3 Industrials Stocks That Fall Short

Even if they go mostly unnoticed, industrial businesses are the backbone of our country. Their momentum is also rising as lower interest rates have incentivized higher capital spending. As a result, the industry has posted a 36% gain over the past six months, beating the S&P 500 by 13.2 percentage points.

Regardless of these results, investors should tread carefully. The diversity of companies in this space means that not all are created equal or well-positioned for the inescapable downturn. Keeping that in mind, here are three industrials stocks we’re passing on.

Quanex (NX)

Market Cap: $695.7 million

Starting in the seamless tube industry, Quanex (NYSE:NX) manufactures building products like window, door, kitchen, and bath cabinet components.

Why Are We Cautious About NX?

1. Earnings per share fell by 9.6% annually over the last two years while its revenue grew, showing its incremental sales were much less profitable
2. Capital intensity has ramped up over the last five years as its free cash flow margin decreased by 6.2 percentage points
3. Diminishing returns on capital from an already low starting point show that neither management’s prior nor current bets are going as planned

Quanex’s stock price of $15.25 implies a valuation ratio of 7.8x forward P/E. To fully understand why you should be careful with NX, check out our full research report (it’s free for active Edge members).

Kratos (KTOS)

Market Cap: $15.08 billion

Established with a commitment to supporting national security, Kratos (NASDAQ:KTOS) is a provider of advanced engineering, technology, and security solutions tailored for critical national security applications.

Why Does KTOS Give Us Pause?

1. Capital intensity has ramped up over the last five years as its free cash flow margin decreased by 6.7 percentage points
2. Below-average returns on capital indicate management struggled to find compelling investment opportunities, and its decreasing returns suggest its historical profit centers are aging
3. Diminishing returns on capital from an already low starting point show that neither management’s prior nor current bets are going as planned

At $90.75 per share, Kratos trades at 137.4x forward P/E. Read our free research report to see why you should think twice about including KTOS in your portfolio.

Emerson Electric (EMR)

Market Cap: $74.96 billion

Founded in 1890, Emerson Electric (NYSE:EMR) is a multinational technology and engineering company providing solutions in the industrial, commercial, and residential markets.

Why Are We Wary of EMR?

1. Flat sales over the last five years suggest it must find different ways to grow during this cycle
2. Free cash flow margin dropped by 4.9 percentage points over the last five years, implying the company became more capital intensive as competition picked up
3. Shrinking returns on capital suggest that increasing competition is eating into the company’s profitability

Emerson Electric is trading at $132.99 per share, or 20.9x forward P/E. Dive into our free research report to see why there are better opportunities than EMR.

Stocks We Like More

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