#2 Elevator Stocks - Part 1

An overview of everything an investor should know about the elevator and escalator industry

Nov 11, 2023

Introduction

In a world that continues to reach for the sky, the elevator and escalator industry is securing its role as an indispensable pillar of urban development. As cities grow upwards rather than outwards, elevators are no longer just about convenience; they are a critical component of architectural innovation and efficient building management. Among the cogs and gears of this global industry, three giants stand tall: Otis, Kone and Schindler-each with a unique blueprint for success and a compelling investment case.

This five-part article series aims to demystify the elevator/escalator industry - a sector that may seem mundane, but is teeming with technological advances, strategic growth and investment potential.

In the next articles, we will take a closer look at why companies like Otis (part 2), the venerable pioneer; Kone (part 3), the tech-savvy innovator; and Schindler (part 4), the efficient operator, are not only elevating people, but also their investors' expectations and returns. Through the lens of urbanization trends, technological developments, and economic signals, we'll explore the vertical journey of these companies. We'll analyze their financial health, dissect their business models, and delve into their strategic initiatives that could set them apart in the race to dominate the global market.

Finally, we will compare them to each other and outline their strengths, weaknesses, and differences (Part 5). Whether you're a seasoned investor or a curious observer, join us as we expand our understanding of an industry reaching new heights of innovation and opportunity.

Industry Overview

The elevator and escalator industry is frequently disregarded as a fixed element of property development; however, it plays an essential role in the global economy. It is a sector that indicates the vitality of construction and urban development, boasting a market size of $89 billion. By 2030, it is expected to surpass $142 billion, with a compound annual growth rate of over 7.0%. However, the elevator industry is driven not only by the quantity of elevators required in new buildings, but also by the need for innovation and maintenance of modern standards of efficiency and safety in existing structures.

Urbanization is the principal factor propelling the elevator market, as a UN study projects that by 2050, 68 percent of the world's population will reside in urban regions. This urbanization phenomenon has spurred a surge in tall building development, spanning from apartment buildings to corporate high-rises, necessitating vertical conveyance infrastructure.

Technological advancements are integral to the expansion of the industry. One such example of innovation is the emergence of smart elevators that employ artificial intelligence to optimize transportation and energy utilization. Companies are competing to incorporate Internet of Things (IoT) technology to enhance user experience and maintenance, presenting opportunities to generate revenue streams beyond installation through service and retrofitting older equipment with smart features.

However, the elevator industry confronts multiple challenges. Elevators are required to comply with strict safety standards, and manufacturers must prioritize adherence to regulations. Furthermore, the market is vulnerable to the cyclical trends of the construction industry, which is highly sensitive to economic fluctuations. Despite certain challenges, the elevator and escalator industry offers optimistic investment opportunities, particularly in the service and aftermarket sectors, providing steady revenue streams via contract commitments, despite the uncertainty surrounding new construction ventures.

As urban areas continue to grow vertically, this industry remains a crucial catalyst for urban advancement. Elevators serve a purpose beyond convenience as they play an essential role in architectural innovation and building management efficiency. Amidst the workings of this massive industry, three companies, Otis, Kone, and Schindler, stand out as industry leaders. Each of them has a distinctive plan for success, presenting a compelling investment opportunity. This five-part article series aims to demystify the elevator/escalator industry, an ostensibly pedestrian sector that brims with technological innovations, strategic expansion, and investment opportunities.

The elevator and escalator industry thrives under the contributions of several key players. With unique strengths, companies like Thyssenkrupp, Mitsubishi Electric, and Fujitec, renowned for their engineering prowess, hold pivotal roles in shaping the urban landscape alongside others. Our Substack series will highlight three significant forces in the industry: Kone, Otis, and Schindler. Each company has attained a leadership position in the market. Our objective is to analyze their business strategies, technological advancements, and market impact to provide readers with a comprehensive grasp of their position in this dynamic field.

Short introduction to the leaders in the industry

OTIS Elevator Company: As the company credited with inventing the safety elevator, OTIS Elevator Company has revolutionized the urban landscape. Since its establishment in 1853, OTIS has been a pioneer in safety, innovation, and excellence, transporting millions to new heights. Known for constructing the elevators in some of the world's most famous structures, such as the Eiffel Tower and the Empire State Building, OTIS maintains its position as an industry leader with its intelligent, energy-efficient designs and worldwide presence. The company services more than 2 million elevators globally and adheres to established industry standards.

KONE Corporation: Founded in 1910, KONE Corporation is a global leader in eco-efficient solutions for elevators and escalators. With a Finnish origin and a widespread presence, KONE fosters an unwavering commitment to enhance urban life by providing cutting-edge user experiences and environment-friendly operational practices. With offices in more than 60 countries, KONE is renowned for its customized and innovative strategies for enhancing mobility in both commercial and residential structures. The company ensures seamless and sustainable transportation in some of the globe's most iconic skyscrapers.

Schindler Group: Schindler Group started its journey in Switzerland back in 1874, making it one of the most experienced companies in the vertical transportation sector. Its global market presence is enormous, given that its products transport over one billion people every day. The company's emphasis on urban mobility solutions has motivated it to provide efficient, trustworthy, and secure escalator and elevator technologies. Schindler demonstrates its pledge to digital innovation through its state-of-the-art PORT technology, which enhances building management and streamlines traffic flow.

The Elevator Industry's Business Model

It is crucial to comprehend the fundamental business model driving the elevator industry. This model features a two-fold emphasis on equipment sales and service, which work in unison to establish a cyclical stream of revenue generation. In this section, we delve into a typical elevator company's business model and its role in driving sustained prosperity.

Equipment Sales - The Entry Point: The sale of new elevator systems constitutes the initial phase of the revenue stream. This encompasses the sale of the physical equipment in addition to the integration of sophisticated software and customized design solutions. The pricing strategy for new sales generally factors in the cost of manufacturing, installation, as well as a premium for brand and technology.

After-Sales Service - The Revenue Continuator: Service is where the elevator industry succeeds. Following installation, the elevator enters a long-term relationship with the manufacturer under service contracts that address maintenance, repairs, upgrades, and modernizations. This stream of service generates predictable and profitable results, often surpassing revenue from the elevator's original sale throughout its lifecycle.

Modernization and Upgrades - The Growth Enhancer: Elevator companies also earn revenue by upgrading and modernizing outdated systems to comply with current technology and regulations. This aspect of their business benefits from the continuous development of building codes and the natural aging of elevator infrastructure, thereby generating cyclical opportunities for retrofit and upgrade projects.

Strategic Expansion through R&D: Investment in research and development is critical for elevators companies to maintain a competitive edge. R&D not only fosters innovation in new products but also enhances service offerings and modernization, ensuring the company's technology leads the industry.

Financial Stability and Recurring Income: The financial model of elevator companies is bolstered by the steadier flow of recurring service revenue as compared to revenue from new equipment sales. This dependable revenue stream promotes stability and financial predictability, enabling strategic planning and sustained investment in areas of growth.

The Role of Global and Regional Market Dynamics: A worldwide presence enables elevator companies to offset regional market fluctuations. Although new sales may vary with economic cycles, a diverse geographical presence can lessen this instability by compensating downturns in one area with upturns in another.

Essentially, the elevator industry's business model aims to extract value from their products from the point of sale and throughout their lifespan, including servicing. This approach guarantees customer allegiance and creates a sturdy financial base to support long-term progress. In forthcoming posts, we will explore how Otis, Kone, and Schindler customize this strategy to their advantage.

Investment Perspective

The elevator industry, represented by Otis, Kone, and Schindler, offers investors a distinctive investment prospect with a combination of growth, innovation, and resilience. This section provides an investment outlook on the industry by assessing moats, risk factors, and potential long-term returns. Its goal is to equip investors with the necessary insights to evaluate the appeal of investing in these established industry leaders.

Barriers to Entry and Economic Moats: The elevator industry has significant capital requirements, stringent safety regulations, and the need for an extensive service network, creating high barriers to entry. Established players, including Otis, Kone, and Schindler, have used these barriers to create economic moats around their businesses through extensive patent portfolios, global sales and service networks, and long-term customer relationships. Established players, including Otis, Kone, and Schindler, have used these barriers to create economic moats around their businesses through extensive patent portfolios, global sales and service networks, and long-term customer relationships. As a result, it is challenging for new entrants to penetrate this competitive environment.

Risk Assessment: Investing in the elevator industry entails significant risks. The industry is inherently connected to the global economy's state and the construction sector, both subject to cyclical fluctuations and affected by macroeconomic factors such as interest rates, property bubbles, and shifts in zoning regulations. Furthermore, advancements in technology and updates to safety regulations present added hazards that may demand considerable expenditures to conform to revised guidelines and sustain a competitive advantage.

Recurring Revenue Streams: One of the elevator industry's most attractive features is the possibility of recurring income from long-term maintenance, repair, and modernization contracts for existing installations. This revenue stream can offer stability and predictability in cash flows, which is a significant advantage in the cyclical construction industry. It is the combination of project-based and service-based revenue that contributes to Otis, Kone, and Schindler's strong financial profiles.

The Cyclical and Regulatory Environment: Investors should take into account the industry's cyclical nature, which frequently mirrors broader economic trends. Additionally, the regulatory climate in different areas influences how firms may operate and compete, with variable standards for safety, energy efficiency, and building codes.

Long-term Prospects: The outlook for the elevator industry remains positive in the foreseeable future. The continued urbanization in emerging markets along with the retrofit demand in mature markets imply that the development can be sustained over the long run. Besides, keep in mind that as buildings become smarter, with more integrated technology, the push by elevator companies into digital services is presenting new opportunities for revenue growth.

Conclusion: For investors, the strategic analysis comes down to choosing between established revenue streams and potential market growth areas. Otis, Kone, and Schindler all provide a mix of stability, innovation, and market reach that may appeal to different investment styles. Although each company harbors inherent risks, their capability to adapt and flourish in a dynamic global atmosphere merits their consideration for an investment portfolio that esteems industrial innovation and consistent advancement.

Challenges and Opportunities

The elevator industry encounters both obstacles and prospects on its climb to success. Investors must comprehend these factors to assess the potential benefits and risks of the business. This section examines the external variables that may impact the industry's path and evaluates how Otis, Kone, and Schindler are situated to handle these changes.

Regulatory Changes and Safety Standards: The elevator industry is subject to strict regulation due to its crucial role in ensuring public safety. Adherence to continually evolving safety standards can present a significant obstacle, as firms must consistently allocate resources to research and development efforts in order to guarantee their products align with strict requirements. However, this challenge also presents an opportunity for industry leaders to innovate and establish higher standards that surpass regulatory requirements and enhance brand equity and market dominance.

Economic Fluctuations and Construction Cycles: Economic contractions may cause a decrease in new construction projects, which typically is the primary source of revenue for elevator enterprises. Regardless, these companies can mitigate such volatility by expanding their services into maintenance and modernization of existing elevators. Those with considerable service portfolios are better equipped to navigate the fluctuations of the world economy.

Smart City Projects and IoT Integration: The growth of smart city initiatives presents a significant opportunity for the elevator industry. With the increasing connectivity of cities, integration of elevators with IoT platforms is becoming standard. This shift in digital urban infrastructure serves as a growth path for Otis, Kone, and Schindler, as they develop more intelligent and energy-efficient systems that contribute to the sustainable architecture of smart cities.

Emerging Market Urbanization: Emerging markets offer great growth potential for the elevator industry due to rapid urbanization in countries such as China, India, and the Middle East. The resulting increase in high-rise construction necessitates advanced and high-capacity elevators. Companies capable of navigating regulatory landscapes and consumer preferences in these markets will stand to gain most from this shifting demographic.

Technological Disruptions: Innovations such as machine learning, big data analytics, and predictive maintenance are disrupting the elevator industry, resulting in more efficient, reliable, and user-friendly elevators. Investing in these technologies can give companies a competitive advantage by providing enhanced services.

Environmental Impact and Energy Efficiency: There is a growing emphasis on decreasing the environmental impact of buildings, which highlights the significance of using energy-efficient elevator systems. This ecological focal point provides opportunities to retrofit current buildings and establishes a fresh competitive standard for companies to distinguish their products.

The elevator industry is facing a critical juncture as novel technologies, and shifting economic and environmental factors test its longstanding business practices. Otis, Kone, and Schindler must promptly acclimate to these changes to secure triumph in the industry's future. Likewise, investors must assess these challenges and prospects when evaluating the long-term profitability of their investments in the sector, which is both crucial and dynamic.

Conclusion

The industry, which is characterized by significant barriers to entry and dominated by established industry leaders, exhibits potential due to its capacity for innovation and resilience. The profiles of these companies provide investors with a comprehensive view of an industry that is crucial not only to urban infrastructure but also to portfolio growth.

Strategic Takeaways: Investors should take note that despite appearing to be a stagnant industry, the elevator sector is actually experiencing growth due to the impact of global urbanization, technological advancements, and a growing interest in sustainability. A reliable source of income is provided by the steady demand for maintenance and modernization services, which helps offset the cyclical nature of new equipment sales.

A Look to the Future: The ongoing transformation in the industry, with a movement towards smart, connected, and eco-friendly buildings, indicates the market for elevators and escalators will persistently develop. As cities expand and the design of work and living environments becomes more intricate, the demand for inventive vertical transportation options is expected to rise.

Final Thoughts: For the savvy investor, the elevator industry presents an enticing opportunity with its unique combination of heritage and innovation. To maximize returns in this sector, it is crucial to gain a comprehensive understanding of the long-term economic determinants, the resilience of each firm's business model, and the strategic measures they are adopting to safeguard their operations for the future.

Investing in industry leaders: Otis, Kone, and Schindler have shown their adaptability in a constantly changing market and an ability to innovate in advance of competitors. Their investments in technology and sustainability, a focus on superior customer service, and strategic market expansion position each company for sustained success. Subsequent articles will review the strategies, financials, and valuations of each company, and then conclude with comparisons.

In conclusion, the elevator industry offers a favorable investment landscape, driven by the potential of urban development and technology integration.

“Elevators: where we check our teeth for spinach, practice our poker face, and squeeze in one last selfie, all before the doors open to the real world. The mirror is the unsung hero, preparing us for greatness... or at least for the office.”

Subscribe to my substack and ensure not to miss the upcoming parts of this series:

Part 1 - An overview of everything an investor should know about the elevator and escalator industry
Part 2 - OTIS Analysis
Part 3 - Kone Analysis
Part 4 - Schindler Analysis
Part 5 - Comparison, summary and final conclusion.

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