Tool and maintenance repair company Snap-on (NYSE: SNA) came out with its FY 2014 earnings announcement on Feb. 5. The company did OK for the year on a fundamental basis, and it beat the Wall Street expectations game on the revenue and EPS fronts. Let’s take a look to see what’s going on with Snap-on.
Revenue and net income expanded
In 2014, Snap-on’s revenue and net income increased 8% and 20% respectively. According to the earnings announcement it saw a 7% increase in organic sales giving indication that increased demand drove part of the overall revenue growth. Moreover, the company saw robust growth in all of its product categories. Business-oriented long-term investors always want to see increased demand for their products. However, the company did spend $41 million in cash on acquisitions in 2014.
Snap-on’s namesake tools segment contributed the most profitability expansion. Also, Snap-on had a good handle on expenses during the year causing revenue to outpace expenses and serving as a catalyst for net income expansion. Snap-on operating margins came in at 19.6% in 2014 vs. 18.1% in 2013. Its net profit margin came in at 12.1% in 2014 vs. 10.8% in 2013.
Free cash flow decreased
While Snap-on saw robust gains in revenue and net income, it was a different story for its cash flow. In 2014, Snap-On saw a 1.3% year-over-year gain in operating cash flow. However, it increased capital expenditures 14% year over year causing its free cash flow to decrease 4%. A small increase in capital expenditures is OK as long as Snap-on utilizes the money to improve its prospects for future free cash flow gains.
Balance sheet is OK
Snap-on possesses an OK balance sheet. The company ended 2014 with $133 million in cash which equates to 6% of stockholder’s equity. My personal preference is for companies to harbor cash equal to 20% or more of stockholder’s equity to get them through tough times. Snap-on’s long-term debt came in at 39% of stockholder’s equity which lies below my personal threshold of 50%. Long-term debt creates profit-choking interest cost. In 2014, Snap-on’s operating income exceeded interest expense by 13 times. The rule of thumb for safety is five times or more.
Dividend is sustainable
Snap-on does pay a dividend. I always compare how much a company pays in dividends relative to the truer measure of profit—free cash flow. I always consider a dividend sustainable when a company pays out less than 50% of its free cash flow retaining the rest for reinvestment back into the business. Last year Snap-on paid out a reasonable 34% of its free cash flow in dividends. Currently, the company pays its shareholders $2.12 per share per year translating into a yield of 1.5%.
Looking ahead
Snap-on’s management expects to expand its professional market footprint. They definitely don’t want to rest on their laurels. The company trades at a P/E ratio of 21 vs. 18 for the S&P 500 and 16 for its five-year average, according to Morningstar, which doesn’t make it exorbitantly overvalued. The company definitely deserves a second look.
