Wabtec reported second-quarter diluted EPS of $0.91, an 18% increase from the prior year and better than both consensus of $0.87 and our $0.86 estimate. While sales were slightly lower than expected, stronger operating margins (+$0.04), and a lower tax rate (+$0.01) accounted for the $0.05 upside to our forecast. Second-quarter sales of $731 million rose 15% year-over-year, slightly below our $738 million forecast and consensus expectations. Both freight group ($411.5 million versus our $415.5 million forecast) and transit group ($319.6 million versus our $322.8 million forecast) sales trailed projections.
Revenues expanded 16% for the freight segment and 13% at transit. Stronger freight revenue growth is very positive, given freight’s operating margins are nearly twice the transit segment’s. Gross margin of 30.7% rose 50 basis points from the year prior and exceeded our 30.0% forecast. The effective tax rate of 30.7% was 130 basis points lower than the year prior and below our 31.4% forecast. Based on Wabtec’s first-half results and outlook for the rest of the year, the company increased its 2014 guidance for EPS to approximately $3.52 (previously $3.45), with revenues expected to rise about 15% (no change) in 2014. Prior to today’s earnings release, our model had assumed 15% revenue growth (consensus was at 15%) and EPS of $3.45 (consensus was at $3.49).
During the quarter, Wabtec repurchased 194,700 shares for $14 million. The company has $184 million remaining on its recently approved $200 million sharerepurchase authorization. Wabtec had cash of $226 million and debt of $501 million, for net debt of $275 million at the end of the second quarter. Net debt to total capital was approximately 12.5%, up from 7.3% in the year-ago period. Cash flow from operations in the quarter was $111 million, or 15% of sales. We are raising our 2014 EPS estimate to $3.55 (previously $3.45) and our 2015 EPS estimate to $4.05 (previously $3.95), representing a 14% increase for 2015 EPS. We continue to project a 15.0% gain in 2014 sales, to $2.95 billion, with operating margins expanding 70 basis points, to 17.7%.
We maintain our Market Perform rating but are increasing our 12-month price target for Wabtec to $80 (previously $70). This assumes the shares trade at a 35% relative P/E premium (up from 30% previously) to FactSet’s 2014E S&P 500 P/E multiple of 16.7 times and based on our revised 2014E EPS of $3.55. Our higher relative valuation reflects stronger PTC growth in 2014 and 2015 of 20%-25%, versus 10%- 15% previously, reflecting resolution of prior U.S. regulatory roadblocks.
Brian Browning covers the software industry. He joined StreeWise Journal’s Software research team in 2013. Prior to that, Brian spent 10 years following the software industry at other firms, most recently at Greenlight Research, where he covered mid-cap technology stocks.