BELDEN INC BDC
June 15, 2015 - 3:36pm EST by
Bigboss35
2015 2016
Price: 84.90 EPS 5.41 6.13
Shares Out. (in M): 43 P/E 15.7 13.8
Market Cap (in M): 3,680 P/FCF 20.9 17.4
Net Debt (in M): 1,672 EBIT 393 430
TEV: 5,352 TEV/EBIT 13.2 11.9

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  • Technology
  • Network Equipment
  • Manufacturer
 

Description

BDC Initiation
 
Thesis
Attractive valuation (13.7x forward EPS, 10.6x EV/EBITDA)
High and sustained ROE’s and ROIC’s (~25% and ~14%)
Improving & sustainable operating margin expansion (14% going to 20%)
Intelligent capital allocation. Belden is a capital compounder along the lines of
DHR and APH, yet it still trades more in line with commodity cabling companies.
Underappreciated/underfollowed with only 7 sell side analysts actively
publishing, all at 3rdtier shops.
Between MSD organic growth, substantial margin expansion, value added
acquisitions, and buybacks, EPS should be able to grow mid-high teens
sustainably. This should lead to a re-rating of shares away from the commodity
cabling companies and towards capital compounders like APH and DHR.
 
Barriers to Entry and Competitive Moats
 
Belden operates in 4 business segments, and the acquisition of Tripwire is adding a 5th
10 years ago, when current CEO John Stroup came on board, approximately 90% of the
business consisted of largely commodity cabling components. Today, that figure is down
to less than 30%, with the remainder made up of differentiated broadcast, connector,
networking, and security solutions.
 
 
Belden has by far and away the #1 market share in its broadcast solutions space. They
have made a series of acquisitions in order to roll up end to end coverage of everything
from the camera connection, through networking and connectivity, monitoring & editing,
and more. This business has above corporate average profitability, requires little capital,
and is forecast to grow 5-7% in the medium term.
 
Enterprise connectivity and industrial connectivity are the two lowest margin and lowest
growth businesses for Belden, comprising about 45% of sales. About 2/3 of this group,
or 30% of total revenues, are lower margin cabling assets. 1/3 of this group is more
differentiated, higher margin networking and connectivity assets, and the business is
definitely mixing in this direction. Overall, the connectivity group is basically the cash
cow for the company.
 
The industrial IT group is small, but it is growing very quickly, very profitable, and
consists of highly differentiated assets mainly in industrial networking and connectivity.
Finally, Belden acquired Tripwire in January of this year. While ostensibly a big
departure from their traditional businesses, the bet on Trip is that Belden’s industrial and
broadcast customers have not secured their endpoints, and as they increasingly connect
their capital equipment to their networks they will require additional layers of security.
Belden will be able to cross sell endpoint security along with its connectivity and
networking gear. Admittedly this acquisition is further afield than most had expected to
see from Belden, but the two companies had been co-selling for over a year before the
deal was announced (meaning that they wouldn’t have acquired Trip if their partnership
hadn’t demonstrated success beforehand) and so far it is tracking ahead of expectations.
 
The net takeaway here is that Belden used to be a company with little barriers to entry
and no competitive moat, but now it has transformed itself into a highly differentiated
business with dominant competitive positions, high barriers to entry, much improved
profitability and returns, and far better growth. In spite of these changes, the stock is
still being valued as if it is still a commodity company, inline with much lower quality
companies like General Cable.
 
Margins and Cash Flows
Operating margins have already expanded from 9% in 2010 up to 14% in 2014, and
management has laid out a medium term target calling for continued expansion to the 16-
18% range. However, with the addition of a software company like Tripwire, continued
mix shifts away from commodity offerings and towards differentiated solutions, and
further efficiency gains I think a 20% operating margin target is a real possibility further
on down the road. Operating margin expansion stories are a real source of alpha in tech,
and if Belden can in fact expand margins at a clip of 100bps per year going forward I
think it is likely the stock outperforms by a good margin.
 
Returns on invested capital have been pretty stable at around 14% annually for a number
of years. Management runs the business for ROIC over time, and they have a strong
capital allocation discipline where they are focused on the highest ROIC projects
available, whether that’s organic investment, acquisitions, buybacks etc. I would
anticipate that ROIC will trend upwards along with operating margins over time. The
company targets a 13-15% ROIC on acquisitions within a 3 year time frame. They have
also retired 10% of the float over the last 4 years. Net debt to ebitda will exit ’15 at 3.4x,
and hit management’s target of 3x through ebitda growth aloneexiting ’16.
 
Management also believes FCF’s are the lifeblood of the organization, and they have a
strong net income to FCF conversion ratio. Margin expansion in conjunction with its
FCF/ROIC framework will continue to enable Belden to become a capital compounder
along the lines of DHR or APH over time.
 
Management Team & Incentives
CEO John Stroup is a critical component of the BDC story. Stroup started his career
learning lean manufacturing at Toyota. He has implemented these practices at Belden’s
various manufacturing facilities and greatly improved margins at even the company’s
more commodity like operations. Stroup also spent several years at Danaher where he
started at VP of Business Development and eventually assumed the role of President of
the Motion Systems group. Danaher is obviously one of the most successful
compounders over the last 30 years, and if he can replicate even a small portion of
Danaher’s M&A success at Belden we’ll be in good shape. He has now been at Belden
for nearly 10 years and his efforts to transform the company from commodity cabling
(90% of the business when he took over, < 30% today) to differentiated, higher margin
solutions is nearly complete. That said, the company advertises the fact that they have a
funnel with over 1000 potential acquisition targets so he has plenty of runway to continue
on this strategy.
 
Management only owns 1% of shares outstanding. That said, their compensation plan is
designed with shareholders in mind. The primary four factors according to the proxy are
operating margins, organic revenue growth, FCF, and ROIC.
 
Current Events
The Tripwire acquisition is the most controversial aspect of the Belden story today. First
of all, Trip is an enterprise security company, not an industrial connectivity company.
Second of all, Trip is on pace to achieve management’s targeted 13-15% ROIC within 4-
5 years post acquisition, which is longer than the typical 3 year period of time. So it does
appear that strategic as well as financial risks are higher than average with this deal. On
the other hand, Trip has been a steady 15% grower for several years, as opposed to most
of Belden’s acquired businesses which grow in the mid single digits organically.
Additionally, the potential for cross selling is much greater for this deal. Security
solutions are increasingly required at the endpoints in the industrial and broadcast space
(as opposed to just at the network edge) as machines are being connected up to enterprise
networks a la the “internet of things”. This is a huge new opportunity for Trip, but they
haven’t had the distribution to sell into these end markets. Now as part of Belden they
will be able to capitalize on this opportunity over the next 2-3 years.
 
Long Term Outlook
 
Even with a top line organic growth rate in the mid single digits, I still think BDC will be
able to compound EPS in the mid-high teens for several years. Operating margins have
already expanded from 9% in 2010 up to 14% in 2014, and management has laid out a
medium term target calling for continued expansion to the 16-18% range. However, with
the addition of a software company like Tripwire, continued mix shifts away from
commodity offerings and towards differentiated solutions, and further efficiency gains I
think a 20% operating margin target is a real possibility further on down the road. In
addition, further de-levering and continued reductions in shares outstanding can push
EPS growth up into the teens through at least 2017/18. This is one of the few technology
companies that has a strong understanding of capital allocation, and compounding actions
will be working for us at Belden, as opposed to against us through stock dilution and
value destroying acquisitions at many other tech companies. Longer term management
aspires to have the financial characteristics of APH, which is essentially the equivalent of
the Berkshire Hathaway of technology and if Belden can continue pushing in that
direction I think it will be a good stock for us.
 
Valuation
BDC shares are trading at 13.7x cy16 EPS, 10.6x EV/EBITDA. Other capital
compounders like DHR and APH trade more in the 18-21x range. Considering BDC is
earlier in its transition it is reasonable to expect a discount vs. best in class companies
but if BDC is able to pull off the transition and expand its margins the way I expect then
the upside will be substantially greater. I believe at this point that the street’s perception
of BDC is still anchored to their historical commodity cabling business, but with
continued execution over the next 1-2 years commodity businesses will represent only
20-25% of sales and BDC shares will be poised for multiple expansion. A reasonable
upside target over the next year could be $104, or 17x ’16 EPS, for 23% upside.
 
Recommendation
BDC shares are the appropriate market cap for Smid or Mid. I would begin accumulating
a position < $85, and if shares were to crack $80 I would get very aggressive.
 
Risks & Mitigating Factors
Leverage: the company sports 3.4x net debt to ebitda, which is a pretty high
degree of leverage for a tech company.
Valuation: shares are cheap on PE (13.8x), but not quite as cheap on ev/ebitda
(10.6x) or FCF yield (5.8%).
Competition: Belden’s core cabling business experiences lots of competition,
including on pricing. Broadcast has lots of competition but Belden has top market
share. Tripwire definitely has competition, although less so in the industrial
space.
Organic growth is modest in the mid single digits. If this slows at all FCF
generation might not be enough to fund further acquisitions to the extent I expect.
The Tripwire acquisition is more expensive (paid 13.4x ebitda), more risky
(security is outside of Belden’s core competency), requires a longer period of time
to hit ROIC targets, and depends more on riskier revenue synergies than previous
 acquisitions. If one thing goes horribly wrong with my thesis it would likely be
Tripwire.
Belden reported a disappointing Q1 and the stock traded off. This provides a
better entry point for us, but the Q1 weakness was attributed to slower business in
the broadcast space. If the broadcast space doesn’t come back quickly then
Belden may not be able to grow organically in ’15. Management assures me that
the broadcast business will be fine, but I just hope the Q1 miss doesn’t portent
further earnings disappointments.
 
 
 
 

 

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

Catalyst

Between MSD organic growth, substantial margin expansion, value added
acquisitions, and buybacks, EPS should be able to grow mid-high teens
sustainably. This should lead to a re-rating of shares away from the commodity
cabling companies and towards capital compounders like APH and DHR.
I believe a sizable portion of this rerating will occur between 2Q15 and 4Q16.  
    sort by   Expand   New

    Description

    BDC Initiation
     
    Thesis
    Attractive valuation (13.7x forward EPS, 10.6x EV/EBITDA)
    High and sustained ROE’s and ROIC’s (~25% and ~14%)
    Improving & sustainable operating margin expansion (14% going to 20%)
    Intelligent capital allocation. Belden is a capital compounder along the lines of
    DHR and APH, yet it still trades more in line with commodity cabling companies.
    Underappreciated/underfollowed with only 7 sell side analysts actively
    publishing, all at 3rdtier shops.
    Between MSD organic growth, substantial margin expansion, value added
    acquisitions, and buybacks, EPS should be able to grow mid-high teens
    sustainably. This should lead to a re-rating of shares away from the commodity
    cabling companies and towards capital compounders like APH and DHR.
     
    Barriers to Entry and Competitive Moats
     
    Belden operates in 4 business segments, and the acquisition of Tripwire is adding a 5th
    10 years ago, when current CEO John Stroup came on board, approximately 90% of the
    business consisted of largely commodity cabling components. Today, that figure is down
    to less than 30%, with the remainder made up of differentiated broadcast, connector,
    networking, and security solutions.
     
     
    Belden has by far and away the #1 market share in its broadcast solutions space. They
    have made a series of acquisitions in order to roll up end to end coverage of everything
    from the camera connection, through networking and connectivity, monitoring & editing,
    and more. This business has above corporate average profitability, requires little capital,
    and is forecast to grow 5-7% in the medium term.
     
    Enterprise connectivity and industrial connectivity are the two lowest margin and lowest
    growth businesses for Belden, comprising about 45% of sales. About 2/3 of this group,
    or 30% of total revenues, are lower margin cabling assets. 1/3 of this group is more
    differentiated, higher margin networking and connectivity assets, and the business is
    definitely mixing in this direction. Overall, the connectivity group is basically the cash
    cow for the company.
     
    The industrial IT group is small, but it is growing very quickly, very profitable, and
    consists of highly differentiated assets mainly in industrial networking and connectivity.
    Finally, Belden acquired Tripwire in January of this year. While ostensibly a big
    departure from their traditional businesses, the bet on Trip is that Belden’s industrial and
    broadcast customers have not secured their endpoints, and as they increasingly connect
    their capital equipment to their networks they will require additional layers of security.
    Belden will be able to cross sell endpoint security along with its connectivity and
    networking gear. Admittedly this acquisition is further afield than most had expected to
    see from Belden, but the two companies had been co-selling for over a year before the
    deal was announced (meaning that they wouldn’t have acquired Trip if their partnership
    hadn’t demonstrated success beforehand) and so far it is tracking ahead of expectations.
     
    The net takeaway here is that Belden used to be a company with little barriers to entry
    and no competitive moat, but now it has transformed itself into a highly differentiated
    business with dominant competitive positions, high barriers to entry, much improved
    profitability and returns, and far better growth. In spite of these changes, the stock is
    still being valued as if it is still a commodity company, inline with much lower quality
    companies like General Cable.
     
    Margins and Cash Flows
    Operating margins have already expanded from 9% in 2010 up to 14% in 2014, and
    management has laid out a medium term target calling for continued expansion to the 16-
    18% range. However, with the addition of a software company like Tripwire, continued
    mix shifts away from commodity offerings and towards differentiated solutions, and
    further efficiency gains I think a 20% operating margin target is a real possibility further
    on down the road. Operating margin expansion stories are a real source of alpha in tech,
    and if Belden can in fact expand margins at a clip of 100bps per year going forward I
    think it is likely the stock outperforms by a good margin.
     
    Returns on invested capital have been pretty stable at around 14% annually for a number
    of years. Management runs the business for ROIC over time, and they have a strong
    capital allocation discipline where they are focused on the highest ROIC projects
    available, whether that’s organic investment, acquisitions, buybacks etc. I would
    anticipate that ROIC will trend upwards along with operating margins over time. The
    company targets a 13-15% ROIC on acquisitions within a 3 year time frame. They have
    also retired 10% of the float over the last 4 years. Net debt to ebitda will exit ’15 at 3.4x,
    and hit management’s target of 3x through ebitda growth aloneexiting ’16.
     
    Management also believes FCF’s are the lifeblood of the organization, and they have a
    strong net income to FCF conversion ratio. Margin expansion in conjunction with its
    FCF/ROIC framework will continue to enable Belden to become a capital compounder
    along the lines of DHR or APH over time.
     
    Management Team & Incentives
    CEO John Stroup is a critical component of the BDC story. Stroup started his career
    learning lean manufacturing at Toyota. He has implemented these practices at Belden’s
    various manufacturing facilities and greatly improved margins at even the company’s
    more commodity like operations. Stroup also spent several years at Danaher where he
    started at VP of Business Development and eventually assumed the role of President of
    the Motion Systems group. Danaher is obviously one of the most successful
    compounders over the last 30 years, and if he can replicate even a small portion of
    Danaher’s M&A success at Belden we’ll be in good shape. He has now been at Belden
    for nearly 10 years and his efforts to transform the company from commodity cabling
    (90% of the business when he took over, < 30% today) to differentiated, higher margin
    solutions is nearly complete. That said, the company advertises the fact that they have a
    funnel with over 1000 potential acquisition targets so he has plenty of runway to continue
    on this strategy.
     
    Management only owns 1% of shares outstanding. That said, their compensation plan is
    designed with shareholders in mind. The primary four factors according to the proxy are
    operating margins, organic revenue growth, FCF, and ROIC.
     
    Current Events
    The Tripwire acquisition is the most controversial aspect of the Belden story today. First
    of all, Trip is an enterprise security company, not an industrial connectivity company.
    Second of all, Trip is on pace to achieve management’s targeted 13-15% ROIC within 4-
    5 years post acquisition, which is longer than the typical 3 year period of time. So it does
    appear that strategic as well as financial risks are higher than average with this deal. On
    the other hand, Trip has been a steady 15% grower for several years, as opposed to most
    of Belden’s acquired businesses which grow in the mid single digits organically.
    Additionally, the potential for cross selling is much greater for this deal. Security
    solutions are increasingly required at the endpoints in the industrial and broadcast space
    (as opposed to just at the network edge) as machines are being connected up to enterprise
    networks a la the “internet of things”. This is a huge new opportunity for Trip, but they
    haven’t had the distribution to sell into these end markets. Now as part of Belden they
    will be able to capitalize on this opportunity over the next 2-3 years.
     
    Long Term Outlook
     
    Even with a top line organic growth rate in the mid single digits, I still think BDC will be
    able to compound EPS in the mid-high teens for several years. Operating margins have
    already expanded from 9% in 2010 up to 14% in 2014, and management has laid out a
    medium term target calling for continued expansion to the 16-18% range. However, with
    the addition of a software company like Tripwire, continued mix shifts away from
    commodity offerings and towards differentiated solutions, and further efficiency gains I
    think a 20% operating margin target is a real possibility further on down the road. In
    addition, further de-levering and continued reductions in shares outstanding can push
    EPS growth up into the teens through at least 2017/18. This is one of the few technology
    companies that has a strong understanding of capital allocation, and compounding actions
    will be working for us at Belden, as opposed to against us through stock dilution and
    value destroying acquisitions at many other tech companies. Longer term management
    aspires to have the financial characteristics of APH, which is essentially the equivalent of
    the Berkshire Hathaway of technology and if Belden can continue pushing in that
    direction I think it will be a good stock for us.
     
    Valuation
    BDC shares are trading at 13.7x cy16 EPS, 10.6x EV/EBITDA. Other capital
    compounders like DHR and APH trade more in the 18-21x range. Considering BDC is
    earlier in its transition it is reasonable to expect a discount vs. best in class companies
    but if BDC is able to pull off the transition and expand its margins the way I expect then
    the upside will be substantially greater. I believe at this point that the street’s perception
    of BDC is still anchored to their historical commodity cabling business, but with
    continued execution over the next 1-2 years commodity businesses will represent only
    20-25% of sales and BDC shares will be poised for multiple expansion. A reasonable
    upside target over the next year could be $104, or 17x ’16 EPS, for 23% upside.
     
    Recommendation
    BDC shares are the appropriate market cap for Smid or Mid. I would begin accumulating
    a position < $85, and if shares were to crack $80 I would get very aggressive.
     
    Risks & Mitigating Factors
    Leverage: the company sports 3.4x net debt to ebitda, which is a pretty high
    degree of leverage for a tech company.
    Valuation: shares are cheap on PE (13.8x), but not quite as cheap on ev/ebitda
    (10.6x) or FCF yield (5.8%).
    Competition: Belden’s core cabling business experiences lots of competition,
    including on pricing. Broadcast has lots of competition but Belden has top market
    share. Tripwire definitely has competition, although less so in the industrial
    space.
    Organic growth is modest in the mid single digits. If this slows at all FCF
    generation might not be enough to fund further acquisitions to the extent I expect.
    The Tripwire acquisition is more expensive (paid 13.4x ebitda), more risky
    (security is outside of Belden’s core competency), requires a longer period of time
    to hit ROIC targets, and depends more on riskier revenue synergies than previous
     acquisitions. If one thing goes horribly wrong with my thesis it would likely be
    Tripwire.
    Belden reported a disappointing Q1 and the stock traded off. This provides a
    better entry point for us, but the Q1 weakness was attributed to slower business in
    the broadcast space. If the broadcast space doesn’t come back quickly then
    Belden may not be able to grow organically in ’15. Management assures me that
    the broadcast business will be fine, but I just hope the Q1 miss doesn’t portent
    further earnings disappointments.
     
     
     
     

     

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

    Catalyst

    Between MSD organic growth, substantial margin expansion, value added
    acquisitions, and buybacks, EPS should be able to grow mid-high teens
    sustainably. This should lead to a re-rating of shares away from the commodity
    cabling companies and towards capital compounders like APH and DHR.
    I believe a sizable portion of this rerating will occur between 2Q15 and 4Q16.  

    Messages


    SubjectPDF / Formatting
    Entry06/15/2015 06:54 PM
    MemberCondor

    Can you link to a better-formatted PDF or something that's easier on the eyes / printable? 

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