June 12, 2020 - 5:34pm EST by
2020 2021
Price: 102.31 EPS 3.57 4.08
Shares Out. (in M): 229 P/E 24.58 21.5
Market Cap (in $M): 20,110 P/FCF 21.37 19.55
Net Debt (in $M): 2,174 EBIT 993 1,132
TEV ($): 22,284 TEV/EBIT 22.4 19.7

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track record of reinvesting FCF into sensible acquisitions. It’s probably fair to call it a compounder – I’m
surprised it’s never been written up on VIC... this probably never screens as “deep value”, but we think
at these levels it’s definitely “GARP”. There is no big catalyst or, frankly, variant view. We think valuation
is fair in absolute terms, and very attractive vs peers and the overall market. This is an interesting
opportunity to “buy and hold” a quality name and watch it compound earnings over the long-term.
AME makes highly-engineered instrumentation and motion control devices. The company sells into very
diverse mostly-industrial end-markets, per the table below.
AME operates under 2 segments- Electronic Instruments Group, and Electromechanical Group. It’s not
worth delving into each it’s more important to know that AME is highly decentralized through 45
business units that fall within each of the 2 segments.
AME’s products are high in IP content/technology and generally face limited competition. This allows
the company to report very high EBITDA margins (27% in 2020), which as far as we can tell are only
bested by cult-stock ROP within diversified large cap industrials (and then one could argue ROP is more
of a software/industrial hybrid).
The business model is out of the compounders textbook. The way CEO Dave Zapico articulates it, “the
playbook is to double EPS every 5 years, as we’ve been doing over the last 20 years, with 10% sales
CAGR and 16% EPS CAGR”. The 10% sales CAGR is achieved 4-5% organically and 5-6% inorganically
(rough averages trough the cycle).
AME is an asset-light company that generates very healthy FCF (generally at 110% of net income). M&A
is a core competency, and critical to the investment thesis AME has a very solid track record of
finding bolt-on niches that fit with the existing strategy, acquiring them accretively, and improving the
acquired business’ margins in the process. All deals are in the $100mm-1bn range, the largest of which is
the recent $925mm purchase of Gatan from ROP. The company’s stated hurdle rate for acquisitions is a
10% ROIC by year 3 post-closing. It’s rare that AME ever acquires an outright bargain. Prices paid are
generally in the 11-14x EBITDA range (pre-synergy), but then these are high-quality businesses that get
even better after AME integrates them. These deals consistently provide better returns than buybacks
(AME tends to trade around 13-14x), and compound FCF to deploy into future acquisitions.
CEO Dave Zapico has been in charge since 2016, taking the helm from Frank Hermance, whom
effectively made AME into what it is over a 20+ yr tenure. Hermance was a highly-respected capital
allocator, and there was some trepidation upon the transition, given that Zapico had more of an ops
background as President of the EIG segment. 4 years later, Zapico put these concerns to rest, building a
good track record of doing the same type of deals that built AME and showing good discipline.
Moreover, he’s really impressed us an operator – he is laser-focused on margin improvement, and has
done good things to push organic growth across the portfolio. He is a very steady pair of hands.
On valuation: AME is trading at 21.5x consensus 2021e EPS of $4.08 (which seems reasonable to us, as
it’s still marginally below 2019 levels). Assuming 110% FCF conversion in line with the past, this
translates into a 5.1% yield, which we think is fair given the quality of the business. In absolute terms,
it’s obviously not a screaming bargain. But we feel it is particularly good relative value either vs. the
overall market (trading at an 8% P/E premium, vs 25% average last 5 years), the S&P 500 Industrials
index (trading at a slight discount vs 20% premium historically), or direct high quality peers like IEX, ITW,
NDSN, ROP which trade closer to 30x P/E on 2021 estimates. We feel there’s probably some room for
multiple convergence with those names, but are most excited about the long-term compounding power
of the business model. It’s almost pointless to forecast near-term earnings given extremely limited
macro visibility, but assuming 2020 is the bottom and we get a “non-V” multi-year recovery, AME should
grow EPS in the mid/high-teens for several years, and the stock could double over 4-5 years, as it did
coming out of industrial recessions in 2010-14 and in 2016-19.
AME is exposed to the general macro and in particular to industrial activity. One never feels 100%
comfortable with having a firm grasp on end-market exposures given how highly
diversified they are. There’s also always 1-2 end-markets that are not performing that well, and
we can think of commercial aerospace and upstream energy as still challenged in the near term,
though these represent no more than 15% of sales.
AME’s topline is however less cyclical than most industrials, precisely due to its
diversified exposure, including Healthcare and Defense end-markets, and around 20% of
sales coming from recurring/consumable demand. Organic sales in the 2016 downturn
were down 7-8%, and we believe the portfolio is more resilient nowadays as upstream
energy exposure has been halved.
AME’s margins are incredibly resilient even in recessions: margins declined less than
200bps in both 2009 and 2016. For 2020, management is again guiding to decrementals
in the 25-30% range. Thus, 2020 EPS should “only” decline mid/hi teens %, which we
think is very solid performance for an industrial company.


I do not hold a position with the issuer such as employment, directorship, or consultancy.
I and/or others I advise do not hold a material investment in the issuer's securities.


No hard catalysts. Organic growth should trough in 2Q. The company tends to close 3-5 acquisitions each year, and they're often announced concurrently with earnings releases.

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