The Toro Company

Moat: 2/5

Understandability: 2/5

Balance Sheet Health: 3/5

The Toro Company designs, manufactures, markets, and sells professional and residential equipment and irrigation systems.

Investor Relations Previous Earnings Calls

The moat, understandability, and balance sheet health scores reflect a conservative evaluation to ensure a margin of safety in any assessment.

The Toro Company (TTC) is a global provider of outdoor maintenance and turf care equipment.

Business Overview

The Toro Company is organized into two main segments:

  • Professional: This segment offers a wide range of products, such as golf course maintenance equipment, landscape and grounds care equipment, and underground construction equipment. This segment constitutes the majority of the company’s revenues, making up about 70-75% of the revenue. The primary customers are professional users, like golf courses, and commercial landscapers, as well as government entities.
  • Residential: This segment sells lawn mowers, snow blowers, and other residential lawn maintenance equipment, and accounts for approximately 25-30% of the company’s sales.

The Toro Company operates in a seasonal business, and they report the best sales in the first half of the fiscal year, i.e., winter and spring, for professional products, and late spring for the residential segment.

Revenue Distribution

TTC’s revenue is primarily distributed across the following regions:

  • United States: The largest source of revenue, particularly for the professional segment, is generated from sales within the United States.
  • International: TTC has international operations in Asia, Europe, the Middle East, and South America. International sales are growing as compared to the US market.
  • Technology Adoption: There is a clear trend towards adopting autonomous equipment, AI, and other technologies, as well as electric and battery-powered machines in landscaping and turf care.
  • Sustainability: A rising focus on environmental sustainability is leading to higher demand for electric and battery-powered equipment over fossil fuel machines.
  • Infrastructure Spending: Government infrastructure and construction programs in different geographies, along with increased demand for irrigation and water management systems, are expected to drive growth in the company’s professional segment.
  • DIY Market: The residential market is influenced by the do-it-yourself (DIY) trend and home improvement projects. There is a growing demand for smaller, more affordable tools and equipment that homeowners can use.

Competitive Landscape

The Toro Company operates in a fairly competitive market, with competition arising from larger competitors as well as emerging startups. It competes with companies like Deere, Husqvarna, and Stanley Black & Decker in the professional and residential turf care equipment industry. While it has some geographical strongholds and distribution advantages, they are not strong enough to provide an economic moat. Moreover, the entry barriers are low due to minimal R&D required in most segments.

Financial Analysis

Recent Performance

  • In the first 3 months of fiscal year 2024, TTC’s net sales increased by 22.5%, primarily due to pricing increases and improved demand.
  • Earnings in Q1 2024 saw a significant bump, with diluted EPS up 32.5%.
  • A key driver for this has been increased operational efficiency and a focus on strategic pricing.
  • Net sales for the first 9 months of fiscal 2024 were up 14.2% as compared to first 9 months of 2023.
  • They have revised their revenue projections for 2024 upwards.
  • For 2024 fiscal, earnings are projected to increase between 11 to 13%.

Margins and Profitability

*Gross profit margin for the last three fiscal years has been over 34% and has grown as they have implemented price increases.

  • Operating margin has also increased significantly in the recent quarter, showcasing a better pricing strategy and better control over costs.
  • The company’s return on assets (ROA) and return on equity (ROE) are in a healthy range.
  • They are targeting a 20% ROIC by 2025.

Balance Sheet Health

  • TTC’s financial standing can be regarded as reasonably healthy with sufficient liquidity.
  • They have total debt of about $2.4 billion as of October 2023, with long-term debt making up most of the total debt.
  • Interest coverage is high, showing that they have no problem in meeting its debt obligations.
  • The Debt/Equity ratio is 1.8 (2.1 including finance division), which means the total debt is a bit higher than the equity.
  • However, the company has a robust track record of generating positive cash flows.
  • Inventory management seems to be a problem as it fluctuates widely quarter over quarter.
  • Good level of cash on the balance sheet.

Moat Analysis

TTC has a narrow economic moat, mainly attributed to its brand name, distribution network, and switching costs. However, this moat is under continuous risk from innovation and new competition.

Strengths:

  • Brand Recognition: TTC enjoys a strong brand presence in the outdoor equipment and turf care market, which helps it in retaining existing customers and attracting new ones.
  • Distribution Network: With its large network of dealers, TTC is well-positioned for the distribution and sale of its products. This gives them an advantage over competitors with a relatively smaller distribution network.
  • Switching Costs: The reliance on the product line of TTC and specialized dealer networks for maintenance and parts creates a switching cost for customers. This allows the firm to sell products and parts over the life of its products.

Weaknesses:

  • Limited Differentiation: The company’s products, although high-quality, are not very differentiated from competitors, leading to lower pricing power.
  • Low Barriers to Entry: The barriers for new entrants are fairly low, resulting in a highly competitive industry.
  • Dependence on Seasonality: Sales are highly dependent on the season, thus creating a degree of revenue volatility.
  • Technological Disruption: The risk of a technological shift in the industry which may render its current equipment less effective.

Based on these factors, TTC’s moat is rated 2/5.

Risks to the Moat and Business Resilience

  • Competition: The biggest risk comes from increasing competition, which could squeeze the company’s market share, profitability and prices.
  • Commodity Prices: The company is also exposed to the volatile prices of steel, aluminum and other metals, which can impact profitability.
  • Technological Changes: New technological developments like autonomous robots and AI-driven solutions can become disruptive to its business, if TTC is slow in adopting them.
  • Currency Risk: The business has international operations so it is exposed to currency risk fluctuation.

TTC is moderately resilient to these threats. Given the brand, distribution network, and customer relationships, the company should be able to weather most of the short-term effects of these threats. However, the company needs to stay ahead of the competitors and focus on innovation to generate long-term value.

Understandability Rating

TTC’s business can be rated at a 2/5 because of the relative simplicity of their business operations, and the general understanding of its industry. That said, there is some complexity in financial statements due to various segments, especially as their financing division can change the financial ratios significantly, and it might take time for a new investor to be able to fully understand them.

Recent Concerns/Controversies and Management Perspective

  • Supply Chain Issues: Although the management believes supply chains are finally becoming stable, supply chain disruptions and volatility in the past few years and especially in 2022 impacted manufacturing costs, operations, production, and revenues. The company has focused on improving its supply chain and has a diversified network.
  • Currency Headwinds: The company’s management acknowledges currency exchange issues, particularly because the company also has international exposure to revenue. They are constantly monitoring foreign exchange and adapting to price increases to offset negative currency impacts.
  • Impact of Economic Slowdown: Although some segments are affected more than others, macroeconomic factors might have an impact on the business, so the company is constantly reevaluating pricing and is also working to identify new growth areas.
  • Guidance: They are projecting revenue growth for 2024 to be around 10% and earnings to be around 11 to 13%.
  • Acquisitions: On August 2023 they acquired Left Hand Robotics. This expands their presence in AI and automation, and the management expects it to have a positive impact on results.
  • Share repurchases and dividends: TTC actively repurchases its own shares, which reflects management’s view that the stock is undervalued and they will continue to do this whenever it makes business sense. Also, they pay out dividends on their stock.
  • Climate change: the company recognizes the effects of climate change on their business, and they claim to have taken many steps toward reducing the carbon footprint. They are seeing some increase in demand for battery-powered products because of climate-related concerns.

In summary, The Toro Company is a well-established business in a reasonably predictable industry. They have good financials but do have a high debt, so that has to be monitored. Their earnings and operations have improved in the recent few quarters, with the management being confident about future opportunities and profitability. Their moat, however, has some structural disadvantages and they need to work hard to protect it.