Trane Technologies Earnings: Commercial Demand More Than Offsets Normalizing Residential Market

Trane Technologies TT turned in another strong quarterly financial performance, with second-quarter revenue growing 11% on an organic basis, adjusted operating margin expanding 110 basis points to 18%, and adjusted EPS 24% higher than the year-ago quarter. As we expected, the United States residential heating, ventilation, and air conditioning market is normalized after two years of above-average demand. Trane’s management expects unit volumes to decline by a high-single-digit percentage, in line with our forecast (we see industry shipments falling about 8% this year). We estimate residential HVAC accounts for roughly 20% of consolidated revenue, but robust global commercial HVAC demand (commercial HVAC is about 60% of revenue) has more than offset the residential market headwinds. Indeed, commercial HVAC revenue was up by a low-teens percentage year over year in both the Americas and Europe, Middle East, and Africa regions, and the Asia-Pacific region saw a 45% increase in commercial HVAC revenue against an easy prior-year comparison, largely due to lockdowns in China last year. Finally, Trane’s transportation refrigeration business (roughly 20% of sales) remains on track to outperform its end markets this year.

Management now expects full-year organic revenue growth of 8% (7%-8% previously) and adjusted EPS of $8.80-$8.90 ($8.30-$8.50 previously). We’ve raised our fair value estimate 7% to $152 per share, primarily due to our more optimistic profit margin outlook. We now model adjusted operating margin will average about 16% over the next four years with a 15% midcycle assumption, which accounts for Trane’s cyclicality. Our revised profit margin forecast is about 50 basis points higher than our previous projection, on average. Even so, Trane’s current stock price is about 35% above our new fair value estimate, and based on FactSet forward estimates, the stock trades at a premium to peers Carrier, Lennox, and Johnson Controls.