When I first read this article, I’ll admit that I was a bit concerned. I pay attention to a lot of things when sizing up a company, but I’ll admit that comparable tax rates aren’t at the top of my list, and I tend to gloss over them - particularly when they are relatively low, as is the case with Ingersoll-Rand (IR). There are a number of factors I simply see as more important - mainly the stability of the recurring revenue stream from the servicing business, as well as the impact(s) from the Trane (TT) acquisition. Is George Gutowski right, then, that we should be suspicious over the growing tax bite in Ingersoll’s earnings? I think he is being too skeptical. Allow me to explain.

Looking at Ingersoll-Rand’s latest earnings press release shows that earnings before tax for the comparable period one year ago increased 50%, but that the tax provision approximately tripled. What gives? I was curious myself. After doing some digging inspired by the noticeable change in earnings from discontinued operations, it becomes clear that the “tax rate jump” is nothing more than a side-effect of the company’s accounting presentation. In the second quarter of 2007, Ingersoll-Rand sold its Road Development business to Volvo, thus having to restate earnings from prior periods. This is why earnings before tax appeared to increase so much; when the Road Development operations are added back in, there was essentially no change in profitability or tax rate; the latter was 17% as a percentage of pre-tax operating for the same quarter last year, so it was about 120 basis points higher income this time around.

As for the forward guidance of tax rate being higher than historical norms, Ingersoll-Rand has typically had a mid-double digits tax rate. Trane, whom they are set to acquire, typically has a tax rate around 30%. The 22% forward estimate of tax is simply a consequence of adding a pre-tax earnings stream of nearly the same size as Ingersoll, but one that traditionally pays a higher tax rate. I’ve said it before though - I like the Ingersoll/Trane combination, and this tax rate bump for the consolidated entity (at least, relative to Ingersoll alone) is hardly enough to derail my belief that this will create a premier light cyclical that dominates the climate control industry.

Net result? I think George is being too skeptical here. There are other companies with far more pressing problems on the account or investor relations/communications fronts.

In my post-earnings analysis, I said that I don’t believe in pressing, or trying to chase stocks that are running. IR has pulled back about 6% into the low $40s, and I think this is the kind of dip to look to add into.

Subscribe to our feed:

Read more about industrial stocks or check out more long ideas.