2 29.5 852.5 253.0 238.5 122.2 58.5

ESE § ESCO TECHNOLOGIES INC SEP 1.7 1.7 1.6 1.6 1.7 14.8 8.3 9.9 14.1 18.0 74.6 46.7 61.2 95.1 112.3FLS [] FLOWSERVE CORP DEC 1.8 1.7 1.8 1.7 1.7 36.3 30.8 16.3 18.1 22.7 87.5 75.6 39.0 44.6 51.8GGG † GRACO INC DEC 4.7 5.1 4.4 2.1 1.8 38.4 53.9 48.2 21.0 29.2 65.5 89.0 66.4 53.0 101.3HI § HILLENBRAND INC SEP 1.4 2.0 2.8 2.7 1.7 50.4 34.0 47.7 49.7 0.0 376.3 176.9 176.9 197.0 0.0HSC † HARSCO CORP DEC 1.4 1.7 1.5 1.5 1.6 57.8 53.5 41.5 36.7 36.6 337.6 223.2 226.4 219.5 215.6

IEX † IDEX CORP DEC 3.3 3.0 3.1 2.0 2.4 31.0 32.9 32.8 21.1 21.7 112.5 132.0 151.9 120.5 149.5ITW [] ILLINOIS TOOL WORKS DEC 1.6 3.0 2.3 1.9 2.0 21.5 29.8 25.6 20.8 24.4 73.8 86.4 90.1 87.4 102.7IR [] INGERSOLL-RAND PLC DEC 1.7 1.2 1.3 1.3 1.2 30.8 24.1 29.4 23.2 26.3 136.6 290.4 272.1 255.0 379.2ITT † ITT CORP DEC 2.0 1.9 2.1 1.6 1.6 0.7 1.4 0.6 22.9 26.6 1.1 1.4 0.4 82.1 87.2JBT § JOHN BEAN TECHNOLOGIES DEC 1.4 1.8 1.5 1.5 1.3 36.3 63.6 62.1 60.4 67.3 79.1 94.4 113.7 127.1 188.8

KMT † KENNAMETAL INC JUN 3.2 2.2 1.5 2.3 2.3 27.2 22.3 0.1 18.6 24.6 68.2 69.7 0.4 60.2 87.9LECO † LINCOLN ELECTRIC HLDGS INC DEC 2.5 2.6 2.6 3.2 3.4 0.2 0.1 0.2 6.8 7.5 0.6 0.2 0.3 11.3 12.1LDL § LYDALL INC DEC 3.5 3.3 2.9 2.2 2.5 0.5 0.9 1.3 2.1 3.1 0.9 1.6 2.6 5.4 8.6MLI § MUELLER INDUSTRIES DEC 4.0 2.9 4.8 4.7 4.4 21.8 28.2 15.2 16.3 17.5 31.5 42.4 19.2 22.1 25.3NDSN † NORDSON CORP OCT 2.6 1.7 2.6 2.4 2.2 40.1 43.6 35.1 16.2 29.6 177.6 221.9 108.1 38.3 81.6

PLL [] PALL CORP JUL 2.8 2.2 2.3 2.7 2.2 20.2 24.4 24.7 38.4 33.9 35.4 49.1 48.3 69.6 67.7PH [] PARKER-HANNIFIN CORP JUN 1.6 1.8 1.8 1.6 1.6 20.4 23.2 23.4 23.9 29.2 74.4 74.7 88.3 102.1 164.5PNR [] PENTAIR PLC DEC 2.0 2.1 1.9 2.0 2.1 27.7 26.4 38.1 23.7 27.1 157.4 142.5 218.8 134.5 160.7SNA [] SNAP-ON INC DEC 2.5 2.8 2.6 2.0 2.3 28.2 34.2 37.6 39.7 40.1 81.9 93.0 104.4 110.4 99.1SPW † SPX CORP DEC 1.3 1.8 1.7 1.4 1.4 33.6 42.1 46.4 34.6 37.6 182.1 119.7 145.4 157.3 172.8

SXI § STANDEX INTERNATIONAL CORP JUN 2.2 2.1 1.7 2.1 1.9 14.4 16.8 15.2 32.4 34.2 35.8 37.7 50.3 80.8 110.3SWK [] STANLEY BLACK & DECKER INC DEC 1.2 1.3 1.3 1.8 1.2 33.0 31.7 27.0 27.6 34.0 508.1 344.1 277.5 145.6 493.3TNC § TENNANT CO DEC 2.4 2.2 2.2 2.1 1.9 9.5 11.3 12.6 11.1 13.6 15.2 20.0 21.8 20.9 30.3TKR † TIMKEN CO DEC 2.0 3.3 2.7 3.3 3.7 6.9 16.9 19.0 20.0 22.9 21.6 30.2 33.1 28.7 31.7VMI † VALMONT INDUSTRIES INC DEC 3.7 3.5 3.1 3.2 2.8 22.7 24.7 27.8 31.8 16.1 40.6 46.6 56.2 62.7 34.9

WTS § WATTS WATER TECHNOLOGIES INC DEC 2.6 2.2 2.9 3.1 2.6 23.0 24.3 29.4 29.2 25.5 59.1 70.6 76.6 67.2 64.6WWD † WOODWARD INC SEP 2.3 3.2 2.9 2.7 2.7 26.5 26.1 28.8 32.3 39.8 82.7 61.6 75.8 93.1 121.3XYL [] XYLEM INC DEC 2.4 2.4 2.0 2.1 1.9 33.0 34.8 37.6 0.0 0.0 103.7 109.7 145.6 0.0 0.0



Price / Earnings Ratio (High-Low) Dividend Payout Ratio (%) Dividend Yield (High-Low, %)

Ticker Company Yr. End 2013 2012 2011 2010 2009 2013 2012 2011 2010 2009

INDUSTRIAL MACHINERY‡ATU § ACTUANT CORP -CL A AUG 20 - 14 25 - 18 17 - 10 27 - 15 49 - 17 2 3 2 4 10 0.1 - 0.1 0.2 - 0.1 0.2 - 0.1 0.3 - 0.1 0.6 - 0.2AIN § ALBANY INTL CORP -CL A DEC 68 - 42 NM- NM 33 - 20 22 - 12 NM- NM 107 NM 60 40 NM 2.6 - 1.6 3.7 - 2.1 3.0 - 1.8 3.2 - 1.8 9.9 - 2.1B § BARNES GROUP INC DEC 29 - 16 16 - 11 16 - 11 23 - 16 27 - 11 31 22 20 33 67 1.9 - 1.1 2.0 - 1.4 1.9 - 1.3 2.1 - 1.4 6.2 - 2.5BGG § BRIGGS & STRATTON JUN NM- NM 37 - 26 49 - 25 33 - 21 36 - 17 NM 76 90 60 120 2.6 - 1.9 2.9 - 2.1 3.6 - 1.8 2.8 - 1.8 6.9 - 3.3CIR § CIRCOR INTL INC DEC 31 - 15 24 - 16 23 - 12 60 - 33 87 - 50 6 8 7 20 43 0.4 - 0.2 0.5 - 0.4 0.6 - 0.3 0.6 - 0.3 0.9 - 0.5

CLC † CLARCOR INC NOV 27 - 20 22 - 17 21 - 16 23 - 16 24 - 16 24 20 18 21 26 1.2 - 0.9 1.2 - 0.9 1.1 - 0.8 1.3 - 0.9 1.6 - 1.1CR † CRANE CO DEC 18 - 12 15 - 10 NM- 74 16 - 11 14 - 5 31 32 218 33 35 2.5 - 1.7 3.1 - 2.1 2.9 - 1.9 3.0 - 2.1 6.4 - 2.5DCI † DONALDSON CO INC JUL 26 - 20 22 - 17 24 - 16 28 - 17 27 - 13 25 18 18 22 27 1.2 - 0.9 1.0 - 0.8 1.2 - 0.8 1.3 - 0.8 2.1 - 1.0DOV [] DOVER CORP DEC 17 - 12 15 - 11 15 - 10 16 - 11 22 - 11 26 29 26 28 51 2.2 - 1.5 2.6 - 2.0 2.7 - 1.7 2.6 - 1.8 4.7 - 2.4NPO § ENPRO INDUSTRIES INC DEC 47 - 31 22 - 16 23 - 13 14 - 8 NM- NM 0 0 0 0 NM 0.0 - 0.0 0.0 - 0.0 0.0 - 0.0 0.0 - 0.0 0.0 - 0.0

ESE § ESCO TECHNOLOGIES INC SEP 36 - 26 22 - 16 22 - 12 23 - 14 25 - 15 27 18 16 14 0 1.1 - 0.8 1.1 - 0.8 1.3 - 0.7 1.0 - 0.6 0.0 - 0.0FLS [] FLOWSERVE CORP DEC 23 - 15 17 - 11 18 - 9 17 - 12 14 - 6 16 17 17 17 14 1.1 - 0.7 1.5 - 1.0 1.9 - 0.9 1.4 - 1.0 2.5 - 1.0GGG † GRACO INC DEC 23 - 15 23 - 16 23 - 14 24 - 15 39 - 17 29 36 36 47 93 1.9 - 1.3 2.3 - 1.6 2.6 - 1.5 3.1 - 2.0 5.4 - 2.4HI § HILLENBRAND INC SEP 30 - 22 14 - 10 14 - 10 18 - 12 13 - 9 77 46 44 50 45 3.4 - 2.6 4.6 - 3.2 4.7 - 3.1 4.2 - 2.9 5.1 - 3.5HSC † HARSCO CORP DEC NM- NM NM- NM NM- NM NM- NM 23 - 10 NM NM NM 586 48 3.9 - 2.8 4.5 - 3.3 4.6 - 2.2 4.1 - 2.3 4.7 - 2.1

IEX † IDEX CORP DEC 24 - 15 NM- 76 20 - 13 21 - 14 23 - 12 29 171 28 30 34 1.9 - 1.2 2.3 - 1.6 2.3 - 1.4 2.1 - 1.4 2.9 - 1.5ITW [] ILLINOIS TOOL WORKS DEC 23 - 16 12 - 9 14 - 10 18 - 13 26 - 13 44 28 34 43 64 2.7 - 1.9 3.1 - 2.3 3.6 - 2.4 3.2 - 2.4 4.8 - 2.4IR [] INGERSOLL-RAND PLC DEC 34 - 23 15 - 9 43 - 21 20 - 13 26 - 8 40 19 35 12 34 1.7 - 1.2 2.0 - 1.3 1.7 - 0.8 0.9 - 0.6 4.4 - 1.3ITT † ITT CORP DEC 8 - 4 22 - 14 NM- NM 16 - 12 16 - 9 7 31 NM 28 24 1.7 - 0.9 2.2 - 1.4 9.5 - 1.2 2.4 - 1.7 2.7 - 1.5JBT § JOHN BEAN TECHNOLOGIES DEC 26 - 15 14 - 10 20 - 12 16 - 11 16 - 7 29 22 26 21 24 1.9 - 1.1 2.2 - 1.5 2.1 - 1.3 2.0 - 1.3 3.5 - 1.5

KMT † KENNAMETAL INC JUN 20 - 14 12 - 8 16 - 10 67 - 40 NM- NM 25 14 17 81 NM 1.8 - 1.2 1.8 - 1.1 1.6 - 1.1 2.0 - 1.2 3.6 - 1.7LECO † LINCOLN ELECTRIC HLDGS INC DEC 21 - 14 16 - 12 15 - 10 22 - 15 49 - 23 23 23 24 37 95 1.7 - 1.1 1.9 - 1.4 2.4 - 1.6 2.5 - 1.7 4.1 - 1.9LDL § LYDALL INC DEC 17 - 11 15 - 9 23 - 13 58 - 33 NM- NM 0 0 0 0 NM 0.0 - 0.0 0.0 - 0.0 0.0 - 0.0 0.0 - 0.0 0.0 - 0.0MLI § MUELLER INDUSTRIES DEC 10 - 8 22 - 16 21 - 14 15 - 10 NM- NM 8 18 18 17 308 1.0 - 0.8 1.1 - 0.8 1.3 - 0.8 1.8 - 1.2 2.5 - 1.4NDSN † NORDSON CORP OCT 22 - 18 19 - 12 18 - 11 19 - 11 NM- NM 18 15 13 16 NM 1.0 - 0.8 1.3 - 0.8 1.2 - 0.7 1.5 - 0.8 3.6 - 1.1

PLL [] PALL CORP JUL 29 - 21 27 - 21 22 - 15 25 - 16 23 - 11 41 32 25 30 25 2.0 - 1.4 1.5 - 1.2 1.7 - 1.1 1.9 - 1.2 2.3 - 1.1PH [] PARKER-HANNIFIN CORP JUN 20 - 13 12 - 9 15 - 9 25 - 16 19 - 9 27 20 19 29 32 2.0 - 1.3 2.2 - 1.7 2.1 - 1.3 1.9 - 1.2 3.6 - 1.7PNR [] PENTAIR PLC DEC 29 - 18 NM- NM NM- 85 19 - 15 29 - 14 36 NM 229 38 61 1.9 - 1.2 2.6 - 1.8 2.7 - 1.9 2.6 - 1.9 4.2 - 2.1SNA [] SNAP-ON INC DEC 18 - 13 15 - 10 14 - 9 18 - 12 19 - 9 26 27 27 38 52 2.1 - 1.4 2.8 - 1.7 3.1 - 2.0 3.1 - 2.1 5.9 - 2.7SPW † SPX CORP DEC 23 - 15 NM- NM 29 - 14 19 - 13 69 - 40 23 NM 34 26 106 1.5 - 1.0 1.8 - 1.3 2.5 - 1.1 2.0 - 1.4 2.7 - 1.5

SXI § STANDEX INTERNATIONAL CORP JUN 18 - 14 14 - 9 14 - 9 14 - 9 NM- NM 9 7 8 9 NM 0.6 - 0.5 0.8 - 0.5 0.9 - 0.6 1.0 - 0.6 8.7 - 3.1SWK [] STANLEY BLACK & DECKER INC DEC 28 - 22 30 - 21 19 - 11 51 - 36 19 - 8 59 65 39 100 46 2.7 - 2.1 3.1 - 2.2 3.5 - 2.1 2.7 - 2.0 5.7 - 2.4TNC § TENNANT CO DEC 31 - 20 22 - 16 26 - 18 22 - 12 NM- NM 33 31 39 32 NM 1.6 - 1.0 2.0 - 1.4 2.1 - 1.5 2.7 - 1.5 7.0 - 1.6TKR † TIMKEN CO DEC 23 - 17 11 - 6 12 - 6 18 - 8 NM- NM 33 18 17 19 NM 1.9 - 1.4 2.8 - 1.6 2.6 - 1.3 2.4 - 1.1 4.6 - 1.7VMI † VALMONT INDUSTRIES INC DEC 16 - 12 16 - 10 13 - 8 25 - 18 15 - 6 9 10 8 18 10 0.8 - 0.6 0.9 - 0.6 1.0 - 0.6 1.0 - 0.7 1.5 - 0.6

WTS § WATTS WATER TECHNOLOGIES INC DEC 36 - 25 22 - 16 24 - 14 22 - 16 30 - 14 29 22 25 26 40 1.2 - 0.8 1.4 - 1.0 1.8 - 1.1 1.6 - 1.2 2.8 - 1.3WWD † WOODWARD INC SEP 22 - 16 22 - 15 22 - 13 24 - 15 19 - 6 15 15 14 15 17 1.0 - 0.7 1.0 - 0.7 1.1 - 0.6 1.0 - 0.6 3.0 - 0.9XYL [] XYLEM INC DEC 28 - 19 18 - 14 19 - 15 NA - NA NA - NA 38 25 7 NA NA 2.0 - 1.3 1.8 - 1.4 0.4 - 0.4 NA - NA NA - NA


20092013 2012 2011 2010


Earnings per Share ($) Tangible Book Value per Share ($) Share Price (High-Low, $)


INDUSTRIAL MACHINERY‡ATU § ACTUANT CORP -CL A AUG 2.02 1.25 1.82 1.04 0.41 (0.43) (3.57) (6.54) (4.44) (4.64) 39.84 - 27.99 31.33 - 22.53 30.41 - 17.47 28.25 - 15.93 20.18 - 7.02AIN § ALBANY INTL CORP -CL A DEC 0.55 (1.30) 0.85 1.21 (0.73) 14.63 13.25 10.84 9.82 9.70 37.43 - 23.13 26.22 - 14.74 28.08 - 17.02 26.09 - 15.00 23.33 - 4.86B § BARNES GROUP INC DEC 1.34 1.80 1.66 0.96 0.72 (0.79) (3.02) 1.55 0.69 0.14 38.56 - 21.84 28.63 - 19.71 25.85 - 17.47 22.40 - 14.95 19.11 - 7.69BGG § BRIGGS & STRATTON JUN (0.73) 0.58 0.49 0.73 0.64 9.02 7.06 8.83 6.14 7.00 25.52 - 18.21 21.46 - 15.12 24.18 - 12.36 24.26 - 15.68 23.34 - 11.13CIR § CIRCOR INTL INC DEC 2.68 1.77 2.12 0.74 0.35 20.75 16.95 14.35 13.52 14.55 83.37 - 39.01 42.79 - 27.85 47.98 - 26.15 44.46 - 24.70 30.46 - 17.43

CLC † CLARCOR INC NOV 2.36 2.45 2.46 1.90 1.41 13.91 11.34 9.98 8.69 7.19 64.51 - 46.91 54.22 - 42.75 51.31 - 39.13 44.55 - 30.41 34.50 - 23.05CR † CRANE CO DEC 3.79 3.40 0.45 2.63 2.29 (7.80) (0.37) (2.66) 0.21 0.09 67.45 - 46.68 51.48 - 34.89 52.38 - 33.23 41.49 - 28.69 32.40 - 12.46DCI † DONALDSON CO INC JUL 1.67 1.76 1.46 1.07 0.85 6.01 4.75 4.70 3.42 2.94 43.74 - 33.58 38.89 - 30.51 35.36 - 23.18 29.80 - 18.62 22.59 - 10.91DOV [] DOVER CORP DEC 5.64 4.59 4.55 3.79 2.00 (2.81) (4.70) (0.35) 1.35 (1.16) 97.00 - 65.40 67.20 - 50.27 70.15 - 43.64 59.20 - 40.50 43.10 - 21.79NPO § ENPRO INDUSTRIES INC DEC 1.31 1.99 2.15 3.01 (7.19) 8.46 5.03 4.72 12.20 3.47 61.24 - 41.03 44.50 - 32.32 49.94 - 27.22 42.00 - 23.59 27.11 - 13.36

ESE § ESCO TECHNOLOGIES INC SEP 1.18 1.76 1.97 1.70 1.88 5.24 1.45 0.26 (1.11) (1.32) 42.42 - 30.25 39.50 - 28.48 43.15 - 23.75 39.09 - 24.55 46.87 - 29.04FLS [] FLOWSERVE CORP DEC 3.43 2.86 2.57 2.32 2.55 4.39 4.75 6.56 5.71 4.89 78.89 - 49.99 49.03 - 32.80 45.24 - 22.28 39.94 - 27.12 36.28 - 14.41GGG † GRACO INC DEC 3.44 2.47 2.36 1.71 0.82 4.80 1.94 3.50 2.38 1.30 79.66 - 52.45 56.66 - 39.79 54.41 - 32.01 40.56 - 25.82 32.09 - 14.17HI § HILLENBRAND INC SEP 1.01 1.68 1.71 1.49 1.66 (9.16) (1.78) (3.04) (0.82) 4.65 29.95 - 22.66 24.18 - 16.75 24.20 - 16.33 26.21 - 17.80 21.12 - 14.64HSC † HARSCO CORP DEC (2.80) (3.15) (0.12) 0.14 1.67 0.98 3.78 4.99 7.70 7.76 28.99 - 20.98 24.48 - 18.40 36.78 - 17.77 35.31 - 19.89 37.65 - 16.90

IEX † IDEX CORP DEC 3.11 0.45 2.34 1.93 1.41 (1.08) (2.39) (3.61) (1.37) (2.39) 74.08 - 47.43 46.69 - 34.06 47.50 - 29.29 40.29 - 27.54 32.85 - 16.67ITW [] ILLINOIS TOOL WORKS DEC 3.65 5.31 4.10 3.05 1.94 6.55 6.09 5.35 5.62 4.43 84.32 - 59.71 63.33 - 47.42 59.27 - 39.12 53.89 - 40.33 51.16 - 25.60IR [] INGERSOLL-RAND PLC DEC 2.11 3.37 1.23 2.34 1.45 (8.47) (10.80) (11.84) (10.57) (14.18) 71.75 - 48.06 50.03 - 31.24 52.33 - 25.86 47.50 - 30.12 37.60 - 11.46ITT † ITT CORP DEC 5.36 1.18 (6.23) 7.10 7.12 4.61 (0.92) 0.89 (7.13) (6.23) 43.66 - 23.83 25.59 - 16.88 128.00 - 16.67 115.98 - 84.10 113.90 - 63.88JBT § JOHN BEAN TECHNOLOGIES DEC 1.16 1.27 1.07 1.34 1.19 3.35 1.58 0.98 1.39 0.23 30.00 - 17.78 18.20 - 12.76 21.00 - 13.16 21.19 - 14.34 19.25 - 8.05

KMT † KENNAMETAL INC JUN 2.56 3.83 2.80 0.59 (1.40) 10.76 8.50 12.01 8.19 7.78 52.37 - 35.49 47.82 - 30.65 45.66 - 29.30 39.81 - 23.45 28.29 - 13.16LECO † LINCOLN ELECTRIC HLDGS INC DEC 3.58 3.10 2.60 1.54 0.57 14.87 12.98 12.15 11.95 11.15 74.57 - 49.06 50.36 - 37.63 40.10 - 26.84 33.59 - 23.05 28.35 - 13.16LDL § LYDALL INC DEC 1.16 1.01 0.54 0.16 (0.85) 10.58 8.98 8.06 7.65 7.63 19.27 - 13.29 14.65 - 8.79 12.50 - 7.28 9.36 - 5.21 6.54 - 1.93MLI § MUELLER INDUSTRIES DEC 3.10 1.16 1.14 1.14 0.06 10.76 7.16 9.85 9.07 8.11 31.68 - 24.05 25.70 - 19.08 23.86 - 15.54 16.93 - 10.94 13.88 - 8.01NDSN † NORDSON CORP OCT 3.45 3.49 3.29 2.48 (2.38) (4.99) (5.77) (1.48) 1.69 (0.21) 75.88 - 60.76 64.74 - 40.82 59.42 - 36.12 47.31 - 26.74 32.42 - 10.15

PLL [] PALL CORP JUL 2.93 2.42 2.71 2.05 1.65 11.94 8.93 9.89 7.19 6.57 85.58 - 61.29 65.82 - 49.97 59.50 - 39.81 51.01 - 31.84 37.25 - 18.20PH [] PARKER-HANNIFIN CORP JUN 6.36 7.62 6.51 3.44 3.15 8.20 5.85 7.72 2.68 0.64 129.77 - 84.50 91.47 - 70.42 99.40 - 59.26 87.36 - 53.50 59.36 - 27.69PNR [] PENTAIR PLC DEC 2.67 (0.84) 0.35 2.02 1.19 (4.13) (2.12) (9.46) (4.33) (5.71) 77.97 - 49.39 49.50 - 33.88 42.43 - 29.73 39.32 - 29.41 34.27 - 17.23SNA [] SNAP-ON INC DEC 6.02 5.26 4.75 3.22 2.33 18.65 13.86 9.39 6.83 4.67 109.74 - 76.60 80.45 - 50.18 64.36 - 41.74 57.77 - 39.23 43.88 - 20.51SPW † SPX CORP DEC 4.39 (1.62) 2.97 3.91 0.94 (6.27) (5.54) (10.16) (5.10) (8.86) 100.24 - 67.19 79.42 - 56.31 87.13 - 40.66 72.35 - 50.79 65.23 - 37.63

SXI § STANDEX INTERNATIONAL CORP JUN 3.61 3.75 2.90 2.25 (0.15) 12.21 9.78 8.49 5.74 4.37 64.90 - 49.18 52.14 - 34.88 40.43 - 25.11 32.54 - 19.49 21.96 - 7.85SWK [] STANLEY BLACK & DECKER INC DEC 3.34 2.75 4.16 1.34 2.84 (24.66) (20.56) (17.94) (10.80) (7.56) 92.76 - 73.77 81.90 - 58.59 78.19 - 47.07 67.70 - 48.76 53.42 - 22.61TNC § TENNANT CO DEC 2.20 2.24 1.74 1.85 (1.42) 12.22 10.50 9.39 8.95 7.19 69.18 - 43.75 49.19 - 34.79 44.88 - 32.01 39.93 - 21.61 33.37 - 7.61TKR † TIMKEN CO DEC 2.76 5.11 4.65 2.76 (0.64) 22.11 17.40 14.94 16.07 12.64 64.35 - 47.67 57.94 - 32.59 57.83 - 30.17 49.35 - 22.03 26.12 - 9.88VMI † VALMONT INDUSTRIES INC DEC 10.45 8.84 8.67 3.62 5.80 37.33 31.75 25.08 15.75 19.45 164.93 - 129.00 141.18 - 90.21 116.02 - 73.00 90.31 - 65.30 89.30 - 37.49

WTS § WATTS WATER TECHNOLOGIES INC DEC 1.72 1.96 1.73 1.69 1.11 10.05 8.07 7.54 8.66 8.26 62.66 - 42.63 43.39 - 30.88 40.75 - 24.31 37.41 - 27.51 32.96 - 15.85WWD † WOODWARD INC SEP 2.13 2.06 1.92 1.62 1.39 4.50 4.57 2.74 1.06 (0.90) 46.23 - 33.49 46.00 - 30.16 42.34 - 24.39 39.52 - 24.44 26.82 - 8.00XYL [] XYLEM INC DEC 1.23 1.60 1.52 1.80 1.44 0.19 (0.31) (1.56) NA NA 34.93 - 23.61 28.87 - 22.43 28.28 - 22.67 NA - NA NA - NA

Note: Data as originally reported. ‡S&P 1500 index group. []Company included in the S&P 500. †Company included in the S&P MidCap 400. §Company included in the S&P SmallCap 600. #Of the follow ing calendar year. J-This amount includes intangibles that cannot be identif ied.

The analysis and opinion set forth in this publication are provided by S&P Capital IQ Equity Research and are prepared separately from any other analytic activity of Standard & Poor’s.

In this regard, S&P Capital IQ Equity Research has no access to nonpublic information received by other units of Standard & Poor’s.

The accuracy and completeness of information obtained from third-party sources, and the opinions based on such information, are not guaranteed.


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