A.O. Smith is a specialized water technology company and the leading manufacturer of water heaters in North America. Beyond the established North American water heater market, the company sees growth opportunities in international markets, particularly in China and India, as well as in water treatment products. Since late 2024, the company's stock price has faced challenges due to weaker-than-expected sales in China, which represented 20% of total sales last year, alongside sluggish water heater sales in North America. This trend of lackluster growth has persisted into 2025. Nevertheless, we consider A.O. Smith to be a high-quality firm with a significant economic moat. The North American water heater and boiler segments, which account for approximately 70% of sales, benefit from strong brand recognition that supports robust profit margins, as well as a transportation-related cost advantage that deters potential foreign competitors in the tank-style water heater market. The difficult operating environment in China may weigh on the stock, despite the fact that China contributes less than 10% to overall profits. The decline in North American water heater shipments in 2024, coupled with management's expectations for continued softness in 2025, has likely dampened investor enthusiasm for the stock. However, we anticipate that sales will grow at a mid-single-digit percentage rate, with earnings per share increasing by a high-single-digit to low-double-digit percentage from 2026 to 2029, driven by a rebound in water heater demand in North America, a recovery in the Chinese market, and the expansion of the water treatment business. We believe that the recent announcement of heating, ventilation, and air-conditioning manufacturer Lennox entering the North American water heater market through a joint venture with Ariston Group will not significantly alter the competitive landscape.
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