Here’s a quiz? Name three technology companies that no one has ever heard of.
Apple (AAPL) is a great technology company. So is Google (GOOG). Cisco Systems (CSCO). Intel (INTC). And I’m sure that everybody would put them at the top of their list.
But how about these names? Johnson Controls (JCI)? Corning (GLW)? Cummins (CMI)?
Not at the top of your list of tech companies? Not surprising. Johnson Controls makes auto interiors, batteries, and air conditioning equipment. Corning makes glass. Cummins makes diesel engines for big rig trucks.
But even if you don’t think of them as technology companies—and the stock market doesn’t value them like technology companies—that’s exactly what they are. In fact, I’d argue that an engine-maker like Cummins is at least as much of a technology company as Cisco Systems, where the company’s success is built on technology, yes, but also on an industry-leading sales and marketing machine, or Intel, which is one of the world’s great manufacturing companies.
I’ve argued in other places—in my book The Jubak Picks and on my blog JubakPicks.com—that technology is an increasingly critical edge for industrial companies these days. When just about any industrial product is on the verge of being turned into a commodity, technology, the ability to make a product that does more, that does it for less, and that does it better, is the only thing that stands between success and a race-to-the-bottom competition to see who can move production to the lowest cost labor market.
I’ve written about Corning and Johnson Controls before. The former was in my Jubak’s Picks portfolio http://jubakpicks.com/the-jubak-picks/ until January 4, 2010. Johnson Controls is a member of that portfolio now. (See my most recent update on the stock in this post http://jubakpicks.com/2010/04/26/update-johnson-controls-jci-6/ )
So instead of re-plowing that ground let me use Cummins as an example.
I’ve written about part of the Cummins story in my post http://jubakpicks.com/2010/04/20/go-for-the-growth-and-where-to-find-it-at-a-reasonable-price/ . In that post I noted that nobody bought trucks during the Great Recession. Sales of Class 8 trucks, the big rigs, fell to a rate well below the long-term replacement rate and as a result the age of the U.S. big rig fleet is now at a two-decade high. Now with freight volumes rising, truck owners and operators are starting to buy again to update their equipment. Analysts on Wall Street are upping their forecasts and then upping them again. For example, on April 21, Sterne, Agee & Leach increased its production forecast for truck-maker Paccar (PCAR) for 2011 to 220,000 to 240,000 from a prior estimate of 200,000. According to investment bank UBS 45% of trucking companies say they plan to purchase trucks in 2010.
The other part of the story is about technology. Beginning in 2002 the Environmental Protection Agency has been phasing in new emissions regulations for diesel trucks. The rules on particulate matter, nitrogen oxides, non-methane hydrocarbons and other pollutants have been gradually tightened year by year with the final standards going into effect in 2010. New diesel engines in 2010 will produce less than 10% of the emissions of 2001 engines.
The reason for the long phase in of the rules was to allow engine makers to develop the new technologies that can meet these tougher rules. Two technologies have emerged: Selective Catalytic Reduction (SCR) and Exhaust Gas Recirculation (EGR). Different engine makers have gone with one of the other technology.
SCR injects a fluid of water (67.5%) and urea (32.5%) into the hot exhaust stream from the diesel engine. Using a catalyst called copper zeolite the fluid breaks nitrogen oxides down into nitrogen and water vapor.
EGR re-circulates part of the engine’s exhaust (5% to 30%) though an air-to-water cooler and then back into the engine’s cylinders. That recirculation reduces nitrogen oxide emissions and particulates.
The consensus among engineers and Wall Street analysts who have looked at the two systems is that SCR suffers from a number of perhaps fatal disadvantages. Urea, a major ingredient in fertilizers produced from synthetic ammonia and carbon dioxide, isn’t available along all truck routes and at all truck stops. Trucks using this system have to be fitted with an onboard tank to hold the urea.
EGR doesn’t require additional tanks or any perhaps hard to find additive. Adding the coolers to the engine does increase engine size and weight, however. And the cost of fuel in an EGR system is higher than the cost of fuel plus UREA in the SCR technology.
What’s of most interest to investors about these two technologies is that two engine makers with big market share have come down on different sides of the technology divide. Cummins is using EGR while Detroit Diesel, owned by Daimler, has opted for SCR. So far at least, it looks like truckers are thinking of voting for Cummins and EGR. According to a survey in the May issue of World Truck Analysis, 40% of truckers said that the post-2010 engine they were most likely to buy was a Cummins engine. Detroit Diesel wound up with 26% of the vote. Volvo came in third with 14%.
Cummins reports earnings on April 27. Look for the company to amplify its recent forecast of a weak first half of 2010 followed by a strong pick-up in engine demand in the fourth quarter of 2010. Cummins also indicated that this growth period won’t be just a spurt but will instead stretch from 2011 into 2014. In 2014 the company expects to see $20 billion in sales. Sales in 2009 were just $10.8 billion.
With the replacement cycle and technology breaking the company’s way that forecast isn’t out of reach.
Full disclosure: I own shares of Johnson Controls in my personal portfolio.
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