How This Solid Old Economy Company Keeps Beating Tech Stocks

old economyYou have to like the water heater business. Until I came across A. O. Smith Corporation (AOS), I never knew the mature business of hot water could be so lucrative. It’s just another esoteric, old economy–type industry with stability and consistency.

The company reported solid top-line growth of $549.1 million for a gain of 13% over the second quarter of 2012. This is way better than more nimble, seemingly faster-growing businesses, even in technology.

The company’s second-quarter earnings were $42.1 million, or $0.45 per share, compared to $35.0 million, or $0.38 per share year-over-year.

Like many corporations, part of the earnings gain was due to cost control and consolidation of production. Unlike many corporations, double-digit top-line growth in such a mature industry is a reality.

Company management cited improving economic conditions in the North American market and, more specifically, the recovery in new housing as reasons for the solid revenue gain.

Second-quarter sales in North America grew six percent to $389 million, versus $366 million comparatively.

A. O. Smith’s company-branded sales in China grew 35%. Sales for China, India, and Europe increased 33% to $169.5 million. Total sales in China grew $37.0 million to $143.6 million. Growth in that market was due to increased demand for premium water heating and water treatment, according to the company.

A. O. Smith’s cash position improved by $100 million to $366 million. Long-term debt fell, and shareholders’ equity rose.

All in all, for such a mature company and industry, the enterprise reported an excellent quarter once again.

Management expects its Chinese business to grow by 18% this fiscal year. The company increased its 2013 full-year guidance for generally accepted accounting principles (GAAP) earnings to between $1.62 and $1.68 per share. Adjusted earnings are expected to be between $1.84 and $1.90 per share.

For the next several years, the company is targeting organic top-line growth of approximately seven percent per year.

On the stock market A. O. Smith has been a huge winner the last while, and the market is paying for its consistency. (See “Super Stocks—Great Companies for Any Stock Market Portfolio.”) Every equity market portfolio needs to have an old economy business similar to this. It’s not exciting, it’s not fancy, but it’s a good business that earns.

And what I also like about a business like this is the way it’s expanding internationally. It hasn’t gone wild in emerging markets. So many companies have run into problems with new operations in China. Management has slowly and deliberately expanded in faster-growing markets, employing baby steps. This minimizes risk and costs.

Wall Street upped its earnings estimates on the company across the board this year and next. The stock currently boasts a dividend yield of approximately 1.2% and the company’s forward price-to-earnings ratio is around 19.

Being a substantial stock market winner, it’s odd to think of a water heater business as being a momentum play. But that’s what it is in this market—a market that pays for consistency.

In any case, A. O. Smith is worth putting on your radar screen. New home building and emerging markets underpin solid fundamentals for this old economy industrial goods company.