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Jonathan J. Smith

Avinash Gandhi

SWK AT A GLANCE

P/E ► 16.2 VERY LOW EV/EBITDA ► 9.48 AVG ROA ► 7.1% HIGH ROE ► 15.3% HIGH Debt to Equity ► 1.65 AVG Current Ratio ► 1.23 LOW Interest Coverage Ratio ► 4.54 AVG

 

 

 

 

 

 

Stanley Works (NYSE:SWK) makes tools and storage products - construction tools, industrial tools, even the kind of tools you get at Home Depot and give your dad on Father's Day - as well as hardware and commercial security systems. Although the company is based in New Britain, CT, it has operations and sells its products and services all around the globe. In 2008, 44% of Stanley's revenues were derived from markets outside the United States, In addition to expanding its global footprint, the company has focused in recent years on building three growth platforms, including (1) industrial and automotive repair tools, (2) mechanical security solutions and (3) electronic security solutions. The intent of this strategic shift has been to reduce the company's dependence on the U.S. Construction and Do-It-Yourself markets and increase its underlying organic revenue and operating margin growth potential.

The housing slump that started in 2007 reduced demand for home-building and remodeling materials, cutting into Stanley Works' growth. However, by then the company was well along in the remodeling of its business, expanding its Industrial segment by acquiring French industrial tool-maker Facom in 2005, and its Security segment by acquiring the second-largest commercial monitoring company in North America, HSM in 2006.

Stanley Works is also faced with margin headwinds from the rising cost of steel, aluminum, and other commodities, though it has managed to recovered two-thirds of increased costs from pricing increases. From 2006 to 2007, the company saw a 9% increase in total costs, but its restructuring plan has led to a 12% increase in sales and a 16% increase in gross profit.^[1] SWK competes with Black & Decker (BDK), Snap-On (SNA), and Danaher (DHR) in the small tools & accessories industry.

Business Financials

• Construction and Do-It-Yourself (DIY) (40% of sales, 39% of gross profit)-- Stanley Works manufactures tools in this segment. Products include electronic, masonry, and carpenter’s hand tools, residential entry door hardware, consumer residential hardware, and consumer mechanics tools.^[2] The Construction and Do-It-Yourself segment had sales of $1.795 billion in 2007 with gross profit of $270 million. Construction and DIY gross profits have decreased 19% in the past three years due to the housing market crash.

• Industrial (28% of sales, 26% of gross profit)-- Stanley Works manufactures industrial tools in this segment. Products include Industrial hand tools and tool boxes, professional and industrial mechanics tools, and other industrial tools.^[3] The Industrial segment had sales of $1.256 billion in 2007 with gross profit of $184 million. Industrial sales increased 10% in 2007, and 64% in 2006 due to the acquisition of Facom.

• Security (32% of sales, 35% of gross profit)-- Stanley Works manufactures security systems. Security Solutions manufactured the first automatic door. Products include keys, keypads, locks, and electronic systems.^[4] Applications of security products range from residential to industrial security systems. The acquisition of HSM expanded the company's security segment and contributed $220 million to total sales. The Security segment had sales of $1.433 billion in 2007 with gross profit of $242 million. Security had sales growth of 24% in 2007. SWK believes security will contribute 50% of company sales by 2010.

In 2007, Stanley Works led the machine tools & accessories industry in market cap ($3.8 billion), return on equity (20.53%), and low P/E ratio (11.93).^[5] The United States is Stanley’s largest market (70% of sales). Europe is its second-largest market, representing roughly 17% of the company’s sales. SWK does sell to big box retailers, including Home Depot (HD) and Lowe's, but no retailer contributes to more than 10% of total sales. From 2004 to 2006, SWK sales have grown 34% but gross profit only increased 23% due to increasing commodities prices and less demand for Construction and DIY tools. From 2006 to 2007, gross profit growth (16%) was greater than sales growth (12%) due to acquisitions and cost-cutting.

Trends and Forces

Stanley Works expands Industrial and Security segments in response to U.S. Housing Market crash.

In 2002, 21% of Stanley's total sales came from products sold at Home Depot (HD) alone. In 2007, 8% of Stanley's total sales come from Home Depot (HD).^[6] Stanley Works has historically made construction and do-it-yourself tools sold at Home Depot (HD) and used for home remodeling. With the U.S. Housing Market crashing, Stanley has expanded its Industrial and Security segments, so that it is less dependent on the housing market, by making the following changes:

SWK expanded the Industrial segment

Stanley Works acquired Facom S.A. in January 2006 for $480 million. Facom, based in France, manufactures hand and mechanics tools with annual revenues approaching $475 million. Facom operates primarily within the industrial and automotive tools sector in Europe, though its industrial mechanics tools benefited from strong demand from the U.S. oil and gas industry, as rising oil prices caused increased exploration and production. Facom is well-established in Europe, so the company grows as the European market grows. After the acquisition, Stanley's Industrial sales increased 64% and total sales increased 22%.^[7]

SWK expanded the Security segment

The security industry gives SWK greater organic growth opportunities, higher pricing power, and stable margins because it is a niche business with few players that has been relatively unaffected by the market depressions that affect Construction and DIY.^[8] In January 2007, Stanley Works acquired Hardware Security Module (HSM) Electronic Services, Inc. for $546 million. HSM, based near Chicago, Illinois, provides security alarm monitoring services and access control systems to commercial consumers by a central monitoring hub station and a network of branch locations across the U.S. HSM is the fourth largest electronic security company and second largest commercial monitoring company in North America. HSM contributed $220 million of sales in 2007. Security sales contributed 32% of 2007 sales, up from $216 million, or 10% of 2001 sales. Since the acquisition of HSM, SWK's total sales increased 11.6%.^[9]

Rising raw material costs increase Stanley Works cost of production.

Stanley Works manufactures products made from both ferrous and non-ferrous metals , including steel , aluminum , zinc, brass, nickel and copper , and resin . Additionally, SWK uses other materials for components and packaging including plastics , wood , and other corrugated products. The prices of commodities like the ones SWK uses in production have risen in the past few years Increasing commodities prices in turn increases SWK's cost of production. For example, Aluminum is an integral commodity in construction, which uses 20% of all aluminum production.^[10] Aluminum prices have increased 27% in the past three years, causing SWK's costs to increase an estimated $165 million, decreasing Construction and Do-It-Yourself segment gross profit 19%. Operating in an oligopoly helped SWK reduce the effects of rising commodities prices, as approximately two-thirds of the cost increase was recovered through pricing actions. SWK made acquisitions to become less dependent of its long-standing construction and do-it-yourself tools.

Stanley Works has exercised effective branding strategies to build consumer rapport.

Stanley Works increased its advertising budget from $31.3 million in 2005 to $42.5 million in 2007.^[11] SWK's branding techniques include television advertising campaigns associated with new product roll-outs and more print and web-based advertising that generated approximately one billion brand impressions annually. Due to increased advertising, SWK web traffic increased 20%, sales lead increased 30%, and brand awareness increased 34% in 2007 compared to 2006.^[12]

In addition to its advertising budget, the company spends approximately $3-$5 million annually on its NASCAR racing sponsorship. Stanley is the co-primary sponsor with Valvoline for Evernham Motorsports car driven by Scott Riggs (#10). In addition, Stanley Works is an associate sponsor of two other Evernham drivers, Jeremy Mayfield (#19) and Kasey Kahne (#9). Stanley’s sponsorships give exposure to its core demographics -- 25 to 50 year old males who are likely to do construction projects in their homes. NASCAR is the fastest-growing sport over the past ten years. Its fan base of 75 million makes NASCAR the number-one spectator sport and number-two televised sport in the country. 97% of NASCAR fans purchased a Stanley tool within the past year and are three times more likely to purchase a sponsor’s products.^[13]

Competition

Machine Tools & Accessories

• Stanley Works (SWK)- SWK is a brand of consumer and industrial tools.
• Timken Company (TKR)- TKR is the world's largest manufacturer of tapered roller bearings and a U.S. producer of steel alloy.^[14]
• Kennametal (KMT)- Global producer of tools, machine accessories, and advanced materials and second largest metal cutting tools manufacturer in the world.^[15]
• Kaydon (KDN)- KDN is a leading manufacturer in specialty bearings, also manufactures machine parts and steel alloys.
• CompX International (CIX)- CIX manufactures security products and precision ball bearing slides.^[16]
• Hardinge (HDNG)- HDNG produces machine tools in Western Europe.
• Thermadyne Holding (THMD)- THMD producers of gas and electric arc cutting and welding products for the Americas.
• RBC Bearings (ROLL)- ROLL manufactures bearings with 90% of its sales are from the U.S. and has the second-highest return on equity in the past year.^[17]
• Flow International (FLOW)- Flow produces high-pressure waterjet cutting tools and had the highest revenue growth of machine tools companies in the past quarter.^[18]

Small Tools & Accessories

• Snap-On (SNA) -- SNA produces tools, diagnostic and equipment products primarily for professionals.
• Danaher (DHR) -- DHR manufactures Sears Holdings (SHLD)' Craftsman tools line. Other than SWK, DHR is the only producer of a complete consumer hand-tools line.
• Black & Decker (BDK) -- BDK produces power tools, hardware and home improvement products, and fastening systems.

References

1. ↑ SWK 2007 10-k, Item 6: Selected Financial Data, page 14
2. ↑ Stanley Works website, Construction and DIY, 2008
3. ↑ Stanley Works website, Industrial, 2008
4. ↑ Stanley Works website, Security, 2008
5. ↑ Yahoo! Finance: Machine Tools and Accessories Leaders and Laggards
6. ↑ SWK 2007 10-k, Item 1: Business, page 3
7. ↑ SWK 2007 10-k, Item 7: Management's Discussion and Analysis of Financial Condition and Results of Operations, page 22
8. ↑ Stanley Works website, "Security," 2008
9. ↑ SWK 2007 10-k, Item 7: Management's Discussion and Analysis of Financial Condition and Results of Operations, page 22
10. ↑ BaseMetals, "Aluminum"
11. ↑ SWK 2007 10-k, Notes to Consolidated Financial Statements, page 52
12. ↑ SWK 2007 10-k, Item 7: Management's Discussion and Analysis of Financial Condition and Results of Operations, page 18
13. ↑ SWK 2007 10-k, Item 7: Management's Discussion and Analysis of Financial Condition and Results of Operations, page 18
14. ↑ Yahoo! Finance: Machine Tools & Accessories -- Leaders and Laggards
15. ↑ Yahoo! Finance: Machine Tools & Accessories -- Leaders and Laggards
16. ↑ Yahoo! Finance: CIX
17. ↑ Yahoo! Finance: Machine Tools & Accessories -- Leaders and Laggards
18. ↑ Yahoo! Finance: Machine Tools & Accessories -- Leaders and Laggards
19. ↑ SWK 2007 10-k, Item 6: Selected Financial Data, page 14
20. ↑ THMD 2007 10-k, Item 6: Selected Financial Data, page 18
21. ↑ CIX 2007 10-k, Item 6: Selected Financial Data, page 15
22. ↑ HDNG 2007 10-k, Item 6: Selected Financial Data, page 21
23. ↑ ROLL 2007 10-k, Item 6: Selected Financial Data, page 18
24. ↑ NNBR 2007 10-k, Item 6: Selected Financial Data, page 17
25. ↑ TKR 2007 10-k, Item 6: Selected Financial Data, page 18
26. ↑ KMT 2007 10-k, Item 6- Selected Financial Data, page 11
27. ↑ KDN 2007 10-k, Item 6: Selected Financial Data, page 9
28. ↑ SWK 2007 10-k, Item 6: Selected Financial Data, page 14
29. ↑ SNA 2007 10-k, Item 6: Selected Financial Data, page 21
30. ↑ DHR 2007 10-k, Item 6: Selected Financial Data, page 25
31. ↑ BDK 2008 10-k, Item 6: Selected Financial Data, page 17