ABB Shares Attractive Even When Factoring in a Slower 2023 Due to Potential Macro Headwinds

Equity Analyst

Matthew Donen

ABB generates around 40% of its revenue from electrical equipment and around 40% from industrial automation products. While it has low exposure to faster-growing software, it has a fast-growing robotics business, where it is the number-two global supplier; this contributes around 9% of revenue. We project 4% medium-term revenue growth for ABB. 

Automation is the fastest-growing category in the industrial space, and ABB has an enviable base of robotics and automation customers that puts it in a solid position for Industry 4.0, or the Industrial Internet of Things. Its robotics and industrial controller (used to program equipment) products have leading market share and enjoy loyal customer bases that would be difficult for competitors to capture. Furthermore, ABB’s electrification products division offers some overlap with other customer segments, such as process industries, that could prove useful in cross-selling the automation portfolio. 

However, growing demand from Industry 4.0 has meant that ABB and its close competitors have had to refresh their product offerings, acquiring or developing in-house industrial automation components and software. ABB has been slow to refresh its product offering and in some cases has had to turn to second-best choices. 

ABB's software strategy lags that of competitors like Siemens and Schneider. ABB has a hybrid strategy for its Industry 4.0 software, offering most of its equipment productivity and maintenance optimization software from its own developed software portfolio, while for design and simulation software, it has a partnership with Dassault Systemes. The partnership structure deprives ABB of the advantage of in-house development that Siemens and Schneider enjoy, as they offer similar software developed by in-house engineering teams.

Business Strategy & Outlook

We believe ABB has a wide moat based on its switching costs and intangible assets. ABB is the number-one or number-two supplier in all of its core markets, and its products are embedded in its customers’ processes.

The origins of the switching costs and intangible assets for the industrial automation and robotics and motion divisions, contributing a combined 50% of group EBIT before intersegment adjustments, are the same, and we consider these to be wide-moat businesses. Both are integrated into customers’ processes, with a high degree of technical skill. At their core, they both run machines and ensure efficiencies, as well as other operational performance metrics, through control systems. These involve a system of motors, sensors, and microprocessors that power equipment and simultaneously feed back key measurements into ABB’s control software. Measurements of temperature, vibration, power, and other elements enable the software to predict maintenance needs, as well as changes needed to meet performance requirements. Service and software constitute 41% and 16% of revenue for industrial automation and robotics and motion, respectively. 

Industrial automation deals with process automation—think of chemical plants, refineries, oil production, and food processing for items like yoghurts. Oil and gas customers make up nearly one third of this segment, and marine a similar amount. Both of these industries are running processes 24/7 and in potentially dangerous environments, and therefore tend to be very conservative when it comes to picking suppliers. In marine, the company has a monopoly on electric propulsion systems. But the most common product in this segment is the control system. 

Robotics and motion deals with discrete automation, which is the control of objects. But for ABB, this essentially means control of its robot fleet. ABB is the number-two industrial robotic arm supplier, behind Fanuc and ahead of Kuka and Yaskawa. Most of its robots are controlled by algorithm-based software and connected to its data centers. ABB continuously draws data from the robots across all customers, feeds the data into algorithms to extract performance improvements, and then distributes those updates to all of the robots online at its customer premises. This has three benefits to ABB: a regular revenue stream, greater customer dependency on its systems to meet performance targets, and an informational advantage over its competitors. This division also sells motors and drives (control the speed of the motors), where ABB is the number-one supplier in both segments. 

The company also supplies medium- and low-voltage products to the industry, utilities, and in buildings through its electrification products division, which generates 35% of group EBIT before intersegment adjustments. We would argue that this is a strong narrow-moat segment, but we hesitate to assign a wide moat rating because the life of some of the components is shorter than that of high-voltage equivalents, and for supply to buildings, customers may move premises within a 10- to 20-year time frame. This segment offers equipment for local substations as well as components for in-building electricity distribution. As with power grids, customers look to suppliers to ensure constant energy supply and tend to stick with known suppliers. For buildings, ensuring clean power supply is critical, as large pieces of equipment (like air-conditioning systems in the summer) can create distortions in in-building electrical transmission and disrupt supply. Many modern electrical components contain software, such as smart meters, and integrating all of a building’s components to guard against power supply disruptions requires a high level of design and engineering skill.

Wide

Economic Moat

ABB Ltd.

ABB Ltd. is a technology company, which engages in the development and provision of electrification, motion and automation solutions. It operates through the following business segments: Electrification, Motion, Process Automation and Robotics & Discrete Automation. The Electrification segment manufactures and sells electrical products and solutions which are designed to provide safe, smart and sustainable electrical flow from the substation to the socket. The Motion segment manufactures and sells drives, motors, generators, traction converters and mechanical power transmission products that are driving the low-carbon future for industries, cities, infrastructure and transportation. The Process Automation segment develops and sells a broad range of industry-specific, integrated automation and electrification and digital systems and solutions, as well as digital solutions, life cycle services, advanced industrial analytics and artificial intelligence applications and suites for the process, marine and hybrid industries. The Robotics & Discrete Automation segment delivers its products, solutions and services through two operating Divisions: Robotics and Machine Automation. The company was founded on January 5, 1988 and is headquartered in Zurich, Switzerland.

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