Software solutions conglomerate Roper Technologies, Inc. (ROP) is an underrated dividend growth stock that we have previously covered in November. The company’s low dividend yield may turn off dividend investors, but it has actually raised its dividend payout for each of the past 27 years. With the volatility in the markets and the economic disruption that is currently taking place, investors may be wondering whether Roper Technologies’ recent fall from 52-week highs is a sign that the company may be in trouble. In this article, we will outline why the company’s financial structure signals durability and strength, and why we believe that the current stock price of Roper Technologies represents an attractive opportunity for long-term investors.
The Business Model Is High-Margin With Low Capital Requirements
In the current reality of the business environment, the containment measures being implemented to slow the spread of the coronavirus are wreaking havoc on various sectors. Many businesses are seeing a systemic shock from the sudden decline in economic activity. Many types of businesses are already seeking government bailouts (airlines, cruise lines), and others are seeing profitability plummet (oil and gas).
So, when we look at businesses that are best equipped to survive this crisis and thrive coming out of it, we look at companies that have high degrees of profitability and that require little capital to generate cash flow.
Roper Technologies fits this description well. The company has consistent/expanding margins and converts more than 27% of its revenues into free cash flow. Part of the reason that the company generates strong cash flows, is that it spends so little on CAPEX – just over 1% each year. Roper Technologies has such light capital requirements that its net working capital as a percentage of revenue has actually been negative over the past three years. In other words, its negative net working capital is actually a source of cash for the company.
Balance Sheet Provides A Buffer, And Possible Opportunity
With Roper Technologies being such a strong cash-generating business, it takes some pressure off of the balance sheet. However, the balance sheet is very important for Roper Technologies for another reason. The company grows via an aggressive M&A strategy. Management identifies assets that fit the overall “model” of Roper Technologies (high-margin, niche, require little capital input) and pursues them. These acquisitions are funded with a combination of cash and issued debt. (Note: We review the business model and growth strategy of Roper Technologies in more detail here.)
So our focus then moves to a scenario-based question. In the event of an economic disruption, is Roper Technologies positioned to absorb the pain of reduced operating results? We find the answer to be “yes”.
The company is currently carrying a healthy cash position of just over $709 million. With gross debt at $5.27 billion, its leverage ratio stands at 2.69X EBITDA. This is typically approaching the higher end of what we like to see as far as leverage, but the company’s strong cash position and low capital requirements alleviate concerns. Credit agencies agree – Roper Technologies carries investment grade ratings from agencies such as Moody’s and S&P.
It actually wouldn’t surprise us to see Roper Technologies take advantage of the current environment to pursue strategic assets at more attractive valuations. In the unfortunate scenario that coronavirus causes extended economic disruption, cash0strapped companies may be more willing to sell assets at reasonable valuations to raise cash.
Dividend Is Safe
While Roper Technologies has been increasing its dividend for 27 years, the dividend itself is a very small cash expense for the company. Just 13.7% of its cash flow is directed to cover the dividend payout. Roper Technologies spends little on buybacks as well – most of the company’s cash is actually pumped back into the business to fund its growth via its M&A action plan.
The dividend being such as small expense means that even if Roper Technologies were to have a down year from the current economic disruption, the dividend is in little danger. Over the past five years, the payout itself has grown at a CAGR of 18.3%. The company may play it safe and scale back dividend growth some during this crisis, but we expect consistent increases in the 10%+ range moving forward.
Valuation Is Attractive
Roper Technologies is exactly the type of business model that we look for in a period of economic uncertainty. The fact that the stock price has fallen along with the broader markets only makes it more appealing, in our view.
Analysts are currently projecting the company to earn $13.36 in FY2020 (roughly 10% Y/Y growth), resulting in an earnings multiple of 21.29X. This is a 15% discount to the stock’s 10-year median P/E ratio of 24.97X. Back in November, we issued a “Bullish” rating when the stock was trading at a slight premium to historical multiples. Rather than buying quality at a “fair price”, the rough 20% slide since our last coverage has presented an actual value-based opportunity for long-term investors.
Roper Technologies is difficult to project out too far because the company is so active in M&A. What investors need to focus on here is that the business maintains its identity (strong cash generation, low capital requirements, M&A execution, and solid balance sheet). If these core competencies remain intact, Roper Technologies will continue to create value for investors. We continue to have a favorable view of the company’s execution, so we like the stock anytime it’s trading at an attractive multiple. The current market volatility is putting Roper Technologies on sale.
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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.