A. O. Smith (AOS)

Total return at 5 years: 9.6%/year = 6.9% appreciation + 2.7% dividend. The target price ($79) is ex-dividend; the $9 in dividends collected over 5 years are added separately.

By both methods, the value today (DCF $97 · Multiples $71) exceeds the market price ($57).

Today — fairly valued: at $57 trades ~20.5% below its value discounted to today (~$71); the discount is positive but does not reach the margin of safety we require (≥38%).

At 5 years — En valor: the target price ($79) plus dividends yield between the 4% floor and the 10% average return — a reasonable return, though without the margin of a great investment.

The bridge: the return at 5 years exceeds the risk-free rate (4.5%) — but the discount does not reach the required margin of safety (≥38%). To require a 15% annual return, it would need to be bought at ~$45.

Educational / informational. Does not constitute investment advice.

The inverse approach: instead of projecting growth to obtain the value, the market price ($57) is taken as given and it solves for what annual owner-earnings growth would need to hold for 5 years for the present value —at the method's rate (4.5%, no-growth terminal)— to equal that price. It is the disconfirmation test: the expectations the price already pays for, contrasted against the method's projection.

The market discounts less growth (-7.5%/year) than we project (4.0%/year) → if the base case holds, there is margin: perception is more pessimistic than the estimated reality.

That growth implies ~$0.3 bn of owner earnings in year 5 (vs ~$0.6 bn of our base case). It recalculates if the DCF assumptions are edited.

Year-by-year projection of the selected scenario. From each year, two versions of the flow are derived: growth FCF (operating flow − total capex, the cash surplus) and maintenance FCF (the owner earnings: what the business yields if it only sustains its capacity). Cash accumulates the retained surplus —what is not returned as dividend or buyback—, so that EV falls and multiples compress going forward. The valuation is done on NOPAT (EV/NOPAT). In edit mode, revenue, margins, capex, and exit multiples can be adjusted.

A. O. Smith is a manufacturer of water heaters, boilers and water treatment products, valued at the enterprise level, on a multiple of after-tax operating income and on a normalized basis: the metric is pre-interest, so the cash (US$181 million) and the debt (US$637 million) enter the bridge and the funding is charged only once. There is no captive finance arm whose funding would have to be separated from the operating side, unlike a lender or a manufacturer with its own finance company. Year 0 is the TTM ended 30 June 2026 (US$3,805 million of revenue), depressed against fiscal 2025 (US$3,830 million) by the 18% decline in the China business during the first half and a restructuring charge of US$22.6 million in the North America water treatment segment. Year 1 anchors to the updated guidance in the release of 30 July 2026 (8-K, Item 2.02): revenue of US$3,900-3,950 million and adjusted earnings per share of US$3.70-3.85 (excluding the restructuring charge, which does not repeat). With those two anchors —revenue and earnings per share— the year-1 net margin comes to around 13.0%, practically stable against the TTM (13.1%) once the charge is normalized. The base path does not decay monotonically: it starts at +3.1% (the guided pace) and accelerates slightly toward +4.5% by year 5, because the structurally declining segment (China, Rest of World) loses relative weight in the mix while boilers (guidance +6-8%) and water treatment (guidance +10-12%) gain share. The bear case stresses year 1 (+1.0% instead of +3.1%) assuming the strategic review of China is not resolved and US residential demand does not pick up. Share repurchases are material (~3.3% a year of sustained reduction over the last three and a half years) and are modeled with an explicit share path, not by accumulating cash: the observed net reduction is the basis of the projection, not the current authorization. The base exit multiple (14×, within the 12-18× band of the industrial archetype) reflects a high return on invested capital (~22%, well above the 10% bar) offset by a moat that is eroding in the Chinese market and modest terminal growth (~4.5%).

Today's elevated multiple is the price of growth: if the business grows, the entry point cheapens on its own going forward (the metric grows while EV stays roughly flat). The exit multiple at 3 years is higher than the terminal at 5 years —at 3 years there is more growth still ahead—, so the value curve shows whether value creation is concentrated in the early or the later years. The required return is applied to the base scenario.

They are valued separately, with their own rationale, and are not incorporated into the base or the verdict (they are excess return). When assigning them value — in Editmode —, the total with optionalities updates live, without moving the base.

The verdict, the base CAGR, and the margin of safety are always calculated on the base; optionalities do not alter them (with optionalities at $0 they do not move).

Each card fixes a required annual return and answers: if the business is worth $79 in 5 years, what is the maximum that can be paid today to obtain that return? Since it now trades at $57, the margin of safety is how much cheaper the market is than that maximum. The three thresholds: 4% covers inflation (the floor), 10% is the long-term average return, and 15% is the level of a great investment.

With a target price of $79 in 5 years plus $9 of dividends collected (the dividend adds to the return, not to the price) and a required return of 4.5% annually, the maximum to pay today is $71. Against the current market price ($57), the margin of safety is 20.5% (trades below the maximum → there is margin) and the total return at that price would be 9.6% annually.

• Trailing vs. normalized multiple. Trailing earnings multiple (16×) is above the normalized 14× justified by the industrial archetype.
• Expected return over 5 years. The base case projects total return of +10% annually, appreciation plus dividend.
• Dividend. Current yield of 2.5%, with 34 consecutive years of increase and a historical growth rate of ~7% annually.

Each margin over sales, year by year: historical (solid line) → projection (dotted).

• ✓ ROIC exceeds the cost of capital (~10%)
• ✓ CFROIC backs up the ROIC (111%, cash vs. accruals)
• ✓ Healthy balance sheet (low corporate debt)
• ✓ Durable competitive moat (multiple advantages)

• Return on invested capital. ~22% on actual invested capital from the balance sheet, well above the 10% bar.
• Cash generation. Reported TTM free cash flow is inflated by a one-time working capital release; normalized level is lower but healthy.
• Capital intensity. Maintenance capex of modest ~1.8-2% of revenue, consistent with a manufacturing business needing no intensive reinvestment.

Annual levels from the official filing (10-K); the % over each bar is the year-over-year (YoY) growth vs the prior year.

A.O. Smith's revenue breaks down by geographic segment (North America vs. Rest of World), not by volume × price of a single product: North America grows despite residential weakness thanks to boilers and the Leonard Valve acquisition, while Rest of World declines sustainably due to structural deterioration in China consumption. Dividend per share, with 34 consecutive years of increase, is the third relevant operating driver for the capital allocation thesis.

The % are the annual (year-over-year) growth: each year —historical and projected— vs the prior one; the TTM (trailing 12m) vs the TTM of a year ago, to avoid overlapping windows. The historicals are exact figures from the official filings; the projected years come from the year-by-year model (the intermediate years without their own series are interpolated between the anchors). The projected columns (+1y…+5y) are 12-month windows counted from the TTM close (30-jun-2026): the projection starts from the most recently reported data, not the fiscal year. The projected base is realistic and unbiased — the risk discount is applied at the end, via the required return. The rationale for each metric is in the (i).

• Consolidated growth. 2026 guidance of +2-3%, cut twice during the year due to residential weakness in the U.S. and China decline.
• Boilers and water treatment. The two fastest-growing lines within North America (guidance +6-8% and +10-12% respectively) are gaining mix weight.
• Rest of World. Decline of 12-28% in local currency depending on the quarter, with no stabilization signals yet.

• Recurrence of demand. The majority of North America sales are replacement, not new construction, providing more stable demand than pure cyclical industrials.
• Customer concentration. Top five customers represent ~41% of sales, a material dependence on retail and wholesale channels.
• China exposure. ~18-22% of consolidated sales depend on a structurally declining market with an unresolved strategic review.
• Pricing power in North America. North America segment margin (24.4%) is more than double Rest of World, evidence of real pricing discipline.

Not all debt is equal: only the structural needs refinancing; the rest is operational (self-liquidating).

Structural debt is what is exposed to the contraction phase of the cycle; operational debt (leases, matched funding) self-liquidates with the business.

• ✓Leverage (net debt / EBITDA)Net cash $0 bn
• ✓Interest coverage (EBIT / interest)31.7x
• –Liquidity (current ratio)no data
• ✓Cash quality (CFROIC vs ROIC)CFROIC backs 111% of ROIC
• ✓Value creation (ROIC − 10% bar)+12pp
• ✓Malinvestment test (capex vs incremental ROIC)Capex/D&A 0.6x — no over-investment
• !Float / working capitalConsumes cash $0 bn (positive WC)
• ✓Dilution (SBC % of revenue + shares)SBC 0.4% of revenue

A traffic-light interpreted by the method (not generic): float (negative WC) adds up, capex is judged by incremental ROIC (malinvestment test), and a lender is not subjected to corporate solvency. The (i) shows the derivation of each number.

• Leverage. Total debt of US$637.5 million against equity of US$1,842 million (25.7% of total capitalization), following the Leonard Valve term loan.
• Liquidity. Cash of US$181.3 million at Q2 2026 close, adequate against short-term debt maturities (US$39.5 million).
• Free cash flow generation. Semestral free cash flow grew 67% YoY, though part of the jump reflects one-time working capital management.

How cash comes in and how it is deployed. In green, the business's own cash (the owner-FCF it generates and reinvests); in gray, the float and credit — customer and funding money, which is not the shareholder's.

In 2025, the company allocated the majority of its free cash flow to share repurchase (~US$401 million) over dividend (~US$196 million) and maintenance capex (~US$71 million). The Leonard Valve acquisition (US$470 million, January 2026) was funded with a new term loan, not operating cash flow, so it does not compete with buyback or dividend in the near term.

Who owns the shares — the alignment and whether there is a controlling shareholder.

• CEO transition. Steve Shafer assumed the role in 2025 from 3M, with no prior company history; the former CEO moved to Executive Chair.
• Capital allocation. Prioritizes share repurchase over dividend and M&A; Leonard Valve acquisition was funded with new debt, not operating cash flow.
• Dual-class control. The Smith family controls ~67.8% of voting power with only ~19% economic ownership, through Class A super-voting shares.

• Motivated seller: the US$22.6 million restructuring charge and reported earnings decline (-18% YoY in Q2 2026) cloud a business whose adjusted earnings, excluding that charge, declined far less.
• Missing buyers: the unresolved China strategic review creates uncertainty that keeps analysts and investors away while it lasts, even if the final outcome is neutral or positive to value.
• The market already recognizes much of the quality: the trailing multiple (16×) is above the normalized multiple (14×) justified by the industrial archetype, so the gap to market price is not wide.

Unlike a clear-discount case, here the evidence is mixed: there are real reasons for the recent discount (the restructuring charge, China uncertainty) but market price is no longer far from normalized value—the margin of safety is narrow, not wide.

The annual return (CAGR at 5 years) in each scenario, with the total period return below — the margin of safety made visual: upside range wide, downside range narrow.

Even in the bear scenario, the return holds at -1%/year (-4% total): the margin of safety protects the downside. The bull (+16%/year, +112% total) exceeds it comfortably — a favorable asymmetry, with a narrow downside range and a wide upside range.

• Structural China. The main thesis risk: an unresolved strategic review on a business declining 12-28% in local currency.
• DOE regulation. New efficiency standards in 2026 and 2029 may elevate manufacturing costs and open the door to new competitors.
• Tariffs and steel cost. Input volatility with a historical lag in passing cost to selling price.
• Dual-class control. The Smith family controls ~67.8% of votes with ~19% economic interest, limiting common shareholder rights.

Each thinker's analytical framework applied to our data.

• Buffett / Graham Quality + margin of safety

  Fails the quality gate: narrow moat, eroding.

• Peter Lynch Growth at a reasonable price (GARP)

  A cyclical growing 4% at a multiple/growth of 4.0 → expensive for its growth.

• Joel Greenblatt Cheap and high-return (Magic Formula)

  Earnings yield 9% (EBIT/EV) + ROIC 22% → makes the Magic Formula.

• Howard Marks Perception vs reality + cycle

  The price discounts -7% vs our 4%: perception is more pessimistic than reality, with an identified source of the discount.

• Seth Klarman Capital protection (bear scenario)

  Bear-scenario floor -4%/yr, bull-scenario ceiling +14%/yr over 5y: reasonable asymmetry, without an ample cushion.

• Pat Dorsey Moat strength (Five Rules)

  A narrow moat, eroding; sources: switching costs, efficient scale, intangibles, cost advantage → fails the Five Rules.

• Aswath Damodaran Expectations implied by the price

  Justifying the price requires discounting -7%, within what we project (4%) — the story squares with the numbers.