The Long and Short
Stanley Black & Decker deep discount long bonds
This document is intended for institutional investors and is not subject to all of the independence and disclosure standards applicable to debt research reports prepared for retail investors. This material does not constitute research.
Stanley Black & Decker (SWK: Baa3/A-/BBB+) credit spreads look attractive relative to its overall risk profile. That is true despite ongoing operational challenges that have stressed some of the company’s credit metrics. Longer-dated bonds lately trade below $60, making the bonds even more compelling to price-sensitive buy-and-hold investors. This week’s Fed announcement, again signalling three potential rate cuts in the current year, along with a surprise spike in existing home sales in February, both indicate potential for an improving operating landscape over the intermediate term. Housing starts could see significant improvement off relatively depressed levels since the second half of 2022 and throughout 2023.
SWK long bonds offer a tremendous spread pick to ‘BBB’ comparables, including MAS (Baa2/BBB/BBB) and MLM (Baa2/BBB+/BBB) in the long-end of the curve (Exhibit 1).
Exhibit 1: SWK offers more spread than competing issues
Source: Santander US Capital Markets LLC, Bloomberg/TRACE G-spread indications
SWK is a global leader in hand and power tools with a portfolio of premiere brands including Stanley, Dewalt, Black & Decker and Craftsman. Tools and storage make up the vast majority of revenues at approximately 85%, while the industrial segment makes up the remainder. SWK has strong geographic diversification with nearly 40% of company sales outside of the US. Cash flows are sensitive to residential construction levels while costs can be significantly influenced by commodities prices such as steel, nickel and so on, which can influence margins. Meanwhile, traffic at home improvement centers Home Depot and Lowe’s account for between 25% to 30% of sales annually.
Management is seeking to address higher leverage by carrying out cost saving initiatives that are projected to achieve $1.5 billion of pre-tax run-rate savings by the end of the current year. Program to date savings were in excess of $1 billion by the end of last year. Management has also stated that debt reduction remains a top priority in 2024, which would likely keep prospective debt issuance as well as shareholder remuneration curbed for the near-term.
Adjusted leverage moved north of 5x as sales began to lag since mid-2022, while profit margins have been pushed lower by high material costs and chip and battery shortages over the past several quarters. SWK reported Book Debt/Adj. EBITDA of 6.3x for the lagging year of 2023. S&P lowered the rating to A- from A in August of last year and left the outlook at negative reflecting SWK’s ongoing operational challenges. However, the rating agency’s expectation is that their calculation of leverage will likely decline below 4x in the current year. Meanwhile, Moody’s outlook for their adjusted leverage in 2024 is to move slightly below 5x and has warned that they would consider potential downgrades if the level remains elevated beyond the current year.
Helping offset concerns about current credit metrics, SWK boasts an extraordinarily strong liquidity profile with $449 million in cash on hand plus a massive $4 billion in credit facilities backed by a well-capitalized and diversified bank group. The first facility ($1.5 billion) expires this year, while the second ($2.5 billion) is available through 2026. The company has no debt maturities in the current year, so is not currently under pressure to issue debt into the public market. The next maturity is $500 million coming due in 2025.
SWK reported better than expected results in the fourth quarter, with adjusted EPS of $0.92 topping the $0.79 consensus estimate. Top-line revenue of $3.74 billion fell slightly short of the $3.84 billion expectation for the quarter. Nevertheless, the company was able to generate an impressive $647 million in free cash flow also ahead of the consensus estimate. Despite the solid quarterly results, management’s guidance for the coming year fell short of expectations. Adjusted EPS is expected to land in the range of $3.50 to 4.50, which still includes the $4.49 consensus figure but is a lower range than projected. Free cash flow is expected to be in the $600 to 800 million range versus the prior expectations north of $900 million. Even at these revised levels, SWK still appears capable of driving improvement to the credit profile over the coming year.
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