Rockwell Automation Stock Can Sink 15%

Rockwell Automation stock (NYSE: ROK) is up 24% since the beginning of this year, and at the current price near $250 per share, we believe that Rockwell stock has around 15% potential downside.

Why is that? Our belief stems from the fact that Rockwell stock is up a strong 67% since late 2018. Further, after posting mixed Q4 2020 numbers, and with industrial demand not back to pre-Covid levels, we believe Rockwell stock could head lower. Our dashboard What Factors Drove 67% Change In Rockwell Automation Stock Between 2018 And Now? provides the key numbers behind our thinking, and we explain more below.

Rockwell Automation is an industrial automation and information technology company, with software brands such as Allen-Bradley and FactoryTalk software. Rockwell saw a 5% drop in revenue between 2018 and 2020, but an 8% drop in the outstanding share count meant that revenue per share, in fact, rose by 3%.

However, Rockwell’s P/S (price-to-sales) ratio jumped from 2.8x in 2018 to 3.6x in 2019, and has further increased to 4.6x currently, riding the ongoing rally in technology stocks. But, given Rockwell’s mixed Q4 ’20 performance, there is a possible downside risk for the P/S multiple.

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So what’s the likely trigger and timing to this downside?

The global spread of Coronavirus and the resulting lockdowns have affected industrial and manufacturing activities, hampering demand for Rockwell’s industrial automation products. This is evident from Rockwell’s full-year 2020 results, where revenue came in at $6.3 billion, down from $6.7 billion in FY 2019. However, income before taxes rose from $901 million to $1.14 billion. A closer look reveals that this was largely due to a $520 million change in fair value of investments compared to 2019. In addition, a lower effective tax rate (10% in 2020 vs 22.8% in 2019) meant that net income rose to $1.02 billion from $696 million in 2019, driving EPS up from $5.88 to $8.83.

With Rockwell’s rising operating expenses and the slow revival of industrial demand, we expect revenues to stay weak in the near to medium term, and if the company is not able to control operating expenses, we believe the stock will see its P/S multiple decline from the current level of 4.6x to around 4x, which combined with a reduction in revenues and margins could result in the stock price shrinking to as low as $215, a downside of almost 15% from the current price near $250.

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