Elevator Pitch: Long Veralto (NYSE: VLTO)

Best-in-class capital allocator with 6x more FCF after spin-off

See my deepdive on VLTO 0.00%↑ here.

Veralto (NYSE: VLTO) is a recent spin-off from Danaher (NYSE: DHR)

1. 60% revenue is from water testing and treatment (Water); 40% from package marking, code printing, design software, and color management (Product ID)

   1. Asset-light: 97% FCF Conversion

   2. Resilience: 57% recurring sales

   3. Mission-critical: 2-10x cost of failure for clients

   4. Pricing Power: <1% clients’ OpEx

2. It is a category leader in both end markets, it protects drinking water for 40% population and processes 90% packaged supermarket goods in US/West EU

Stock Set-up

1. It is trading at $17B market cap and 20x LTM P/E

2. Selloff pressure from ETF/Index/mutual funds provides attractive buying opportunities

3. Very limited sell-side research and virtually no hedge fund ownership led to market misunderstanding

Thesis 1

1. Before separation, VLTO transferred 85% FCF to parent that prioritizes on other segments. Even with such underinvestment in the past 2 decades, VLTO still delivered 80 M&As at 20% ROIC, with 9.5% sales and 11% operating profit CAGR

2. Now it keeps 100% FCF at its own disposal, 6x more than before! This enables it to unlock massive untapped M&A opportunities in a sector where there’s 1 M&A every 1.4 days

Thesis 2

1. Tighter regulation and leading technology enable VLTO to steal market share from smaller players

   1. Expert: “once the states tighten the regulations, that is where we have no other choice but to purchase reactors from bigger companies like VLTO.”

   2. Hard-to-get-rid-of PFAS contaminant is found in 45% of US tap water, while VLTO’s offering is one of very few feasible solutions

2. VLTO can also leverage pricing power and cross-selling to monetize on sticky installed base

Thesis 3

1. Against peers’ average, VLTO has 9% higher operating margin, 13% higher FCF conversion, and 12% higher ROIC. However, VLTO is still trading at 47% P/E discount and 43% EV/EBIT discount

2. So, we expect a significant multiple rerate in the near future

See my deepdive here.

Thanks for reading, hope you enjoyed it :)

Jarvis (Incremental Edge)