Watts Water (WTS) Up 10.5% Since Last Earnings Report: Can It Continue?

It has been about a month since the last earnings report for Watts Water (WTS). Shares have added about 10.5% in that time frame, outperforming the S&P 500.

Will the recent positive trend continue leading up to its next earnings release, or is Watts Water due for a pullback? Before we dive into how investors and analysts have reacted as of late, let's take a quick look at its most recent earnings report in order to get a better handle on the important catalysts.

Watts Water Beats on Q1 Earnings Despite Lower Revenues

Watts Water reported relatively healthy first-quarter 2020 results, wherein the top and bottom lines surpassed the Zacks Consensus Estimate. However, it reported lower revenues year over year due to muted demand owing to the adverse impact of the coronavirus pandemic.

Net Income

On a reported basis, quarterly net income was $32 million or 94 cents per share compared with $31 million or 91 cents in the year-ago quarter. Better operating performances in all regions and lower operating costs despite top-line contraction drove the year-over-year growth.

First-quarter adjusted net income was $32.3 million or 95 cents per share compared with $32 million or 94 cents in the year-earlier quarter. The bottom line surpassed the Zacks Consensus Estimate by 9 cents.

Revenues

On a reported basis, quarterly net sales decreased 1.6% year over year to $382.6 million, driven by lower demand due to the virus outbreak. The top line, however, surpassed the Zacks Consensus Estimate of $371 million. Organic sales declined 1% year over year.

Quarterly Segment Results

Americas: Net sales increased 1.3% year over year to $262.4 million. Organic sales remained relatively flat as growth in drains, water quality, heating and hot water products was offset by lower sales of fluid solution products. Adjusted operating income grew 1.6% to $43.8 million owing to benefits from price and productivity savings. However, these were offset by lower volumes, higher investments and inflation.

Europe: Net sales decreased 5.2% to $110.2 million, affected by foreign exchange movements. Organic sales were down 2% in Europe as strength in the company’s drains platform was more than offset by lower fluid solution product sales. The segment’s adjusted operating income was $13.7 million compared with $14.6 million in the year-ago quarter. This was mostly led by lower volumes, higher investments and inflation.

Asia-Pacific, Middle East and Africa (APMEA): Net sales decreased 25.5% to $10 million. It witnessed a contraction with lower organic sales across all regions, except for Korea and New Zealand. Adjusted operating loss came in at $0.1 million against adjusted operating income of $1.3 million in the prior-year quarter. This was mostly driven by lower volumes triggered by the virus outbreak, higher investments and inflation.
 
Other Details  

Cost of goods sold in the first quarter decreased 2.1% year over year to $219.8 million, while gross profit was down to $162.8 million from $164.2 million in the prior-year quarter. Operating income was $47.8 million, up 2.4%. GAAP operating margin was up 50 basis points (bps) to 12.5%, while adjusted operating margin was 12.6%, up 20 bps.
 
Cash Flow & Liquidity

Watts Water utilized $0.9 million of net cash for operating activities in first-quarter 2020 compared with net cash utilization of $24.2 million in the year-ago quarter. The improvement was primarily attributable to better working capital management and incremental profit. As of Mar 31, the company had $245.4 million in cash and equivalents and $296.9 million of long-term debt (net of current portion).
 
Subsequent to the end of the quarter, Watts Water enhanced its financial flexibility by extending the existing credit facility. It has a low net debt leverage ratio of 0.5x. The company repurchased about 175,000 shares for $14.7 million during the quarter. The company has temporarily suspended the stock buyback program to preserve cash.

Guidance Withdrawn

The company expects near-term volatility to continue due to the coronavirus-led pandemonium despite the underlying strength of the resilient business model and the diligent execution of operational plans. With uncertainty over the impact of coronavirus on long-term revenues and visibility, management decided to withdraw guidance for 2020. Watts Water is undertaking various cost management initiatives to tide over the storm. These include cost actions through headcount reductions, furloughs and reduced discretionary spending, along with cash preservation efforts through suspension of share repurchase program and reduced planned capital spending.

How Have Estimates Been Moving Since Then?

It turns out, estimates review have trended downward during the past month. The consensus estimate has shifted -58.18% due to these changes.

VGM Scores

At this time, Watts Water has an average Growth Score of C, however its Momentum Score is doing a bit better with a B. However, the stock was allocated a grade of D on the value side, putting it in the bottom 40% for this investment strategy.

Overall, the stock has an aggregate VGM Score of D. If you aren't focused on one strategy, this score is the one you should be interested in.

Outlook

Estimates have been broadly trending downward for the stock, and the magnitude of these revisions indicates a downward shift. It's no surprise Watts Water has a Zacks Rank #4 (Sell). We expect a below average return from the stock in the next few months.

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