Powell Stock Outperformed The Market
Powell Industries, Inc. (NASDAQ:POWL) investors who waited for its steep pullback before buying its bottom in April 2024 have likely performed well. In my previous POWL article in March 2024, I urged POWL investors to remain cautious, as I assessed that POWL’s momentum could top. That caution panned out, as POWL fell almost 40% before bottoming in April, likely stunning investors. However, POWL dip-buyers returned with conviction, buying its bottom at the $120 level as POWL surged to a new high in May 2024. With POWL’s new-high formed, I assess that POWL stock’s uptrend continuation thesis has remained intact. While the downside over the past two weeks could have reignited fears in Powell stock, I have not assessed a need for investors to cut exposure significantly.
Powell’s Growth Could Slow Further
Powell’s fiscal second-quarter earnings release in late April underscored the robustness of POWL’s performance. Accordingly, Powell notched a revenue growth of almost 49% YoY, down from last quarter’s 53% growth. As a result, signs of a growth slowdown in Powell likely concerned investors, as Powell highlighted that the company already operates with “ramped-up capacity.” Consequently, Powell cautioned that the company faces “capacity constraints as a limiting factor, highlighting the challenge of maximizing leverage.” As a result, optimizing OpEx will be increasingly important as the opportunity for near-term operating leverage growth through capacity expansion could be limited.
Notwithstanding the near-term challenges, Powell Industries telegraphed its commitment to deliver “capacity expansion initiatives aimed at servicing current and future backlog.” Powell notched a robust backlog, reaching $1.3B in Q2, underscoring the visibility of its forward revenue potential. Powell added that the company anticipates its Houston products factory to be “completed by mid-Fiscal 2025.” Therefore, it should position the company well to capitalize on Powell’s solid growth opportunities across several industry verticals.
Powell’s Growing Data Center Opportunities
As seen above, Powell Industries still mainly depends on the oil & gas and petrochemical industries as its core revenue base. Accordingly, the oil and gas industry accounted for 42% of Powell’s revenue mix in the fiscal second quarter. Management indicated that near-term uncertainties over the LNG permitting challenges could lead to “potential delays in the timing of future projects within this sector.” We will unlikely get a resolution over this issue in the near term, with the 2024 US presidential election scheduled in November 2024. Despite that, the incredible revenue surge in the oil & gas (66%) and petrochemical (93%) segments underscores substantial opportunities across the energy value chain.
In addition, Powell also delivered 57% revenue growth in the commercial and other industrial vertical. The company also saw solid performance from its utility business, as revenue rose by 11% YoY. Accordingly, Powell management emphasized its growing exposure in the data center business, captured by its C&I segment. I assess that the secular growth opportunities to support long-term data center growth should afford a longer runway for Powell to exploit. Hence, it should help Powell diversify from the more cyclical energy-related revenue base, providing confidence for long-term investors to hold on to their bets. In addition, Powell is confident of “significant potential for further penetration within data centers, aiming to provide increased value within the data center’s infrastructure.”
As a result, investors should closely monitor the AI developments, which could drive a further valuation re-rating in POWL. Increased electrical energy requirements and complexities to power data centers are expected to benefit Powell. POWL has the ability to produce “customized and fully integrated power solutions within data centers to ensure reliability and uptime performance.” The AI hype cycle is also expected to broaden further into more industry verticals. Therefore, hyperscalers must invest more aggressively to ensure they have the necessary electrical energy infrastructure to meet increasingly intensive AI compute needs. Hence, Powell seems well-positioned to benefit from the secular AI growth opportunities if it can resolve its capacity constraints over the next year.
POWL Stock Is Still Valued Reasonably
POWL isn’t valued at a discount, but should it surprise you? After delivering a market-beating 1Y total return of more than 150%, earlier investors who anticipated the revenue growth infection have benefited tremendously.
Despite that, POWL is still assigned best-in-class “A” range grades across four of the five rated factor grades assessed by Seeking Alpha Quant. In other words, If POWL can execute well and actualize its “A+” growth grade, the expectation for a further valuation re-rating isn’t unreasonable.
Why? POWL’s forward adjusted P/E of 17.3x offers a 7% discount against Powell’s sector median. POWL’s forward adjusted PEG of 1.57 implies a 7% discount against its peers’ median. In other words, POWL’s valuation still seems reasonable, corroborating its robust “A+” momentum grade and justifying my bullish optimism.
Is POWL Stock A Buy, Sell, Or Hold?
POWL’s price action corroborates my belief that Powell’s bullish thesis is far from over. Buyers returned at the $120 level in April, helping POWL to bottom. It then staged an incredible recovery of over 70% before the recent pullback.
Therefore, buyers who missed adding POWL in April have another golden buying opportunity. However, I must highlight that I’ve not assessed a bullish reversal yet. In other words, POWL could face near-term downside as possible profit-taking intensifies. In addition, it’s likely that short-sellers might have reloaded their bets, thinking that POWL might not sustain its incredible double-digit growth rates. With POWL’s short-interest ratio above 20%, POWL is susceptible to near-term volatility as bearish investors bet on a further decline.
Therefore, POWL buyers must consider progressively adding to mitigate potential downside risks. While POWL’s valuation is still reasonable, it’s much less attractive than at the start of 2024. Furthermore, the discount relative to its sector median is no longer that appealing. Therefore, POWL might be prone to a broader consolidation (price action moving sideways) before potential buying accumulation picks up to help POWL resume its uptrend continuation bias.
Rating: Upgrade to Buy.
Important note: Investors are reminded to do their due diligence and not rely on the information provided as financial advice. Consider this article as supplementing your required research. Please always apply independent thinking. Note that the rating is not intended to time a specific entry/exit at the point of writing unless otherwise specified.
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