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In October 2020 I concluded that EnPro Industries, Inc. (NYSE:NPO) was continuing its transformation. The company had well-timed a divestment ahead of the pandemic, only to announce an acquisition after the summer, in an effort to further transform the business. These steps made sense and were needed as the business has been struggling to grow for many years at the time.
Some Background – Back To 2020
EnPro provides highly-engineered solutions for mission-critical applications in a range of fields which includes chemicals, automotive, aerospace, laboratory solutions and chip manufacturing. Ahead of the pandemic, the company generated $1.2 billion in sales in 2019, three-quarters of which were generated from sealing products, with the remainder of sales derived from engineered products.
The company derived two-thirds of sales within the U.S., with sales split equally between OEM sales and aftermarket supplies. The sealing business generated $900 million in sales and solid margins of 18% (EBITDA level). This includes oil seals, performance seals suspension components and others. The engineered solutions business is a bit smaller with $300 million in sales and 16% EBITDA margins, with the company trying to steer away from the energy sector towards aerospace, semiconductor and other growth areas.
Ahead of the pandemic, EnPro posted a 5% fall in sales to $1.21 billion and $169 million in EBITDA, albeit that adjusted earnings only came in at $56 million, or $2.68 per share. GAAP earnings only came in at $0.38 per share, amidst a myriad of “one-time” costs.
With net debt of half a billion resulting in a 3 times leverage ratio, earnings power coming at $2.68 per share on an adjusted basis and shares trading around the $60 mark, this looked like a high valuation despite a lackluster share price performance. That was too simplistic as the company sold Fairbanks Morse in a $450 million deal (at 10.5 times EBITDA) early in 2020 (as the results were not included in the 2019 results).
With net debt largely eliminated (as a modest net debt remained following some tax leakage following the Fairbanks sale), the company announced a $255 million deal to acquire Alluxa in September 2020. The deal involved the acquisition of an industrial business which focused on specialized optical filters and thin film coatings. That purchase made strategic sense, yet few financial details have been announced.
Amidst all the uncertainties and moving factors, I was leaning cautious, looking forward to seeing how things would evolve from there.
Too Cautious – Transformation Continues
Fast forwarding to today, nearly two years forward in time, we have seen shares rise some 50% from the $60 mark to $88 right now, as shares actually peaked at levels nearly $120 at the start of 2022.
In February 2021, the company posted its 2020 results with revenues down 11% to $1.07 billion on the back of the pandemic, as margins were strong with adjusted earnings pegged at $4.07 per share, all while net debt fell to a quarter of a billion amidst M&A executed on the sell and buy side in 2020. The 2021 guidance, which called for sales at a midpoint of $1.06 billion, EBITDA around $183 million and earnings around $4.50 per share, looked quite decent.
In September, EnPro sold its polymer components business. While no details on the sale itself have been announced, it was reported that sales from the unit totaled $20 million in the first half of the year. In October, EnPro announced the sale of its Compressor Products International business in a $195 million deal, valued at 10.4 times EBITDA. Proceeds were used in November of last year, as EnPro announced a huge $850 million deal to acquire NxEdge, an advanced manufacturer, cleaning, coating and refurbishment business focused on the semiconductor industry. These really marked major strives in the transition of the business.
The deal is huge given the size of EnPro at the time, set to add $190 million in revenues and $70 million in EBITDA, indicating how extremely high its margins are. The company guided for $1.70 per share accretion on top of the midpoint of the earnings guidance issued at $5.45 per share at the time already, for a >$7 per share run rate.
In February of this year, the company announced its 2021 results with revenues up 6% to $1.14 billion, as many deals still had to play out of course. The company reported adjusted EBITDA of $208 million, on which adjusted earnings of $5.55 per share were projected. The guidance for 2022 was very comforting with sales growth seen in the low double digits, EBITDA seen at a midpoint of $269 million and earnings seen around $7 per share, all pretty much in line with the situation painted at the time of the NxEdge purchase. With net debt posted at $788 million, such strong anticipated achievements are necessary as the company trades at 2.9 times leverage based on the estimated EBITDA.
Following two solid first quarters in 2022, the company hiked the guidance, now seeing EBITDA at $275 million, as net debt fell to $769 million, with leverage now seen at 2.8 times. The transition makes that by now sealing is responsible for just below half of sales as the company has hugely grown a new advanced surface technologies segment in the meantime, creating a much more balanced portfolio.
And Now?
With 20.8 million shares trading around the $90 mark, EnPro now commands a $1.87 billion equity valuation, for a $2.6 billion enterprise valuation which comes in just above 2 times sales and at less than 10 times EBITDA. The transition continued in September with EnPro announcing the sale of the remaining engineering activities to the Timken Company in a $305 million deal, to thereby create a pure play on advanced surface and sealing technologies.
With after-tax proceeds pegged at $290 million, net debt will fall comfortably below the half a billion mark. The deal involves the sale of just over $300 million in revenues and $43 million in segment EBITDA based on the 2021 results, as these multiples do not look that demanding.
With pro forma EBITDA set to fall to $230 million, leverage comes at just over 2 times sales and some modest dilution will be seen, yet the positioning of business is better towards the future. This could likely result in earnings power around $6 per share, translating into a 15 times multiple at $90 per share while leverage is under control and the transformation continues.
This makes me a bit more upbeat than I was in 2020, as the transformation has been quite successful, which are reasons to be upbeat. Having warmed up to the stock, I recognize the relative outperformance of the stock vs. the market here. This makes that I believe that credits are due where they are deserved, making me upbeat yet cautious to buy a dip in the low $80s.
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