Pentair's growth starts overseas

Investors who thought Pentair Inc. was just a maker of water filters and pumps for American homeowners might want to take a closer look at the company's portfolio.

The maker of Everpure water filters has been on a growth tear overseas, pushing its water treatment systems in Europe, India and Asia. Thanks in part to the weak dollar, this international expansion has given Pentair a significant earnings boost at a time when its domestic business is struggling.

Like many consumer-products manufacturers, Pentair was expected to be hard hit by the housing market slowdown. Instead, the Golden Valley-based company in April reported a 5 percent first-quarter profit gain. Excluding a one-time charge stemming from the sale of its pool tile business, Pentair's earnings from continuing operations rose a robust 23 percent to $52.6 million from $42.6 million a year earlier.

Yet, the stronger results haven't translated into a stronger share price. The stock has been treading water since the company announced its quarterly results on April 22 and is virtually unchanged from a year ago. At $36 a share, the stock trades at 17 times earnings, or an average discount of 14 percent to its peers in the industrial equipment sector.

Growing abroad

The relatively low valuation reflects fears that the nationwide housing and commercial construction markets will continue to deteriorate in the second half of 2008, dampening demand for Pentair's household filters, pumps and pool and spa equipment.

Yet, just over 50 percent of Pentair's sales are tied to the residential and commercial markets, according to James Lucas, an analyst at Janney Montgomery Scott in Philadelphia. Many investors have not given Pentair enough credit for the other half of its business -- including its expanding holdings overseas -- that is doing well, he said.

"If you pull back the layers of the onion, they've made some smart investments in areas that are growing," he said.

Since early 2006, Pentair has acquired a German maker of wastewater pumps and a Chinese manufacturer of pressure tanks and water filtration systems. The company recently was chosen to install the drinking-water system for the new airport in Shanghai. Pentair's sales outside the United States topped $1 billion last year, and now make up 32 percent of its total sales, according to Janney Montgomery.

Those overseas investments are paying handsome dividends. Internationally, Pentair's sales are growing at a double-digit rate and have acted as a buffer against softness in the North American market. Sales in Europe, the Middle East and Africa rose 17 percent in the quarter ended March 29. However, Eastern Europe and the Middle East grew almost 50 percent, and Asia was up 23 percent.

The dollar's fall against many major currencies, particularly the euro, has helped Pentair by making its products relatively cheaper abroad. "You wouldn't think that Kansas City would be a low-cost manufacturing locale, but quite frankly, they can be competitive on many projects overseas because of the weak dollar," Lucas said. Kansas City is home to Pentair's Fairbanks Morse pump subsidiary.

The long view

The company's aggressive international expansion is one reason that Mark Henneman, co-manager of the Mairs and Power Growth Fund Inc. in St. Paul, is optimistic about the stock. Mairs & Power is one of Pentair's largest shareholders with 3.49 million shares, or 3.5 percent of the company's stock.

Henneman thinks Pentair has strong long-term growth potential -- particularly if the housing market rebounds -- but he's waiting for the stock to dip back to about $30 a share before he buys again. "I consider it one of the few attractively valued industrial names out there," he said.

Even so, because Pentair's return on capital is lower than most of its peers, "a premium valuation is currently not warranted," Lucas said of Janney Montgomery. To boost that return, the company will have to invest its capital more efficiently, and that includes stock buybacks, debt reduction and internal growth investments.

Lucas has a "neutral" rating on the stock, but he said the rating is based on the company's earnings potential over the next three to four quarters. Weakness in the housing sector will continue to weigh on the stock through the second half of 2008. He has a 12-month price target of $40 a share.

But longer term, the company will see the benefits of its investments overseas as well as a potential rebound in the U.S. housing market, Lucas said.

Chris Serres • 612-673-4308