Is Illinois Tool Works a Good Stock to Buy?

$28 billion industrial equipment and machinery company Illinois Tool Works Inc. (NYSE:ITW) is up 35% over the last year, and reported higher earnings in Q2 than a year ago. The company’s revenue was actually about flat in the second quarter, but management decisions brought income from continued operations up by 9% and this joined with strong earnings from discontinued operations (the sale of some of Illinois Tool Works’s operations) to push net income higher. With share count falling, earnings per share from continuing operations were up an impressive 16%. This performance came after a fairly poor first quarter, however, and continuing-operations income per share for the first half of 2012 was actually down slightly. The company attributed its growth during the second quarter to strong demand in North America across many of its business segments.

Sandy Nairn

The stock’s trailing earnings multiple is 12, though that figure is deflated due to the abnormal income Illinois Tool Works Inc. got out of its business sale. It may be more reliable to consider the company’s earnings multiple based on forward estimates, which comes out to 13. This still is fairly low for a large company ($28 billion market capitalization) with a considerable dividend yield of 2.5%. The company has good recent performance, and so should be able to continue to get some growth in earnings per share to accompany a pretty fair multiple (though possibly not as low as some other industrial stocks). The stock’s beta is 1.3, which suggests that it fluctuates much in line with market movements even though the figure is not particularly high for an industrial company.

Ralph Whitworth’s Relational Investors nearly doubled the size of its position in Illinois Tool Works Inc. between April and June, reporting ownership of nearly 15 million shares at the end of the second quarter (see more of Ralph Whitworth’s stock picks). The company was also one of Sandy Nairn’s top picks, as he and his team at Edinburgh Partners had 4.2 million shares in their portfolio (research more stocks the Edinburgh Partners owns). Diamond Hill Capital, managed by Ric Dillion, was another hedge fund reporting a large position in the stock; it slightly reduced its stake during the second quarter, but still owned 2.3 million shares. This gave it over $100 million invested in the company at that time (find other stocks that Diamond Hill has invested over $100 million in).

Two peers for Illinois Tool Works are Cooper Industries plc (NYSE:CBE) and Manitowoc Company, Inc. (NYSE:MTW). These companies trade at higher multiples on a trailing basis, but Manitowoc at least is expected by Wall Street analysts to see strong growth in the next few quarters: its forward P/E multiple comes in below that of Illinois Tool Works, at 9. Its revenue and earnings have been growing but we would note that it is extremely dependent on the broader economy with a beta of 3.7. Its market cap of $1.7 billion is also considerably smaller. Cooper, meanwhile, trades at 15 times forward earnings estimates but turned in 7% revenue growth and 17% earnings growth last quarter versus a year earlier.

Other large-cap diversified machinery companies include Cummins Inc. (NYSE:CMI) and Danaher Corporation (NYSE:DHR). Cummins is a potential value play, trading at 9 times both its trailing earnings and analyst expectations for its earnings next year. However, the diesel and natural gas engine company saw small decreases in revenue and earnings in the second quarter of the year compared to the second quarter of 2011. Danaher, which manufactures measurement instruments, carries a forward P/E of 15- a small premium over Illinois Tool Works, and its dividend is small. Unless its industry is particularly attractive, it might not be as good a buy.