A Quality Exec Comp Plan Lowers The Risk Of Investing In BWX Technologies

Recap from September’s Picks

The Exec Comp Aligned with ROIC Model Portfolio (+3.3%) performed in-line with the S&P 500 (+3.3%) from September 16, 2020 through October 13, 2020. The best performing stock in the portfolio was up 9%. Overall, nine out of the 15 Exec Comp Aligned with ROIC Stocks outperformed the S&P from September 16, 2020 through October 13, 2020.

Only my firm’s research utilizes the superior data and earnings adjustments featured by the HBS & MIT Sloan paper, “Core Earnings: New Data and Evidence.” The success of this Model Portfolio highlights the value of my firm’s Robo-Analyst technology[1], which scales forensic accounting expertise (featured in Barron’s) across thousands of stocks.

This Model Portfolio only includes stocks that earn an attractive or very attractive rating and align executive compensation with improving ROIC. I think this combination provides a uniquely well-screened list of long ideas because return on invested capital (ROIC) is the primary driver of shareholder value creation.[2]

New Stock Feature for October: BWX Technologies Inc. (BWXT)

BWX Technologies Inc (BWXT) is the featured stock in October’s Exec Comp Aligned with ROIC Model Portfolio.

BWX Technologies has grown revenue by 8% compounded annually and after-tax profit (NOPAT) by 15% compounded annually over the past four years. BWX Technologies’ NOPAT margin increased from 10% in 2015 to 13% over the trailing-twelve-months (TTM), while its invested capital turns improved from 1.2 to 1.3 over the same time. Rising margins and invested capital turns drive BWX Technologies’ ROIC from 12% in 2015 to 18% TTM.

Figure 1: Revenue & NOPAT Since 2015

Compensation Plan Properly Incentivizes Executives

BWX Technologies’ executive compensation plan aligns executives’ interests with shareholders’ interests by tying compensation to return on invested capital (ROIC). Apart from base salary and short-term incentives, BWX Technologies’ executives receive long-term equity compensation in the form of performance-based RSUs (60%) and time-based RSUs (40%). Half of executives’ performance-based RSUs are tied to the firm’s average annual ROIC during the three-year performance period and the other half are tied to earnings per share targets.

Per Figure 2, BWX Technologies’ inclusion of ROIC as an executive compensation metric has helped drive shareholder value creation. BWX Technologies improved its ROIC from 12% in 2015 to 18% TTM while its economic earnings increased from $82 million to $208 million over the same time.

Figure 2: BWX Technologies’ ROIC Since 2015

BWXT Is Undervalued

At its current price of $56/share, BWXT has a price-to-economic book value (PEBV) ratio of 0.9. This ratio means the market expects BWX Technologies’ NOPAT to permanently decline by 10%. This expectation seems overly pessimistic for a firm that has grown NOPAT by 5% compounded annually over the past five years.

Even if BWX Technologies’ NOPAT margin falls to 12% (vs. 13% TTM) and the firm grows NOPAT by just 3% compounded annually for the next decade, the stock is worth $70/share today – a 25% upside. See the math behind this reverse DCF scenario.

Critical Details Found in Financial Filings by My Firm’s Robo-Analyst Technology

As investors focus more on fundamental research, research automation technology is needed to analyze all the critical financial details in financial filings as shown in the Harvard Business School and MIT Sloan paper, “Core Earnings: New Data and Evidence”.

Below are specifics on the adjustments I make based on Robo-Analyst findings in BWX Technologies’ 10-Qs and 10-K:

Income Statement: I made $75 million of adjustments, with a net effect of removing $3 million in non-operating expenses (less than 1% of revenue). You can see all the adjustments made to BWX Technologies’ income statement here.

Balance Sheet: I made $277 million of adjustments to calculate invested capital with a net decrease of $54 million. One of the most notable adjustments was $80 million in asset write-downs. This adjustment represented 5% of reported net assets. You can see all the adjustments made to BWX Technologies’ balance sheet here.

Valuation: I made $1.1 billion of adjustments with a net effect of decreasing shareholder value by $1.1 billion. There were no adjustments that increased shareholder value. Apart from total debt, one of the largest adjustments to shareholder value was $169 million in underfunded pensions. This adjustment represents 3% of BWX Technologies’ market cap. See all adjustments to BWX Technologies’ valuation here.

Disclosure: David Trainer, Kyle Guske II, and Matt Shuler receive no compensation to write about any specific stock, style, or theme.

[1] Harvard Business School features the powerful impact of my firm’s research automation technology in the case New Constructs: Disrupting Fundamental Analysis with Robo-Analysts.

[2] Compare my firm’s analytics on a mega cap company to Bloomberg and Capital IQ’s (SPGI) analytics in the detailed appendix of this paper.