On June 14 I updated my take on why you want water stocks in your portfolio. The sector has entered a new phase, I argued, that made it important for investors to look for water stocks where customers could pay the bill for clean water. Global demand for clean water so far outstrips demand that funding to pay for clean water is being rationed world wide. One set of customers, I said, using the water disaster in Flint, Michigan as a template, that could pay was corporations that had to have clear water or go out of business. With that in mind, one stock I recommended was Danaher (DHR) (In that June 14 post, I lost track of what parts of Danaher’s business went where after its spin off of Fortiv (FTV) in 2016. In the post I recommended Fortiv when I should have recommended Danaher, since the water assets I wanted to add to my portfolio had stayed with Danaher and hadn’t been spun off with Fortiv. I regret the error and any confusion. I have corrected the mistake in the current version of the post.)
In August 2015 Danaher acquired Pall for $13.8 billion. Then in 2016 Danaher spun off most of its industrial businesses into a new company called Fortiv. That left a refocused Danaher with four segments Life Sciences; Diagnostics; Dental; and Environmental & Applied Solutions. The former Pall business went into the Life Sciences segment. Through that segment Danaher is a provider of filtration, separation and purification technologies to the biopharmaceutical, food and beverage, medical, aerospace, microelectronics and general industrial sectors. It’s this business that interests me as a water play in an age of capital rationing for supplies of clean water.
There are reasons to like Danaher just as a acquirer that knows how to raise margins at the companies it acquires. That’s been the company’s meat and potatoes strategy as it has built a diversified portfolio of growth companies and then increased the rate of profit growth at those business. That’s how Danaher sold the Pall deal to investors. The company would cut $300 million in costs in the first five years after the acquisition. (That now looks low with estimated savings now up to $350 million.) Since its acquisition of Pall, Danaher has raised gross margins in that business by 50 basis points (100 basis points equal one percentage point) and added 500 basis points to operating margins. At the same time the Pall business has increased its rate of new product launches by 50%–so this isn’t a case of out of control cost cutting.
Danaher’s Pall business splits into two segments. There’s the life sciences segment that provides filtration products for the biotechnology sector and the food and beverage industry. And there’s Pall Industrial that provides filtration products for semiconductor companies, consumer electronics makers, the aerospace sector–and municipal and industrial companies coping with water quality and scarcity problems.
In Danaher’s Life Sciences segment revenue climbed 4% and reported operating profit margin increased to 16.2%. Core operating margin gained 165 basis points.
In the Water Quality segment core revenue increased at a mid single digit rate and the company saw increased penetration in the high growth China market.
Danaher shares closed today, June 20, at $85.68. The 52-week range is $88.01 to $73.40. The trailing twelve-month PE is 24.31. The shares pay a small dividend of 0.65%.
The shares are up 10.07% for 2017 to date and ahead 15.05% for the last twelve months.
For 2016 the company showed $2.5 billion in free cash flow and I think Danaher has the cash flow to continue making targeted acquisitions.
As of June 20, I’m adding these shares to my Jubak Picks portfolio with a target price of $95 a share.