'Cheap' Isn't Enough For Eaton, Warns Bernstein

• Eaton Corp plc ETN shares have gained 11 percent in the last one month, after having declined since mid-May.
• Bernstein’s Steven E. Winoker downgraded the rating on the company from Outperform to Market-Perform, while reducing the price target from $65 to $59.
• Although the company’s shares have declined over the past year, disappointing growth outlook, reduced Cooper synergies, and lack of near-term catalysts call for the downgrade, Winoker mentioned.

Analyst Steven Winoker said, “At ~12.5x NTM consensus EPS, Eaton trades at easily the lowest P/E multiple in our coverage.” He added, however, that the company has been struggling more than expected with generating organic growth.

Eaton has reduced its 2016 guidance for synergies from the acquisition of Cooper Industries CBE. Winoker commented that this was “a major blow to our confidence in management and (combined with other factors such as tax risk and limited buybacks) the stock's ability to outperform.”

The company has reduced its 2015 guidance again, from $4.40-$4.60 to $4.20-$4.30, representing another 6 percent reduction at the midpoint. The downward revision has reduced from lower organic growth and the impact of restructuring actions. Segment margins have been trimmed another 40bp at the midpoint to 15.0-15.4 percent.

Eaton has witnessed “multiple potential catalysts come and go without helping the stock,” Winoker stated. The shares have recently appreciated, after the company’s preannouncement and guide down, which is indicative of low expectations, which will limit downside. However, this may not support an outperformance.

There is potential for further negative revisions, with incremental pressures on the company’s revenue. Winoker added that even in view of activist pressure, selling Eaton’s shares now “would mean exiting into an unfavorable part of the cycle and in any case tax leakage is likely to drive that to late 2017.”