United Technologies Corporation (NYSE: UTX) reports its third-quarter earnings on Oct. 24, and there's a lot for investors in the company and the industrial sector at large to focus on. Here are the key things for investors to look out for in each of United Technologies' four segments.
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Pratt & Whitney's geared turbofan
The key to Pratt & Whitney's future is its geared turbofan (GTF), and investors should follow management's guidance and commentary closely. In truth, the GTF has had teething problems that have disaffected airlines and airplane manufacturers Airbus and Bombardier.
Part of the problem is that management missed its target of producing 200 engines in 2016 by building only 138, and it still faces questions over technical issues (carbon seals and combuster liners). Consequently, industry analysts see GTF orders significantly trailing behind those of General Electric Company's LEAP engine in 2017 -- the two engines are competing on the Airbus A320neo family.
As such, there are four things to look out for:
- Management's affirmation of a GTF production target of 350-400 engines in 2017.
- Updates on the technical issues: Many carbon seal retrofits were made in May, and the combuster liner upgrade is supposed to be available in October.
- Commentary on GTF orders versus General Electric's LEAP on the Airbus A320neo.
- Outlook statements regarding negative engine margin -- losses taken as GTF sales increase before aftermarket sales kick in and offset them -- which is currently expected to peak at $1 billion in 2018.
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Otis in China
The company plans to increase unit equipment orders, particularly in the key China market, in order to generate more-profitable long-term service orders. The good news is that better-than-expected economic growth in China in the first half helped Otis to relatively better performance.
It's not that Otis' China sales are increasing -- they declined 12% in the second quarter -- but that unit equipment orders are improving, and pricing is getting relatively better in China. For example, in the first quarter, a 1% increase in unit equipment orders led to a 10% decline in dollar terms, but in the second quarter, a 7% increase in unit orders led to a 3% increase in orders in dollar terms.
In short, let's see if Otis' relative improvement carries through into the third quarter, or if perhaps it was merely a function of the Chinese economy in the first half.
Climate, controls, and security
So far in 2017, management has achieved its aim of improving the climate, controls, and security (CCS) segment's equipment orders, and there is reason to believe they are being conservative with guidance. For example, CCS organic sales increased 2% in the first quarter, and then 5% in the second quarter, but management continues to expect CCS organic sales to increase in low single-digits this year.
In other words, don't be surprised if organic sales are good at CCS, but on a more negative note, CCS margin (see chart of orders and margin below) continues to contract, with management naming a litany of reasons: contract adjustments, acquisition impacts, research & development costs, unfavorable sales mix, unfavorable geographic mix, and newer product sales.
In short, look out for CCS equipment orders growth and guidance while hoping that margin makes an improvement.
UTC aerospace systems
The segment's overall sales are in line with guidance, but the mix hasn't been as expected. Specifically, aerospace commercial original equipment sales (OE) have been weaker than expected -- ongoing weakness in wide-body jets, business, and regional jets -- while aftermarket sales have been good.
UTAS commercial aftermarket sales increased 12% and 7% in the first two quarters, but OE sales increased just 2% in the first quarter only to decrease 8% in the second quarter. Management expects commercial OE sales to be "flattish" for the full year, so investors should look out for some improvement in the third quarter.
The key issue will be the company-specific issue of the GTF, but the question of just how much China's growth in the first half helped CCS and Otis will also become clear with the third-quarter results. If China's growth slows, then United Technologies could be affected. Moreover, in the light of the intended Rockwell Collins acquisition, investors will want to closely follow aerospace OE trends.
If United Technologies reassures investors that it's on track in 2017, then the stock price could appreciate, but there is a lot of work for the company to do.
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