IDEX Corp. Q2: Project Delay and Weakness in Life Sciences (NYSE:IEX)

I highlighted my “Buy” thesis on IDEX (NYSE: IEX) in my previous article published in June 2024 arguing for moderation in order growth. IDEX released its Q2 results on July 31, reporting a 4% decline. in organic revenue and lower full-year growth guidance due to project delays and general industrial market softness. Despite these short-term difficulties, I am in favor of IDEX’s efforts in portfolio management and capital allocation. I reiterate a “Buy” rating with a fair price target of $220 per share.

Acquisition of Mott Corporation

On July 23, 2024, IDEX announced that it would acquire Mott Corporation for $1 billion, anticipating the transaction to close by Q3 FY24. Mott is a leading player in the design and manufacture of sintered porous material structures and flow control solutions. I agree with the agreement for several reasons:

• Mott’s solutions have the potential to expand the applied technology of IDEX materials science. IDEX has grown its applied materials business over the past several years, and these mission-critical configurable components can contribute to higher gross margin for IDEX over time.
• The purchase price is roughly a mid-teens multiple based on forecasted 2025 EBITDA, making it a reasonably priced deal for IDEX in my view. Additionally, with Mott’s EBITDA margin in the 20s, the acquisition could improve IDEX’s overall margin profile.
• Finally, both companies serve similar customers; as such, IDEX can leverage its existing sales force to distribute more critical products and solutions. I anticipate synergies on both the revenue and cost sides.

In addition, IDEX divested Alfa Valvole for $45.5 million in cash. Given that IDEX acquired the company for €102 million in 2015, this was not a successful acquisition for IDEX. However, I think it makes sense to divest a low-growth company to optimize IDEX’s overall portfolio.

Project delay and weakness in the industrial and life sciences market

During the earnings call, management pointed to some project delays due to the upcoming U.S. election, as well as some softness in the overall industrial market. As a result, the company’s revenue fell organically by 4% in Q2, with orders increasing by 2%.

As indicated in my Inception Report, IDEX has a wide range of end market exposures and their growth is closely related to general industry activities. ConstructConnect publishes its project stress index monthly, and according to its most recent report in August, overall non-residential construction project backlogs were relatively high in the first half of 2024, but the stress index fell below the historical average in July. As such, I think project delays may be a temporary problem for IDEX, and the business will likely pick up in the second half of the year.

In addition to project delays in the industrial market, IDEX faces growth challenges in the life sciences and analytical instruments markets. As noted during the earnings call, the weakness was driven by destocking activities in distribution channels. Management does not anticipate a substantial recovery this fiscal year. I believe the underlying reason for the weakness in the life science and analytics markets is the high interest rate and tight capital funding environment. As Danaher ( DHR ) and Thermo Fisher ( TMO ) said during their most recent earnings calls, the overall life sciences market was weak in the first half of the year, and both companies anticipate that the market will gradually recover in 2025.

Outlook and DCF

Due to the quality of the industrial market, the company lowered its full-year guidance for both revenue and EPS, as detailed in the slide below.

We estimate increases for the three major segments as follows:

• Fluid & Metering Technologies: IDEX distributes pumps and water solutions, and I anticipate weakness in the agricultural market, partially offset by some stability in the municipal water market. As discussed earlier, project delays led to weak order growth in their fluid and measurement technologies. As such, we have forecast a 2% decline in revenue for FY24.
• Health & Science Technologies: Due to limited capital funding in the life sciences market, I expect analytical tools and life science to remain weak in FY24. Overall, the segment is likely to experience sluggish volume growth in FY24 and total revenues will decline by 5% in FY24.
• Fire & Safety/Diversified Products: I anticipate stable LSD growth in the second half of FY24 and IDEX to deliver 3% organic revenue growth for FY24.

Therefore, I calculate that IDEX’s organic revenue will decline by 2% in FY24. Additionally, I estimate IDEX’s organic revenue to grow 6.2% from FY25, assuming: Fluids and Measurement Technologies grow 5%; Health and Science Technologies by 8%; and Fire & Safety/Diversified Products by 5%, all in line with the historical average.

As discussed in my previous coverage, IDEX has been actively pursuing acquisitions to expand its portfolios. We estimate the company will allocate 10% of revenue to acquisitions, which will add 330 bps to the topline.

I calculate that IDEX will generate a 30 bps spread, driven by:

• Gross margin expansion by 15 bps due to new product offerings with higher ASPs
• Operating leverage of 8 bps from SG&A driven by economies of scale and leverage from the sales force
• 5 bps from R&D optimization

The DCF summary is as follows:

WACC is estimated at 8% assuming: risk-free rate 3.8%; beta 0.84; equity risk premium 7%; cost of debt 7%; equity balance $3.5 billion; debt $1.3 billion; tax rate 23%. The fair value of IDEX’s stock price is calculated at $220 per share.

Key risks

IDEX aims to deliver 80-100bps price-to-cost over the business cycle and delivered 100bps in the second quarter. However, with the rate of inflation returning to historical norms, I think it is unlikely that IDEX will reach the higher price-cost differential in 2025. Lower price growth will potentially hurt gross margin for IDEX.

Closing thoughts

Despite near-term challenges from project delays and weakness in the life science end market, I am confident in IDEX’s long-term growth opportunities. Active portfolio management allows the company to optimize its products and solutions while better leveraging the sales force. I reiterate a “Buy” rating with a fair price target of $220 per share.