clsa_johnsoncontrols_2012

Johnson ControlsProduced byProduced byProduced by

US$35.16 - OUTPERFORM

Financials Year to 30 Sep 10A 11A 12CL 13CL 14CLRevenue (US$m) 34,305 40,833 43,041 47,401 53,104Ebitda (US$m) 2,606 3,087 3,585 4,334 5,190EPS (US$) 1.99 2.40 2.66 3.35 4.20CL/consensus (28) (EPS%) - - 97 99 104EPS growth (% YoY) 265.5 20.9 10.7 26.0 25.4PE (x) 17.7 14.6 13.2 10.5 8.4Dividend yield (%) 1.5 1.8 1.8 2.6 3.6FCF yield (%) 3.1 (0.7) 1.0 6.1 7.8PB (x) 2.3 2.1 1.9 1.7 1.5ROE (%) 14.5 16.2 16.2 18.2 20.0Net debt/equity (%) 27.3 42.7 40.8 30.6 20.6Source: Credit Agricole Securities (USA); FactSet for consensus data. CL = estimate

CLSA HAS MOVED TO A NEW RECOMMENDATION STRUCTURE AS OF 1 JAN 2012. PLEASE SEE IMPORTANT DISCLOSURES AT THE END OF THIS REPORT.

The group of companies that comprise CLSA are affiliates of Credit Agricole Securities (USA) Inc. For important disclosure information please refer to page 36.

Emmanuel Rosner, CFA [email protected] (1) 212 408 5618

Andrew Fung, CFA (1) 212 408 5846

22 February 2012

USA Autos Reuters JCI.N Bloomberg JCI US

Priced on 17 February 2012 S&P 500 @ 1,361.2 12M hi/lo US$42.92/24.29 12M price target US$39.00 ±% potential +11% Target set on 22 Feb 12 Shares in issue 680.4m Free float (est.) 99.7% Market cap US$24,229m 3M average daily volume US$174.5m Major shareholders Capital World Investors 6.0%

Stock performance (%) 1M 3M 12M

Absolute 8.3 18.1 (17.1) Relative 4.1 5.5 (18.2)

25

30

35

40

45

50

Feb 10 Oct 10 Jun 11 Feb 12

88

93

98

103

108

113

118

123

128

133

Johnson Controls (LHS)Rel to 500

(US$) (%)

Source: Bloomberg

www.clsa.com

Positioning for the future Johnson Controls is a leading auto seats and interiors supplier with a unique multi-industry profile due to its battery and HVAC businesses. While traditionally recognized for its strong execution, recent operational hiccups have dented the company’s reputation and squeezed its valuation. These headwinds are likely to persist for some time, but we believe management is taking the right steps for the long run. Given the recent pullback, we initiate at Outperform with a US$39 target price.

The right strategic move Johnson Controls, the global leader in seating assembly, has also built up a No.1 position in seat components, a crucial move to maintain leadership and profitability as the market undergoes a fundamental shift, with much of the added value migrating from assembly to component supply. Recent operational issues leave us cautious on near-term margins, but we believe management’s strategy is the right one for the long run and forecast a gradual expansion to 6.8% in 2016, just shy of the company’s target of 7-8%.

Charging forward with AGM Johnson Controls is the No.1 auto battery maker globally. The Power Solutions unit generates significant cash and is the company’s highest-margin business. Notably, the segment is also becoming a growth engine due to rising adoption of higher revenue and margin absorbent glass mat (AGM) batteries. We forecast five-year sales and Ebit Cagrs of 11.6% and 16.6%.

Building blues The Building Efficiency unit faces a slow-growth environment in the near term due to stalled product demand in mature markets and margin contraction from the Global Workplace Solutions business. Longer term, however, we expect a cyclical recovery in mature markets, growth in emerging markets and pricing initiatives in the service businesses to lead the segment out of its current slump and support five-year sales and Ebit Cagrs of 9.5% and 17.5%.

Pullback creates opportunity The stock typically trades at multiples well above auto peers and closer to multi-industry conglomerates, but headwinds may keep the stock pressured in the near term. Still, we see upside given the post-earnings pullback and over time expect valuation to recover as the company demonstrates sustained operational improvements. We initiate coverage with an Outperform rating and a US$39 target price, based on 11.6x 13CL EPS (average of 13.1x historical mean multiple and 10.0x quant-derived “fair multiple”).

Part of our US auto partsBeyond the rebound

report package

http://www.clsa.com/member/reports/497632484.pdf

Johnson Controls - O-PF

2 [email protected] 22 February 2012

Johnson Controls - US$35.16 - OUTPERFORM The business Competition & market franchise

Johnson Controls is a multi-industry company that manufactures automotive seating, interiors and batteries in addition to designing and servicing building heating, ventilation and air-conditioning (HVAC) and control systems. Of the three, the autos segment is the largest businesses. Based in Milwaukee, WI, the company employs about 162,000 people globally and generated total revenue of US$40.8bn in 2011.

The company is the No.1 seat maker globally, with dominant share in North America, Europe and China. Its two largest competitors are Lear and Faurecia. The company also holds the No.1 position in automotive battery (36% global share), selling primarily to aftermarket distributers. The Building Efficiency segment is focused on non-residential buildings and services. Competitors include Honeywell and Siemens.

Valuation history PE bands PB bands Comment

7.8x

12.6x17.3x

33.6x

56.3x

5

12

30

73

180

Oct 07 Oct 08 Oct 09 Oct 10 Oct 11 Oct 12

log (US$)

0.6x

1.2x

1.9x

2.3x2.8x

9

14

23

37

60

Oct 07 Oct 08 Oct 09 Oct 10 Oct 11 Oct 12

log (US$) Even with current pressures, we see upside given the post-earnings pullback, and over time expect the valuation to recover as the company demonstrates sustained operational improvements.

Bands (from the top): max, +1sd, avg, -1std, min. Source: IBES

AsiaXposiaTM We expect Asia ex-Japan/Korea to account for 68% of the increase in

global light-vehicle production over the next five years, including 53% from China alone, as urbanization and a growing middle class lift the currently low vehicle density.

Through its joint venture with Yanfeng, Johnson Controls has built a dominant position in China, with 45% market share in automotive seating, up from 36% several years ago. In addition, the company is the No.2 interiors supplier in the country.

We believe the company’s China auto revenue (mainly unconsolidated) could more than double from US$4.0bn in 2011 to US$9.6bn in 2016, well above company guidance of US$7.4bn which we view as conservative given growth prospects in the country and the company’s strong backlog.

China share of seat assembly

Global autos growth to 2016 by region

Other29%

Lear26%

JCI45%

0.70.81.91.92.93.713.5101.9

76.6

2011

Gre

ater

Chin

a

South

Asi

a

Nort

hAm

eric

a

Euro

pe

South

Am

eric

a

Mid

dle

Eas

t/Afr

ica

Japan

/Kore

a

16CL

(m units)

Source: Company, Lear, Credit Agricole Securities (USA)

China auto revenue could more than double from

US$4.0bn in 2011 to US$9.6bn in 2016

Section 1: The right strategic move Johnson Controls - O-PF

22 February 2012 [email protected] 3

The right strategic move Johnson Controls, the global leader in seating assembly, has also built up a No.1 position in seat components, a crucial move to maintain leadership and profitability as the market undergoes a fundamental shift, with much of the added value migrating from assembly to component. Recent operational issues leave us cautious on near-term margins, but we believe management’s strategy is the right one for the long run and forecast a gradual expansion to 6.8% in 2016, just shy of the company’s target of 7-8%.

Global leader in the seating business Johnson Controls is the largest US automotive supplier and among the biggest globally, with revenue in its Automotive Experience segment of US$20.1bn in 2011.

The segment specializes in seating, interior components and electronics, of which seating products account for the lion’s share of the business at 80% of the segment. In total, Automotive Experience represented half of the company’s consolidated revenue in 2011. The company’s two other segments (detailed in later sections of this report) are Power Solutions, which manufactures automotive batteries, and Building Efficiency, which primarily provides commercial HVAC equipment and services.

Figure 1

Figure 2

Auto Experience revenue by product

Johnson Controls revenue by segment

Seating80%

Electronics6%

Interiors14%

Building Efficiency

36%

Power Solutions

14%

Automotive Experience

50%

Source: Company

Figure 3

Figure 4

Johnson Controls automotive seats

Johnson Controls automotive interior

Source: Johnson Controls

Johnson Controls is the No.1 automotive-seats supplier on a global basis, with 29% market share in complete seat assembly. Its two largest competitors are Lear and Faurecia.

Once past its operational issues, Auto Experience

has a solid mid-term outlook

Johnson Controls is the largest US auto supplier, specializing primarily in complete seat assembly

In addition to seats, the company also sells

interior and electronic components



Globally, the seating market is fairly concentrated with an estimated Herfindahl-Hirschman Index (HHI) of around 1,500. HHI is the sum of the squares of the market share of competitors; economists consider HHIs above 1,800 to be evidence of a highly concentrated market, while HHIs between 1,000 and 1,800 reflect moderate concentration.

By region, the seating market is exceptionally concentrated with two or three players holding around 75% share in North America, Europe and China. Johnson Controls has leadership positions in those regions, key to the company’s ability to maintain future market share as automakers increasingly migrate onto global platforms and eye emerging-markets growth.

Figure 5

Figure 6

Global share of seat assembly

NA share of seat assembly

Faurecia12%

Lear19%

Other36%

JCI29%

Magna4%

Lear32%

JCI42%

Other11%

Faurecia4%

Magna11%

Source: Faurecia, Credit Agricole Securities (USA) Source: Lear, Credit Agricole Securities (USA)

Figure 7

Figure 8

EU share of seat assembly

China share of seat assembly

Faurecia23%

Other21%

Lear26%

JCI30%

Other29%

Lear26%

JCI45%

Source: Lear, Credit Agricole Securities (USA)

Value shifts to components Beyond the traditional full-seat-assembly business, we believe that seat suppliers need to be increasingly active in the seat-components business through vertical integration, in order to maintain profitability and respond to the trend of unbundling by automakers.

Historically, automakers awarded a seating contract to the assembly supplier, which included sourcing responsibility for the various components of the seats. This enabled an assembler such as Johnson Controls to capture a profit not only on its own design and just-in-time assembly activity, but also on the various components it bought from suppliers and then resold to the automakers as part of a complete seat system. Over the past few years, automakers have shifted to awarding components contracts separately from seat assembly and directing their complete seat assemblers to purchase specific components from other suppliers with which they negotiated directly.

The full-seat-assembly market is fairly

concentrated globally

Johnson Controls and competitors need to be

increasingly active in seat components

The company is the No.1 auto-seats

supplier globally

Johnson Controls has dominant share in North

America, Europe as well as China



This new way of doing business was originally motivated by the need to control rising costs and quality as content on seats grew, but it is now mostly a crucial part of automakers’ global sourcing and standardization strategies. Because seat frames and components are not visible to the end consumer, automakers are aiming to standardize them completely across their entire global lineups. Many automakers now have just two or three different seat frame platforms across their entire global product offering, making it crucial to directly source their components from key global suppliers, regardless of who does the ultimate seat assembly. According to Johnson Controls, nearly 90% of new business is now awarded in this manner, up from around 10% just several years ago.

The side effect of this unbundling is that it reduces the profit opportunity in the complete seat assembly business and makes the manufacture of components an important element to maintain margins. We believe that the seat industry is facing precisely the sort of challenge described by Clayton M Christensen et al in Product Modularity, Vertical Disintegration And The Diffusion Of Competence (1999, Harvard Business School working papers):

‘[ . . . ] when the predominant product architecture in an industry becomes modular rather than integral, the ability to earn a disproportionate share of industry profits migrates from firms that design and assemble end-use products, to those that supply scale-intensive components and subsystems to the assemblers. Hence, while many experts and academics are touting the benefits outsourcing those elements of value-added that lie outside a firm's “core competencies,” our evidence suggests that this strategy can lead to unattractive outcomes.’

Recognizing this trend, Johnson Controls has been aggressively expanding its components capability, realizing three mid-size European acquisitions in 2011.

Keiper and Recaro - Metal seat components, structures and mechanisms, specialty seats

C Rob Hammerstein (CRH) - Seat structures, tracks and height adjusters

Michel Thierry - Textiles and integrated trim

Figure 9

Figure 10

Keiper seat component

Recaro seat


Automakers have unbundled most seat

contracts to control costs and quality. . .

. . . as well as standardize frames and

components globally

The company completed three component

acquisitions in 2011

Keiper and Recaro: Metal seat components and

specialty seats

Seating added value is migrating from assembly

to component supply



Figure 11

Figure 12

Structure with CRH & Keiper technology

Michel Thierry fabric


By component, Johnson Controls holds the No.1 position in the three primary component categories - metals and mechanisms, foam and upholstery. Of the three, we view strong share in metals and mechanisms as most important, as these components offer the highest technology and value within a seat due to the need to meet safety and comfort requirements.

Figure 13

Figure 14

Global share of complete seat systems

Global sales of metals and mechanisms

0

5

10

15

20

25

30

35

JCI Lear Faurecia Magna

(%)

0

1

2

3

JCI Faurecia Brose Lear

(US$bn)

Source: Faurecia, Credit Agricole Securities (USA) Source: JCI, Credit Agricole Securities (USA)

Figure 15

Figure 16

Global sales of seat foam

Global sales of seat fabric

0

1

2

JCI Woodbridge Grammer Fehrer

(US$bn)

0

0.1

0.2

0.3

0.4

JCI Aunde Sage Guilford

(US$bn)

Source: Faurecia, Credit Agricole Securities (USA) Source: JCI, Credit Agricole Securities (USA)

The build up of components capabilities has been a cause of recent margin weakness as Johnson Controls incurs launch costs and operational hiccups in a less-familiar market. Most recently, management blamed the inefficiency costs associated with the start-up of a metals fabrication plant for disappointing North American margins in fiscal 1Q12. Nevertheless, we see the company’s expansion of its components capability as a crucial strategy for the long run.

CRH for seat structures and Michel Thierry

for textiles

Johnson Controls has built a No.1 position in

each of the primary components categories

While the company has seen inefficiencies as a

result of expanding into components, it is a crucial

long-term strategy



A pause in 2012, but solid mid-term growth potential With over 50% exposure to Europe and a more back-end loaded three-year backlog, the Automotive Experience segment is likely to see limited top-line growth this year.

Figure 17

Automotive Experience revenue by region

Asia12%

Europe51%

North America

37%

Source: Company, Credit Agricole Securities (USA)

The company’s European presence represents a double headwind for 2012 sales performance. Specifically, we are modeling a 5.6% decline in the euro (to current exchange rate of US$1.32) and 7.3% fall in European volumes (versus IHS at negative 8.5% and company guidance at negative 3.5%), which add up to a total headwind of around US$1.2bn. On the positive side, the roll on of the remaining revenue from the 2011 acquisitions should largely offset the European headwinds. In addition, we expect a combination of a consolidated backlog of US$710m (US$1bn including unconsolidated), continued recovery in North America and catch-up production in Asia post-natural disasters to support a 5.6% YoY increase in consolidated revenue to US$21.2bn.

In China, which is largely unconsolidated, we are forecasting a 14.1% YoY increase in revenue to US$4.6bn, somewhat below guidance of US$4.8bn as we are modeling a more modest 5.6% YoY increase in industry volumes versus the company’s 8.0%. In total, we expect Automotive Experience revenue including China to grow by 7.0% to US$25.8bn.

Figure 18

Automotive Experience 2012CL revenue walk

(US$m) Revenue YoY % change Comments 2011 consolidated 20,065 NA volume 861 4.3 11.6% industry increase EU volume (747) (3.7) 7.3% industry decline Asia volume 213 1.1 ex China Backlog 710 3.5 Acquisitions 1,200 6.0 Roll on of 2011 acquisitions Currency (471) (2.3) Primarily 5.6% decline in euro Other (642) (3.2) Primarily annual price downs 2012CL consolidated 21,189 5.6 China unconsolidated 2011 4,015 2012CL 4,581 14.1 Total cons. + uncons 25,770 7.0


The company’s high European exposure

creates a double headwind in 2012

We expect China (mostly unconsolidated) to

continue to grow at a solid pace

We are forecasting consolidated sales to

grow at 5.6% in 2012

The segment is most exposed to Europe,

followed by North America



While we expect Johnson Controls to be negatively impacted by its European exposure in 2012, the region will support a significant portion of the mid-term growth in Automotive Experience. Indeed, although we see only a cyclical recovery to historical industry volumes in Europe (five-year Cagr of just 1.8%), three acquisitions in fiscal 2011 are expected to contribute an additional US$3bn in revenue by 2014, of which only US$700m has rolled on as of 2011. Furthermore, within the company’s US$4.2bn three-year backlog, Europe represents US$2.2bn or 53% of the total. Combined with the modest cyclical recovery, we are forecasting European auto revenue to achieve an 8.4% Cagr to US$15.4bn by 2016, up US$5.1bn from 2011 levels.

Figure 19

Figure 20

Automotive 2012-14 backlog by region

Automotive 2012-14 backlog by product

Asia34%

Europe53%

North America

13%

Electronics10%

Interiors17%

Seating73%

Source: Company

We anticipate that emerging markets will largely drive the remainder of mid-term growth. As shown Figure 21, we find a high correlation between a region’s GDP and its vehicle penetration on a per-capita basis. The Chinese vehicle market stands out in particular, because despite being already the largest market in the world (currently 50% larger than the USA), it still has one of the lowest penetrations in the world at around 4%. India, Brazil and Russia also have low vehicle penetrations, suggesting robust long-term growth in demand as their economies expand.

Figure 21

Vehicle density versus GDP per capita by region

y = 51.39x + 2848.5

R2 = 0.8807

0

10,000

20,000

30,000

40,000

50,000

60,000

0 200 400 600 800 1,000 1,200

Personal vehicles per 1,000 people

USJapan

Western Europe

Eastern Europe

Russia

Brazil

China

India

GD

P p

er

cap

ita

(US$)

Source: JD Power, World Bank, Credit Agricole Securities (USA)

According to a McKinsey study, China is expected to have the third-largest middle class in the world by 2020, giving us confidence that despite the recent slowdown in sales, it is not a reflection of China running out of steam following several years of high growth, but rather a short-term pause.

Emerging-market demand will also drive mid-term

growth

Europe will contribute significantly over the mid

term due to a solid backlog and acquisitions

We believe the recent slowdown in China is just

a short-term pause

Majority of backlog is in Europe

We find a high correlation between GDP per capital and vehicle penetration



Figure 22 Figure 23

China passenger car SAAR

Private domestic consumption by country

0

2

4

6

8

10

12

14

16

2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

(m units)

0

2,000

4,000

6,000

8,000

10,000

12,000

US

Japan

Chin

a

UK

Ger

man

y

Fran

ce

India

Bra

zil

Mex

ico

Can

da

2007 2020E(US$bn, 2000)

Source: CLSA Asia-Pacific Markets Source: PSA Peugeot Citroen

All in all, we expect China light vehicle production to reach 31m units in 2016, up 13.4m units versus 2011 levels and representing 53% of the increase in global light-vehicle production over the next five years.

Figure 24

Global light-vehicle production forecast

(’000 units) 2011 2016CL Volume change

% of global change

5Y Cagr (%)

Greater China 17,538 31,000 13,462 53 12.1

South Asia 6,814 10,500 3,686 15 9.0

North America 13,126 16,000 2,874 11 4.0

Europe 20,089 22,000 1,911 8 1.8

South America 4,318 6,200 1,882 7 7.5

Japan/Korea 12,451 13,200 749 3 1.2

Middle East/Africa 2,233 3,000 767 3 6.1

Global total 76,569 101,900 25,331 5.9

Source: IHS Automotive, Credit Agricole Securities (USA)

Through its joint venture with Yanfeng, Johnson Controls has built a dominant position in China, with 45% market share in seating, up from 36% several years ago. In addition, the company is the No.2 interiors supplier in the country. Notably, Johnson Controls has a diverse mix of customers in China, including both foreign automakers and indigenous ones, which in combination with its strong market shares, should enable the company to benefit from industry growth regardless of which automakers ultimately win or lose in the country. We therefore believe China revenue could more than double from US$4.0bn in 2011 to US$9.6bn in 2016, well above company guidance of US$7.4bn, which we view as conservative given growth prospects in the country and the company’s strong unconsolidated backlog in China.

In total, we expect Automotive Experience consolidated revenue to reach US$29.9bn by 2016, implying an 8.3% Cagr over the next five years, ahead of our 5.9% Cagr forecast for global production. Including unconsolidated China revenue, we forecast a 10.4% Cagr to US$39.5bn for Automotive Experience.

Johnson Controls is the No.1 seats and No.2

interiors supplier in China

We expect China production to rise to

31m by 2016

We estimate that China will represent 53% of

total global increase in production through 2016



Figure 25

Automotive Experience revenue walk 2011-16CL (US$m) Revenue % change Comments 2011 consolidated 20,065 NA volume 2,004 10.0 27% industry increase EU volume 819 4.1 8% industry increase Asia volume 441 2.2 ex China Backlog 5,580 27.8 Acquisitions 2,050 10.2 Roll on of 2011 acquisitions Currency (471) (2.3) Primarily 5.6% decline in euro Other (595) (3.0) Primarily annual price downs 2016CL consolidated 29,895 49.0 China unconsolidated 2011 4,581 Volume 3,252 71.0 71% industry increase Backlog 2,129 46.5 2016CL China 9,618 110.0 Total cons + uncons 39,513 76.8


Figure 26

Automotive Experience revenue forecast (US$m) 2010 2011 12CL 13CL 14CL 15CL 16CL 5YCagr (%)North America 6,766 7,423 8,215 8,631 9,190 9,661 9,844 5.8Europe 8,011 10,266 10,018 11,195 13,102 14,344 15,391 8.4Asia 1,833 2,375 2,956 3,264 3,656 4,118 4,660 14.4Total consolidated 16,610 20,065 21,189 23,090 25,949 28,123 29,895 8.3China (unconsolidated) 3,135 4,015 4,581 5,686 6,817 8,174 9,618 19.1Total Auto Experience 19,745 24,080 25,770 28,776 32,766 36,298 39,513 10.4

Source: Company, Credit Agricole Securities (USA

Operational concerns leave us more cautious on margins Johnson Controls’ track record of solid operational performance has been put into question in recent quarters as mounting operational problems plague the automotive segment. With issues extending beyond Europe into North America, management has reduced its earnings outlook for the year (a first for the company) and instituted several initiatives to address the underperformance.

Recreated the automotive COO position, filled by Rainer Schmuecle, who was formerly COO of the Mercedes Car Group.

Hired 300 Six Sigma black belts to improve profitability.

Reductions in SG&A to more efficient levels (US$250m company-wide, with US$100m between Automotive Experience and Power Solutions).

We find the initiatives encouraging and see the slower growth in 2012 as an opportunity for the company to retrench and focus on internal improvements. We believe that issues will ultimately be fixed, but also expect full resolution to be slow with work lingering past 2012. For example, benefits from recent European acquisitions appear to be more muted than anticipated, leading us to err on the side of caution around the margin progression to the company’s mid-term target of 7-8% (versus 4.1% achieved in 2011).

Indeed, Johnson Controls reported European automotive margin of 0.8% in fiscal 1Q12, up 80bps versus the previous year, but down 210bps sequentially despite recent cost actions and a slight increase in revenue. Management noted that synergies from the acquisitions have been slower to realize than anticipated, but remained confident in the longer-term improvement in the region. Likewise, North American margins have been on a sequential decline since fiscal 2Q11, in part due to launch costs associated with a new metals components plant in the USA coming in higher than planned.

Management is taking several steps to remedy

the problem, but resolution will take time

Both North America and Europe have seen significant margin

contraction

Backlog and industry growth could help double

the company’s China revenue by 2016

Auto Experience should grow ahead of production,

with China seeing the strongest growth

Operational issues have piled up in recent

quarters, in stark contrast to its track record of solid operational performance



Much of the recent margin expansion in Automotive Experience has come from higher Asia margins, both as a result of operating leverage in the Asia-ex China region (primarily Japan and Korea) as well as stronger equity income from the company’s unconsolidated Chinese joint ventures, which are reported in segment income but without the associated revenue on a consolidated basis. Over the mid term, we expect Asia to continue to drive the majority of the increase as China equity income grows.

Figure 27

Automotive Experience Asia summary

(US$m) 2009 2010 2011 12CL 13CL 14CL 15CL 16CLRevenue Consolidated 1,098 1,833 2,375 2,956 3,264 3,656 4,118 4,660JCI portion of unconsolidated 956 1,568 2,008 2,290 2,843 3,409 4,087 4,809Total 2,054 3,401 4,383 5,247 6,107 7,064 8,205 9,469Segment Ebit Consolidated (58) (1) 74 161 158 175 193 215JCI portion of unconsolidated 63 119 169 194 243 295 356 423Total 5 118 243 355 402 470 550 638Margin (%) Consolidated (5.3) (0.1) 3.1 5.4 4.8 4.8 4.7 4.6JCI portion of unconsolidated 6.6 7.6 8.4 8.5 8.6 8.6 8.7 8.8Reported 0.5 6.4 10.2 12.0 12.3 12.9 13.4 13.7


Margins are likely to remain challenged in 2012 as management implements cost initiatives to address inefficiencies in North America and Europe. Over the mid term, we concur with management that Automotive Experience, with good execution, could see margins approach 7-8%. In support of this view, we note:

1) Lear, a main seating competitor, currently generates returns that are in the 7-8% range, peak margins for the seating segment, according to management. Indeed, margins in the past have peaked several times around 7%. In 2003, margins expanded by 120bps to 6.9%, but then contracted in 2004 to just 6.0% despite 9% sales growth. Again in 2007, Lear’s Seating business generated its highest revenue ever, but full-year margins only reached 7.0%. More recently, margins reached 7.5% in 2010 but have been down since then, as operational execution, especially around new business launches, has been weaker in recent quarters.

Figure 28

Ebit margins: Johnson Controls Automotive Experience versus Lear Seating

(3.5)

4.13.7

5.1

3.23.03.3

3.94.0 3.6

5.34.7

7.37.5

4.8

6.06.9

4.1

7.0

5.6

3.5

5.44.7

5.7

(6)

(4)

(2)

0

2

4

6

8

10

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011

Johnson Controls Lear(%)

Source: Companies, Credit Agricole Securities (USA)

Lear, a main seat competitor, also has peak margins pegged at 7-8%

Johnson Controls’ margins have trailed

Lear’s, in part due to low- margin interiors business

Asia margins have improved, largely due to

unconsolidated China joint ventures



2) Although Johnson Controls’ Automotive Experience business includes the lower-margin interiors business, it also benefits from unconsolidated equity income from its Chinese JVs, which we expect to achieve a 20% Cagr over the next five years. As a result, we view Lear’s performance as a fair benchmark for Johnson Controls.

3) While the seating business is highly concentrated in North America, Europe and China, with the top three players controlling at least 75% of the market in each of these regions, we believe that automakers are taking advantage of a greater fragmentation in seating components. By unbundling their seat purchases from complete seats previously to directed component purchases now, automakers are taking advantage of better negotiated pricing on each component, capping the overall margin potential for tier-1 suppliers such as Johnson Controls.

Over the next five years, we see margin expansion in all three regions and forecast segment margin to reach 6.8% in 2016, just below the company’s target of 7-8%, which is appropriate, in our view, until the segment demonstrates sustainable improvements in operational performance.

Solid mid-term revenue growth, supported by a strong backlog, recent acquisitions and growth in China, nevertheless implies meaningful earnings growth even off our more modest margin assumptions. We estimate that segment income (including equity income) will improve at a 19.7% Cagr to reach US$2.0bn by 2016, up from US$829m in 2011.

Figure 29

Automotive Experience forecast summary

(US$m) 2009 2010 2011 12CL 13CL 14CL 15CL 16CL

Revenue

North America 4,631 6,766 7,423 8,215 8,631 9,190 9,661 9,844

Europe 6,287 8,011 10,266 10,018 11,195 13,102 14,344 15,391

Asia 1,098 1,833 2,375 2,956 3,264 3,656 4,118 4,660

Total 12,016 16,610 20,065 21,189 23,090 25,949 28,123 29,895

Memo: China (unconsolidated) 1,913 3,135 4,015 4,581 5,686 6,817 8,174 9,618

Segment Ebit

North America (249) 387 406 410 479 561 613 630

Europe (181) 105 180 198 336 544 667 770

Asia 5 118 243 355 402 470 550 638

Total (425) 610 829 964 1,216 1,574 1,830 2,038

Memo: China equity income 63 119 169 194 243 295 356 423

Margin (%)

North America (5.4) 5.7 5.5 5.0 5.6 6.1 6.4 6.4

Europe (2.9) 1.3 1.8 2.0 3.0 4.2 4.7 5.0

Asia 0.5 6.4 10.2 12.0 12.3 12.9 13.4 13.7

Total (3.5) 3.7 4.1 4.5 5.3 6.1 6.5 6.8

Memo: China 6.6 7.6 8.4 8.5 8.6 8.6 8.7 8.8

Incremental margin (%)

North America 29.8 2.9 0.6 16.5 14.6 11.2 9.0

Europe 16.6 3.3 (7.4) 11.7 10.9 9.9 9.8

Asia 15.4 23.1 19.3 15.0 17.4 17.3 16.4

Total 22.5 6.3 12.0 13.3 12.5 11.8 11.7

Memo: China 4.6 5.6 4.5 4.4 4.5 4.6 4.6


Margins are capped by the automakers’ efforts to

reduce costs and directing component purchases

Margins can near the company’s target of 7-8%

over the mid term

We see strong mid-term performance, with

segment income up 19.7% over the next five years

Section 2: Charging forward with AGM Johnson Controls - O-PF


Charging forward with AGM Johnson Controls is the No.1 auto battery maker globally. Power Solutions generates significant cash and is the company’s highest-margin business. Notably, the segment is also becoming a growth engine for the company due to rising adoption of higher revenue and margin AGM batteries. We forecast five-year sales and Ebit Cagrs of 11.6% and 16.6%.

A cash cow that counters the more cyclical autos business The traditional lead-acid automotive battery market is highly fragmented with numerous competitors capturing just a small slice of the market. The one exception is Johnson Controls, which is the undeniable leader with 36% share of the global market.

Figure 30

Global share of automotive batteries

Exide6%

GS Yuasa7%

Other37%

Johnson Controls

36%

Fiamm2%

Fengfan3%

Camel3%

East Penn6%

Source: Johnson Controls, Credit Agricole Securities (USA)

Power Solutions is the company’s smallest segment in terms of revenue, but the most profitable with consistently double-digit Ebit margins. In 2011, the segment accounted for 14% of consolidated revenue and 33% of segment Ebit.

Figure 31

Figure 32


Johnson Controls Ebit by segment

Building Efficiency

36%

Power Solutions

14%


50%

Power Solutions

33%

Building Efficiency

32%


35%

Source: Company

The battery business has a class-leading cost structure and management continues to improve it further through vertical integration. As an example, by adding a second lead-recycling plant in North America, Johnson Controls will have capacity in place to meet 50% of its lead needs in the region, reducing dependence on external sources and price volatility.

Adoption of AGM batteries should enable meaningful

sales and earnings growth over the mid term

The company has a best-in-class cost structure

Johnson Controls is the clear leader in batteries

with 36% global share of a fragmented market

Power Solutions is the company’s highest-

margin business



Although the company does sell to automakers, the bulk of the business (approximately 80%) is to aftermarket customers. This mix creates strong seasonality in the business, but importantly offers a counter-balance to the more cyclical Automotive Experience segment.

Figure 33

Power Solutions aftermarket battery brands


The greatest benefit of the battery business, in our view, is the segment’s strong cash generation, which helps fund acquisitions and the company’s more capital-intensive businesses like autos.

Mid-term growth potential with AGM adoption In the past, Johnson Controls has grown its battery business through acquisitions and new business wins. However, over the mid term, the company has an opportunity to meaningfully expand both revenue and margin through rising demand for AGM batteries, which are used for start/stop applications (also referred to as micro-hybrid vehicles).

To eke out additional fuel efficiency, automakers are turning to start/stop technology, which shuts the engine down when a vehicle comes to a full stop and requires a more robust battery to quickly restart the engine for acceleration. Fuel-efficiency gains are typically around 5%.

Importantly, the adoption of start/stop technology is not reliant on government incentives (like electric vehicles are) as the current cost associated with start/stop is relatively reasonable (usually several hundred dollars per vehicle). Required content typically includes a more robust starter and alternator, a higher capacity battery and additional electronics to manage the technology.

Start/stop is currently most prevalent in Europe, where penetration has reached about 40% in 2011, as the New European Driving Cycle (NDEC) better rewards for the technology than other tests such as the US CAFE standards. However, all major automakers in the USA, Europe, Japan and Korea as well as several Chinese automakers have indicated plans to implement start/stop technology over the next five years. Based on its backlog and discussions with automakers, Johnson Controls expects start/stop penetration in Europe to reach 75% by 2015, while North American penetration could jump from 7% in 2011 to over 50% during the same period.

The segment’s cash generation helps fund

acquisitions and capital- intensive businesses

All major automakers have indicated plans to

implement start/ stop technology

Majority of business is to aftermarket distributors

Start/stop turns off the engine when the vehicle

is stopped, resulting in 5% fuel-efficiency gain



Figure 34 Figure 35

European lead-acid auto battery mix

North American lead-acid auto battery mix

253139

4660

79

756961

5440

21

0

20

40

60

80

100

120

2010 2011 2012 2013 2014 2015

Traditional lead-acid Advanced lead-acid(%)

414351

76

9398

7

24

4957 59

2

0

20

40

60

80

100

120

2010 2011 2012 2013 2014 2015

Traditional lead-acid Advanced lead-acid(%)

Source: Company

Globally, we estimate that annual start/stop volumes for new vehicles could exceed 40m units by 2016, representing roughly 40% penetration of total new vehicle production. With AGM battery life comparable to traditional lead-acid battery life at around 36-48 months, aftermarket demand should begin to see critical scale as we approach mid decade.

Figure 36

Global start/stop light vehicles

0

5,000

10,000

15,000

20,000

25,000

30,000

35,000

40,000

45,000

2011 12CL 13CL 14CL 15CL 16CL

('000s)


The preferred battery for start/stop applications is the AGM battery, which is similar to a conventional lead-acid battery but utilizes a glass mat that absorbs the battery’s acid, resulting in greater charge efficiency within the same battery volume.

Figure 37

AGM battery cutaway


The predominant battery used for start/stop is

the AGM battery

Start/stop could reach 40% global penetration of new vehicle sales by 2016

Aftermarket demand should begin to see

critical scale around mid decade



Due to its scale and ability to add capacity, Johnson Controls is the leader in AGM batteries globally. In Europe, the company holds roughly 85% share of the original equipment market, while it has 100% of the growing original equipment market in the USA. The company is investing over US$400m in the technology, including plans to rapidly increase capacity to meet growing demand. By 2015, it plans to have production capabilities between 18-20m units, up from around 4m units at the end of 2011.

Figure 38

Johnson Controls AGM capacity

0

4

8

12

16

20

2012 2013 2014 2015

Production capacity Approved expansion(m units)

Source: Company

AGM batteries offer a meaningful revenue and margin opportunity for Power Solutions over the mid term. Based on discussions with management, we estimate that a typical AGM battery sells for roughly double the price of a conventional lead-acid battery and contributes about three times the Ebit.

As shown in Figure 39, we expect an 11.6% segment revenue Cagr over the next five years to US$10.2bn in 2016, supported by a growing and aging global car parc as well as rising new vehicle sales. This year is likely to see the least growth as an unseasonably warm winter has eliminated the need for restocking at aftermarket distributers while Johnson Controls also faces lost volumes due to the indefinite shutdown of its Shanghai plant (in 2H12, management expects to meet demand by shipping from other facilities).

We believe that vertical integration in the traditional lead-acid battery business and higher AGM volumes should support 320bps of margin expansion over the next five years to 16.3%, in line with the company’s mid-term target of 16-17%. As a result, we estimate that segment Ebit will exceed US$1.7bn in 2016, up meaningfully from US$771m in 2011.

The company is the No.1 AGM battery maker and is

increasing capacity to meet demand

Importantly, AGMs sell at double the price and earn 3x the Ebit of a traditional

lead-acid battery

In 2012, warm weather and the closure of the

Shanghai plant will reduce growth

Over the mid term, we expect strong sales and

margin expansion as AGM volumes grow

Johnson Controls plans to expand AGM capacity to

18-20m units by 2015



Figure 39

Power Solutions forecast summary

(US$m) 2009 2010 2011 12CL 13CL 14CL 15CL 16CL 5Y Cagr (%)

Revenue

Traditional lead-acid 3,905 4,723 5,528 5,611 6,240 6,773 7,316 7,878 7.3

AGM 83 170 347 531 812 1,196 1,689 2,297 46.0

Total 3,988 4,893 5,875 6,141 7,052 7,969 9,005 10,176 11.6

YoY change (%) 22.7 20.1 4.5 14.8 13.0 13.0 13.0

Units (m units)

Traditional lead-acid 102 114 126 125 138 146 154 161 5.1

AGM 1 2 4 6 9 13 18 24 43.1

US$/unit

Traditional lead-acid 38 41 44 45 45 46 48 49 2.2

AGM 83 85 87 88 90 92 94 96 2.0

Ebit

Traditional lead-acid 389 598 701 753 869 970 1,068 1,172 10.8

AGM 17 34 70 108 167 249 355 487 47.4

Total 406 632 771 862 1,037 1,219 1,423 1,659 16.6

Ebit margin (%)

Traditional lead-acid 10.0 12.7 12.7 13.4 13.9 14.3 14.6 14.9

AGM 20.0 20.0 20.2 20.4 20.6 20.8 21.0 21.2

Total 10.2 12.9 13.1 14.0 14.7 15.3 15.8 16.3


Traditional lead-acid 25.5 12.8 63.5 18.4 19.0 18.0 18.4

AGM 20.0 20.4 20.8 21.0 21.2 21.5 21.8

Total 25.0 14.2 34.0 19.2 19.9 19.6 20.1

Lead (US$/MT) 1,463 2,123 2,503 2,500 2,575 2,652 2,732 2,814

YoY change (%) 45.1 17.9 -0.1 3.0 3.0 3.0 3.0


Focus shifts away from lithium-ion With enthusiasm around AGM adoption, management has de-emphasized lithium-ion as the mid-term growth engine in Power Solutions. Looking back several years, Johnson Controls appeared to be gaining traction in the automotive lithium-ion market as it announced production and development contracts with several automakers including Ford, GM, Daimler and BMW. Furthermore, in 2009 as part of the American Recovery and Reinvestment Act (ARRA), Johnson Controls was awarded US$299.2m in grants, out of a total US$2.4bn, to companies manufacturing advanced vehicle-battery technology.

Since then, electric-vehicle volumes remain extremely low, as the need for further development of battery technology with the range and economics required for wide-spread adoption is likely to keep mass penetration of electric vehicles for the distant future, in our view. We would agree with IHS Automotive that purely electric vehicles will remain a niche product over the next five years while gas and diesel powertrains remain the dominant choice for the foreseeable future. At this point, Johnson Controls does not anticipate meaningful electric-vehicle adoption before 2020, as the industry continues to develop the technology and reduce associated costs.

Lithium-ion has been de-emphasized and is likely a

long-term opportunity for the company



Figure 40

Global vehicle production mix by fuel type

(%) 2007 2008 2009 2010 2011E 2012E 2013E 2014E 2015E 2016E

Gas 75.7 76.1 78.4 77.9 77.0 78.0 77.8 77.7 77.9 78.2

Diesel 24.0 23.6 21.1 21.5 22.4 21.4 21.3 21.4 21.1 20.9

Electric 0.0 0.0 0.0 0.0 0.1 0.2 0.4 0.5 0.5 0.6

Other 0.3 0.4 0.5 0.5 0.5 0.4 0.4 0.4 0.4 0.4

Source: IHS Automotive

In addition, the lithium-ion business has grown increasingly commoditized as automakers seek to develop in-house battery integration capabilities and rely on suppliers to simply manufacture battery cells. From that angle, Johnson Controls and other US battery companies face fierce competition from Japanese and Korean companies who have an established history of making lithium-ion batteries for consumer electronics.

Johnson Controls remains active in lithium-ion development and sees opportunities to utilize lithium-ion batteries jointly with AGM batteries for next-generation start/stop applications. The company has also taken steps to expand its scope beyond just automotive applications. In October 2010, it announced a partnership with Hitachi, Ltd to collaborate on advanced energy-storage development for both motive and non-motive applications. More recently, Johnson Controls and Saft have dissolved their lithium-ion joint venture. The two companies had differing views on the future direction of the joint venture, with Johnson Controls indicating interest in expanding into other energy storage solutions such as the electrical grid storage market. In September 2011, Johnson Controls acquired Saft’s shares for US$145m in cash and received the rights to use technology developed under the joint venture.

Johnson Controls is expanding beyond just

auto lithium-ion use, including non-motive

energy storage

Electric vehicles is expected to remain a

niche product over the next decade

Section 3: Building blues Johnson Controls - O-PF


Building blues Building Efficiency faces a slow-growth environment in the near term due to stalled product demand in mature markets and margin contraction from the Global Workplace Solutions business. Looking forward, however, we expect a cyclical recovery in mature markets, growth in emerging markets and pricing initiatives in the service businesses to lead the segment out of its current slump and support sales and Ebit five-year Cagrs of 9.5% and 17.5%.

Not immune to the current environment Within Johnson Controls, Building Efficiency is the company’s second-largest segment at 36% of consolidated revenue in 2011. Segment Ebit was 32% of the company’s total.

Figure 41

Figure 42


Johnson Controls Ebit by segment

Building Efficiency

36%

Power Solutions

14%


50%

Power Solutions

33%

Building Efficiency

32%


35%

Source: Company

The company offers a mix of products and services, including new HVAC equipment and controls, maintenance and service of existing systems as well as outsourced facilities management. The segment is also increasingly focused on offering software and virtual solutions for building management.

Figure 43

Figure 44

Commercial HVAC unit

Commercial chiller


Figure 45

Johnson Controls’ Panoptix building-management platform


Near-term outlook is uncertain, but Building Efficiency’s long-term potential is promising

Building Efficiency is the company’s second-

largest segment

The company offers a mix of products, services and

facilities management

Johnson Controls is increasingly focused on

software and virtual solutions



The business model centers on energy and cost-efficient solutions that offer an attractive payback to the customer. As a result, the business is positively correlated to rising energy costs and benefits from the trend for “green” solutions that minimize a building’s carbon footprint.

Building Efficiency is exposed primarily to non-residential buildings, which account for 90% of the segment’s revenue. In addition, due to a focus on retrofit, service and management, only 17% of its revenue is attributed to new construction. By region, nearly half of revenue comes from North America. Asia, Latin America and the Middle East now account a combined 24% of revenue, almost in line with Europe at 28%.

Figure 46

Figure 47

Revenue: Non-residential vs residential

Revenue: Recurring vs new construction

Residential10%

Non-residential

90%

Services and

recurring revenues

83%NA new

construction9%

Other new construction

8%

Source: Company

Figure 48

Building Efficiency revenue by region

Europe28%

North America

48%

Asia14%

Latin America and Middle East

10%

Source: Company

While its lower exposure to new construction and residential HVAC helps reduce the cyclicality of the business, the company has not been immune to the challenging environment over the past few years. Segment revenue fell to a low of US$12.5bn in 2009 (down 11.5% year over year), but have since recovered to US$14.9bn last year (above US$14.1bn in 2008).

By business, North America systems and services both stayed fairly stable throughout the downturn, while the region’s residential business declined significantly from 2007 peak levels and remains pressured by the weak housing environment (the business will require an upturn in new construction to recover as the company lacks a significant distribution network for repair and service work). Outside North America, emerging markets like Asia continue to expand, while Europe remains depressed versus prior peak levels.

The business is positively correlated to rising

energy costs, as its focus is on green solutions

Although less cyclical than some of its

competitors, revenue still fell 11.5% in 2009

By region, it is most exposed to North America

The segment is primarily exposed to non-

residential buildings



Figure 49

Building Efficiency revenue by business

0

2,000

4,000

6,000

8,000

10,000

12,000

14,000

16,000

18,000

2007 2008 2009 2010 2011

North America Systems North America ServiceNorth America residential Global Workplace SolutionsAsia EuropeRest of world

(US$m)

Source: Company reports, Credit Agricole Securities (USA)

The rise and fall of Global Workplace Solutions To maintain revenue during the downturn, management focused on growing its services and management businesses as customers were reluctant to lay out cash for retrofits and other capital-intensive projects.

The segment’s fastest-growing business over the past few years has indeed been Global Workplace Solutions (GWS), Johnson Controls’ facilities-management business. Companies were attracted to the opportunity to reduce costs by outsourcing building management to Johnson Controls (including functions such as security, cleaning and landscaping for the building) while Johnson Controls benefited from securing multi-year contracts.

The higher mix of low-margin services business has compressed total Building Efficiency margin over the last several years. More troublesome, however, is that within services it appears that the growth in those businesses came at the expense of margins. In GWS, margins have deteriorated year after year from the mid-3% range in 2006 and 2007 to just 0.4% in 2011. Similarly, margins in the North America Service business dropped 450bps from a peak of 9.4% in 2009 to 4.9% in 2011, as customers continue to defer more expensive service work for cheaper short-term solutions.

Figure 50

Global Workplace Solutions (GWS) financial summary

(US$m) 2006 2007 2008 2009 2010 2011

Revenue 2,046 2,677 3,197 2,832 3,288 4,153

Ebit 67 79 59 45 40 16

Margin (%) 3.3 3.0 1.8 1.6 1.2 0.4

Source: Company reports

In contrast, margins in the company’s systems businesses declined at the depths of the downturn but have since largely recovered to historical levels. Consequently, while segment revenue as of 2011 has exceeded prior peaks in 2008, total segment Ebit and margins remain below 2008 levels.

GWS grew meaningfully during the downturn as

customers were attracted to outsourcing costs . . .

. . . at the same time, the business has seen significant margin

compression

Segment revenue has recovered, but certain

businesses like residential remain pressured



Figure 51

Building Efficiency margins by business

(4)

(2)

0

2

4

6

8

10

12

North AmericaSystems

North AmericaService

GlobalWorkplaceSolutions

Other Total segment

2006 2007 2008 2009 2010 2011(%)


Investors have increasingly questioned the importance of GWS, as some believe the business may be taking management focus away from higher-margin product businesses. While the counter-cyclicality of GWS makes it a compelling addition to Building Efficiency’s portfolio of businesses, we echo investors’ concerns around the weak margin performance.

To defend GWS, management has pointed to the high ROIC and negative working-capital characteristics of the business, which provide the company with strong cashflow as customers pre-pay for the outsourced contractors Johnson Controls hires. Furthermore, the company estimates that GWS pulls in around US$400m annually of incremental revenue (eg, new equipment, additional service) for Building Efficiency.

Nonetheless, management acknowledges the need to improve pricing. The company has little competition at this point (likely as aggressive pricing has made it unattractive for competitors to enter the market) and has hired a consulting team to evaluate opportunities to share in the cost savings its solutions generate for customers. We expect margins to revert towards the historical range of 3%-plus, but as service contracts are generally multi-year in nature, anticipate that improvement will take several years to fully realize.

Glimmers of hope for the near term While we expect GWS and emerging markets to continue to grow ahead of the segment, Building Efficiency overall is facing a slow-growth environment in the near term, as demand for higher-margin products remains stalled in mature markets. Recent signs point to a potential uptick in late 2012, but we remain cautious as fiscal austerity in Europe and the USA (roughly 70% of its North American business is to government, schools and other public buildings) may keep capital-intensive projects under pressure.

In the USA, growth in new construction has indeed been tepid over the past two years, as reflected in the horizontal movement of the Architecture Billing Index (ABI). The December 2011 ABI reading was the second consecutive month at 52.0 (a score above 50 indicates expansion in billings), an encouraging sign that the non-residential construction environment could improve towards the end of 2012 (the ABI is a leading indicator of spending

Investors are concerned that GWS is taking

management focus away from other businesses

Management argues that the company benefits

from GWS’ high ROIC and negative working capital

Pricing initiatives will take time, as contracts

are multi-year long

Recent signs suggest Building Efficiency may be entering a time of a more

robust recovery

While product margins have largely returned to

historical levels, GWS margins continue to fall



activity in 9-12 months). We note, however, that the index movement is reminiscent of the readings in fourth quarter 2010, which was followed by a weakening in the first half of 2011.

Figure 52

Architecture Billings Index

30

35

40

45

50

55

60

65

70

Jan 06 Nov 06 Sep 07 Jul 08 May 09 Mar 10 Jan 11 Nov 11

(Index)

Source: American Institute of Architects, Bloomberg

Throughout the past few quarters, the company’s own backlog, which is mainly comprised of products, has hinted at a strengthening environment, albeit at very measured pace. Indeed, products revenue has been slow to materialize and on the fiscal 1Q12 earnings call, management noted that the timeline for many of the company’s booked projects are longer than historical norms, suggesting that recently bookings should support stronger revenue generation in the later part of 2012. As of December 2011, the Building Efficiency backlog stood at US$5.3bn, up 4% sequentially and 8% YoY.

Figure 53 Figure 54

Building Efficiency backlog

Building Efficiency quarterly revenue - Product vs services

0

1,000

2,000

3,000

4,000

5,000

6,000

Dec

07

Mar

08

Jun 0

8

Sep 0

8

Dec

08

Mar

09

Jun 0

9

Sep 0

9

Dec

09

Mar

10

Jun 1

0

Sep 1

0

Dec

10

Mar

11

Jun 1

1

Sep 1

1

Dec

11

(15)

(10)

(5)

0

5

10

15

20 Backlog (LHS)YoY % change

(US$m) (%)

0

500

1,000

1,500

2,000

2,500

Dec

07

Mar

08

Jun 0

8

Sep

08

Dec

08

Mar

09

Jun 0

9

Sep

09

Dec

09

Mar

10

Jun 1

0

Sep

10

Dec

10

Mar

11

Jun 1

1

Sep

11

Dec

11

Products Services(US$m)


We are modeling revenue in the products portion of Building Efficiency to grow just 3.8% YoY in fiscal 2012, as we remain cautious on retrofit and new construction demand in mature markets, but see continued growth in Asia (both from China and post-quake work in Japan). We expect the services businesses to post stronger growth of 6.8% in 2012, primarily driven by continued expansion in GWS. All in all, we forecast a 5.5% YoY increase in Building Efficiency revenue for this year, below company expectations of high-single digits (previously 9-11% which were revised down due to a weaker euro and poor residential HVAC demand).

Johnson Controls’ backlog has also expanded, but revenue has been slow

to materialize

We are modeling 5.5% growth in 2012, as we

remain cautious on the pace of recovery

The ABI index, while higher in recent months,

has had trouble remaining at the improved levels



Awaiting mid-term recovery Building Efficiency has a robust mid-term outlook, in our view, as a cyclical recovery in mature markets, development in emerging markets and pricing initiatives in the service businesses should combine to generate material improvements in both sales and Ebit.

As a result of the recent economic downturn, North American businesses have been pressured by deferred maintenance and temporary solutions that limited capital outlay for customers. This has likely created meaningful pent-up demand as well as the need for potentially costlier repair and retrofit projects due to neglected maintenance over the last few years.

As such, we are modeling North American systems to achieve a 6.2% Cagr over the next five years, with likely a couple of years of above-average double-digit growth. We believe the higher volumes will also support stronger margins and estimate that the business could revert back to prior peak levels in the mid-11% range. In the North American Services business, we estimate that revenue will increase at a 5.3% Cagr over the same time period. Building in a return of higher-margin service projects, we are forecasting 260bps of margin expansion from 4.9% in 2011 to 7.5% by 2016.

While the bulk of Johnson Controls’ non-service business is currently retrofit business, we expect higher new construction exposure over the mid term as development in emerging markets like China and the Middle East spur on strong growth in the segment’s Asia and rest of world businesses.

In particular, the urbanization trend in China is expected to drive nearly half of the global increase in new commercial building space over the next 10 years, which gives us confidence in continued double-digit revenue growth in Asia. We are modeling Asia revenue to rise at a 14.4% Cagr through 2016 and Ebit margins to reach 14.3% over the next five years (versus 13.5% in 2011).

In Johnson Controls’ Other business, which groups the company’s rest of world regions and the small residential HVAC business, we are forecasting a 10.5% Cagr for revenue and 170bps of margin expansion to 5.0%, supported by development in the Middle East and a cyclical recovery in Europe and residential HVAC.

Figure 55

New commercial building space through 2021

Europe9%

North America

9%Middle East17%

China46%Axia ex China

and India8%

India7%

Africa1%

Latin America

3%

Source: Company

Deferred maintenance is likely to support strong

demand in the future

Development in emerging markets will also support

strong growth over the mid term

China in particular is seeing a strong

urbanization trend

It is estimated that nearly half of new commercial buildings through 2021

will be in China



GWS growth is likely to moderate to historical rates (still strong around 10%), as an improved economic environment relieves pressure to outsource costs. We also expect over the mid term that better pricing on new business and renegotiated contracted on existing business to drive GWS margins upward. As a result, we are modeling a 10% revenue Cagr over the next five years and Ebit margin of 3.5% in 2016, in line with historical levels and up from only 0.4% in 2011.

In total, we estimate that segment revenue could surpass US$23bn in 2016, representing a 9.5% Cagr over the next five years, somewhat below company guidance of 10-15% over the mid term. We expect segment Ebit to more than double to US$1.7bn, as better pricing and volumes support stronger operational performance. Our forecast implies Ebit margin of 7.2% by 2016 (8.7% ex GWS), with margin expansion of around 50bps per year. At the same time, as we wait for evidence of a sustainable recovery (both in products demand and service margins), we note that our 7.2% forecast is conservatively below management’s target of 8.5% (10% ex GWS). Figure 56 details our full forecast for Building Efficiency.

Figure 56

Building Efficiency forecast summary

(US$m) 2010 2011 12CL 13CL 14CL 15CL 16CL 5Y Cagr (%)

Revenue

North America Systems 2,142 2,343 2,368 2,486 2,735 3,008 3,158 6.2

North America Service 2,127 2,305 2,320 2,436 2,631 2,842 2,984 5.3

Global Workplace Solutions 3,288 4,153 4,565 5,022 5,524 6,076 6,684 10.0

Asia 1,422 1,840 2,057 2,365 2,720 3,128 3,598 14.4

Other (NA resi, Europe, ROW) 3,823 4,252 4,401 4,949 5,577 6,266 7,005 10.5

Total Building Efficiency 12,802 14,893 15,711 17,259 19,187 21,320 23,429 9.5

Excluding GWS 9,514 10,740 11,145 12,237 13,663 15,244 16,745 9.3

Segment income

North America Systems 206 239 242 261 301 346 370 9.1

North America Service 117 113 110 134 162 193 222 14.5

Global Workplace Solutions 40 16 54 108 149 188 234 71.0

Asia 178 249 271 319 375 440 514 15.6

Other 132 139 153 198 251 298 350 20.3

Total Building Efficiency 673 756 830 1,020 1,238 1,465 1,690 17.5

Excluding GWS 633 740 776 912 1,089 1,276 1,457 14.5

Segment margin (%)

North America Systems 9.6 10.2 10.2 10.5 11.0 11.5 11.7

North America Service 5.5 4.9 4.8 5.5 6.2 6.8 7.5

Global Workplace Solutions 1.2 0.4 1.2 2.2 2.7 3.1 3.5

Asia 12.5 13.5 13.2 13.5 13.8 14.1 14.3

Other 3.5 3.3 3.5 4.0 4.5 4.8 5.0

Total Building Efficiency 5.3 5.1 5.3 5.9 6.5 6.9 7.2

Excluding GWS 6.7 6.9 7.0 7.5 8.0 8.4 8.7


North America Systems 16.4 11.2 16.3 16.0 16.5 15.7

North America Service (2.2) (17.5) 20.4 14.3 14.9 20.5

Global Workplace Solutions (2.8) 9.2 11.8 8.2 7.1 7.5

Asia 17.0 10.2 15.6 15.8 15.7 16.0

Other 1.6 9.3 8.2 8.4 6.8 7.1

Total Building Efficiency 4.0 9.1 12.3 11.3 10.6 10.7

Excluding GWS 8.7 8.9 12.5 12.4 11.8 12.0


GWS growth should moderate to still strong

levels, while profitability should improve with

better pricing in place

Over the mid term, we expect revenue to grow at

a 9.5% five-year Cagr

Section 4: Pullback creates opportunity Johnson Controls - O-PF


Pullback creates opportunity The stock typically trades at multiples well above auto peers and closer to multi-industry conglomerates, but headwinds are likely to keep it discounted to its historical range in the near term. Even with current pressures, we see upside given the post-earnings pullback, and over time expect valuation to recover as the company demonstrates sustained operational improvements. We initiate coverage with an Outperform rating and a US$39 target price, based on 11.6x 13CL EPS (average historical mean multiple of 13.1x and our quantitatively derived “fair multiple” of 10.0x).

Headwinds likely to limit near-term upside Last year was not a good year for autos stocks, with automakers averaging a 40% decline and auto suppliers dropping 24%, versus flat performance for the S&P500, as investors actively de-risked their portfolios amid uncertainty around the global economic outlook. Within auto stocks, Johnson Controls ended down 17%, better than the supplier average of down 24%, as investors favored perceived quality and lower-beta names in a rocky market. Gentex was the best-performing auto stock in 2011, ending the year 1.7% higher.

Since then, growing optimism around US vehicle demand, combined with an overall market rally, has driven the auto sector meaningfully higher in 2012. Year to date, both automakers and suppliers are outperforming the S&P500 by around 1800bps. Johnson Controls’ stock price moved in line with other auto suppliers ahead of the company’s earnings release on 19 January. With a guide down from management and a growing list of operational issues, the stock has since given up much of its year-to-date gains and now significantly lags both its peers and the S&P500.

Figure 57 Figure 58

JCI stock performance versus peers and S&P

JCI stock performance versus peers and S&P

0

5

10

15

20

25

30

30 Dec 11 8 Jan 12 17 Jan 12 26 Jan 12 4 Feb 12 13 Feb 12

Johnson Controls Supplier avgAutomaker avg S&P500

(%)

(50)

(40)

(30)

(20)

(10)

0

10

20

Dec 10 Mar 11 Jun 11 Sep 11 Dec 11

Johnson Controls Supplier avgAutomaker avg S&P500

(%)

Source: FactSet, Credit Agricole Securities (USA)

While we concur that some discount to its historical multiple is warranted as we await progress around the company’s operational fixes, we believe there is upside in the near term given the sharp post-earnings pullback in the stock. Specifically, the stock is trading at just 10.5x 13CL EPS of US$3.35, a meaningful discount versus its five-year average multiple of 13.1x. On an EV/Ebitda basis, Johnson Controls is trading at 6.9x 13CL Ebitda of US$4,334m, also well below its five-year average of 8.0x.

Despite near-term pressure, the recent

pullback leaves valuation attractive

YTD 2012, Johnson Controls has trailed peers,

due to a guide down and disappointing fiscal 1Q

Johnson Controls outperformed peers in

2011 as investors favored lower-beta names



Figure 59

Johnson Controls trading multiple summary

Current price (US$) 35.16 2013CL EPS (US$) 3.35 2013CL Ebitda (US$m) 4,334 Current Trough 5Y average 10Y averagePE FY2 (x) 10.5 7.7 13.1 12.7EV/Ebitda FY2 (x) 6.9 5.6 8.0 7.2Source: FactSet, Credit Agricole Securities (USA)

Figure 60 Figure 61

Johnson Controls PE FY2 multiple history

Johnson Controls EV/Ebitda FY2 multiple history

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EV/Ebitda Long-term avg

5Y avg LT avg + 1 std

LT avg - 1 std

(x)


Mid-term prospects remain appealing Beyond the company’s near-term pressures, we are constructive on Johnson Control’s outlook and see the current price as an attractive entry point for the longer-term investor. We expect to stock to revert back to its historically above-average multiple as the company shows sustained progress in its operational fixes. We would argue that Johnson Controls’ historically above-average multiple is well deserved given its solid balance sheet and track record of high sales and earnings growth. Furthermore, the company’s diverse set of businesses warrants comparison to multi-industry peers that trade at meaningfully higher multiples than pure auto suppliers do.

Indeed, over the mid term, we believe the company’s earnings growth will be among the best of the supplier group. Specifically, with stronger volumes and operational improvements, we expect an impressive 18.7% EPS Cagr over the next five years.

Figure 62 Figure 63

US auto suppliers 2011-16CL revenue Cagr

US auto suppliers 2011-16CL EPS Cagr

5.96.2

9.2

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BorgWarner Tenneco JohnsonControls

Dana Lear

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Tenneco JohnsonControls

BorgWarner Dana AmericanAxle

Lear

(%)


Stronger volumes and operational fixes support above average mid-term

earnings potential

Over the mid term, we believe Johnson Controls

deserves an above-average autos multiple

The stock is trading well below its historical

multiples



Figure 64

Johnson Controls income statement

(US$m) 2010 2011 12CL 13CL 14CL 15CL 16CL

Net sales 34,305 40,833 43,041 47,401 53,104 58,449 63,499

Cost of goods sold 29,005 34,663 36,544 40,021 44,481 48,701 52,679

Gross profit 5,300 6,170 6,497 7,380 8,623 9,747 10,820

Gross margin (%) 15.4 15.1 15.1 15.6 16.2 16.7 17.0

SG&A 3,600 4,075 4,267 4,598 5,151 5,670 6,159

Operating income 1,700 2,095 2,230 2,782 3,472 4,078 4,661

Operating margin (%) 5.0 5.1 5.2 5.9 6.5 7.0 7.3

Net interest expense 170 174 227 217 192 167 142

Other expense/(income) 0 0 0 0 0 0 0

Equity (income)/loss (215) (261) (426) (491) (559) (640) (726)

Pre-tax income 1,745 2,182 2,429 3,057 3,840 4,551 5,245

Pre-tax margin (%) 5.1 5.3 5.6 6.4 7.2 7.8 8.3

Provisions for/(benefit from) tax 314 410 467 611 799 983 1,185

Tax rate (%) 18.0 18.8 19.2 20.0 20.8 21.6 22.6

Less non-controlling interests 75 117 131 138 147 158 166

Less preferred dividend 0 0 0 0 0 0 0

Net income/(loss) attributable to JCI common 1,356 1,655 1,831 2,308 2,894 3,410 3,894

Effect of dilutive securities 0 0 0 0 0 0 0

EPS (excluding special items) (US$) 1.99 2.40 2.66 3.35 4.20 4.95 5.65

Consensus (US$) 2.76 3.37 3.99 4.47 na


On an Ebitda basis, the company’s margins, although towards the lower half of the group currently, should reach double digits by 2016, as the company realizes benefits from restructuring actions and operating leverage. We forecast a strong 16.8% Ebitda Cagr over the next five years, the highest rate among our coverage.

Figure 65 Figure 66

US auto suppliers - 2016CL Ebitda margins

US auto suppliers - 2011-16CL Ebitda Cagr

8.29.2

10.6

12.313.2

17.4

0

2

4

6

8

10

12

14

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18

20

BorgWarner AmericanAxle

Dana JohnsonControls

Tenneco Lear

(%)

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JohnsonControls

BorgWarner Tenneco Dana AmericanAxle

Lear

(%)


Solid and consistent balance sheet While not in a net cash position like some auto suppliers such as Dana and Lear, Johnson Controls’ balance-sheet health justifies an above-average multiple, in our view. The company’s net debt balance of US$5.7bn may be higher than other suppliers under our coverage, but it is well within proportion relative to the size of the business and balance sheet. Indeed, net debt represented 19% of the company’s enterprise value, not far from other high-quality names like BorgWarner and well below American Axle, the supplier under our coverage that is most pressured by its debt load.

We also expect compelling Ebitda growth

over the mid term

The company’s balance sheet and cashflow have

been a consistent strength



Furthermore, Johnson Controls’ net debt/Ebitda leverage ratio has been consistently stable over the past decade, only rising temporarily for large acquisitions or the recent recession. With management indicating that it will likely not pursue any acquisitions this year as it refocuses on internal operations, we expect earnings growth and strong cash generation to reduce leverage in 2012.

Figure 67 Figure 68

US auto suppliers net debt/(cash) positions

Johnson Controls leverage history and forecast

(3,500)

(2,500)

(1,500)

(500)

500

1,500

2,500

3,500

4,500

5,500

6,500

AmericanAxle

Tenneco JohnsonControls

BorgWarner Dana Lear

(% of EV)(US$m)

(35)

(25)

(15)

(5)

5 %

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65

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(US$m) (x)


Figure 69

Johnson Controls balance sheet

(US$m) 2010 2011 12CL 13CL 14CL 15CL 16CLAssets Cash and cash equivalents 560 257 791 844 857 1,363 2,264Accounts receivables 6,095 7,151 7,363 7,922 8,875 9,768 10,612Inventories 1,786 2,316 2,300 2,412 2,681 2,935 3,175Other current assets 2,211 2,291 2,425 2,425 2,425 2,425 2,425Total current assets 10,652 12,015 12,879 13,603 14,838 16,492 18,476Property, plant and equipment - net 4,096 5,616 6,237 6,816 7,333 7,812 8,262Goodwill 6,501 7,016 6,955 6,955 6,955 6,955 6,955Other intangible assets - net 741 945 941 941 941 941 941Investments in partially-owned affiliates 728 811 896 896 896 896 896Other non-current assets 3,025 3,273 3,311 3,311 3,311 3,311 3,311Total assets 25,743 29,676 31,219 32,522 34,275 36,407 38,841Liabilities Short-term debt 75 596 348 348 348 348 348Current portion of long-term debt 662 17 109 109 109 109 109Accounts payable 5,426 6,159 6,286 6,908 7,678 8,406 9,093Accrued compensation and benefits 1,122 1,315 954 954 954 954 954Other current liabilities 2,625 2,695 2,787 2,787 2,787 2,787 2,787Total current liabilities 9,910 10,782 10,484 11,106 11,876 12,604 13,291Long-term debt 2,652 4,533 5,526 4,726 3,726 2,726 1,726Postretirement health and other benefits 235 1,102 788 788 788 788 788Other non-current liabilities 2,573 1,819 1,706 1,706 1,706 1,706 1,706Total liabilities 15,370 18,236 18,504 18,326 18,096 17,824 17,511Equity 10,267 11,302 12,574 14,048 16,024 18,420 21,159Noncontrolling interests 106 138 141 148 155 163 171Total equity 10,373 11,440 12,715 14,196 16,179 18,583 21,331Total liabilities and equity 25,743 29,676 31,219 32,522 34,275 36,407 38,841Cash and cash equivalents 560 257 791 844 857 1,363 2,264Total debt 3,389 5,146 5,983 5,183 4,183 3,183 2,183Net debt/(cash) 2,829 4,889 5,192 4,339 3,326 1,820 (81)Total capitalization 13,202 16,329 17,907 18,536 19,505 20,403 21,250Gross debt/capital (%) 26 32 33 28 21 16 10Net debt/capital (%) 21 30 29 23 17 9 0Gross debt/Ebitda (x) 1.3 1.7 1.7 1.2 0.8 0.5 0.3Net debt/Ebitda (x) 1.1 1.6 1.4 1.0 0.6 0.3 0.0Source: Company, Credit Agricole Securities (USA)

Johnson Controls’ leverage ratio has

remained consistently stable



Johnson Controls has a long history of paying a dividend, putting the company among a select group of US auto stocks. With confidence in its cashflow, the company maintained its dividend even during the downturn and continues to pay one of the highest yields in the auto sector.

Figure 70

US autos stocks - Dividend yields

2.3

1.6 1.6

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anAxl

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Figure 71

Johnson Controls cashflow statement

(US$m) 2010 2011 12CL 13CL 14CL 15CL 16CL

Cashflows from operating activities Net income 1,356 1,655 1,831 2,308 2,894 3,410 3,894

Depreciation 648 682 864 984 1,076 1,158 1,233Amortization of intangibles 43 49 66 76 83 89 95

Equity in earnings of partially-owned affiliates 5 (15) (102) (102) (102) (102) (102)Deferred income taxes (85) (144) 60 60 60 60 60

Change in working capital (769) (1,202) (494) (49) (452) (419) (397)Other 316 123 (270) (237) (84) (30) (32)

Net cash from operating activities 1,514 1,148 1,955 3,040 3,475 4,166 4,752

Cashflows from investing activities Capital expenditures (777) (1,325) (1,713) (1,564) (1,593) (1,637) (1,683)

Sale of property, plant and equipment 47 54 3 0 0 0 0Acquisitions/divestitures (61) (1,226) (11) 0 0 0 0

Other (177) (212) (85) 0 0 0 0Net cash from investing activities (968) (2,709) (1,806) (1,564) (1,593) (1,637) (1,683)

Cashflows from financing activities Increase/(decrease) in short-term debt - net (575) 510 0 0 0 0 0

Increase in long-term debt 519 1,829 1,090 0 0 0 0

Repayment of long-term debt (526) (764) (282) (800) (1,000) (1,000) (1,000)Equity issuance/(repurchases) 0 0 0 0 0 0 0

Cash dividends (339) (413) (436) (623) (868) (1,023) (1,168)Other 26 77 (18) 0 0 0 0

Net cash from financing activities (895) 1,239 354 (1,423) (1,868) (2,023) (2,168)Effect of exchange rate changes on cash 148 19 31 0 0 0 0

Net change in cash and cash equivalents (201) (303) 534 53 14 506 901Prior period cash and cash equivalents 761 560 257 791 844 857 1,363

Net change (201) (303) 534 53 14 506 901Current period cash and cash equivalents 560 257 791 844 857 1,363 2,264

Free cashflow 737 (177) 242 1,476 1,882 2,529 3,069

FCF per share (US$) 1.08 (0.26) 0.35 2.14 2.73 3.67 4.45


The company has a track record of maintaining

a dividend

The stock has one of the highest payout ratios

among US auto names



Valuation details We initiate coverage of Johnson Controls with a US$39 target price, based on 11.6x 13CL EPS of US$3.35. Our target multiple is the average of Johnson Controls’ 13.1x mean multiple over the past five years and our quantitatively derived “fair multiple” of 10.0x based on the company’s growth and profitability outlook.

As discussed in our industry initiation piece published concurrently, we find a solid correlation (r-square of 75%) between a supplier’s FY2 valuation multiple and a metric of its profitable growth outlook, designed as the sum of a company’s mid-term Ebitda Cagr and its mid-cycle Ebitda margin. Applying the equation of this trendline to Johnson Controls’ 16.8% Ebitda Cagr over 2011-16CL and 9.1% Ebitda margin in 13CL, we derive a “fair multiple” of 5.5x on an EV/Ebitda basis and 10.0x on a PE basis.

Figure 72

Correlation between suppliers valuation multiples and profitable growth outlook

AXL

BWA

DAN

JCI

LEA

TENMGA

ALV

GNTX

VC

DLPHy = 15.734x + 1.4211

R2 = 0.7497

0

2

4

6

8

10

12

15% 20% 25% 30% 35% 40% 45% 50% 55% 60%

(x)

Note: Profitable growth is the sum of a company’s 2011-16CL Ebitda Cagr and its 2013CL Ebitda margin. Source: FactSet, Credit Agricole Securities (USA)

Alternatively, our US$39 target price implies an EV/Ebitda multiple of 7.5x our 2013CL Ebitda of US$4,334m. Over the past five years, Johnson Controls has traded at an average EV/Ebitda FY2 multiple of 8.0x.

Figure 73

Johnson Controls valuation summary

EV/Ebitda valuation (US$m) PE valuation

2013 Ebitda 4,334 2013 EPS (US$) 3.35

Implied target multiple (x) 7.5 Target multiple (x) 11.6

Enterprise value 32,510 Target price (US$) 39

Debt 5,983

(Cash) (241)

Net debt/(cash) 5,742

Equity value 26,768

Diluted share count (m) 689.1

Target price (US$) 39

Source: Credit Agricole Securities (USA)

We initiate coverage of Johnson Controls with a US$39 target price and

O-PF rating

Our US$39 target price is based on an 11.6x 13CL

EPS of US$3.35

We find a 75% correlation between a supplier’s

multiple and its profitable growth outlook



Investment risks Johnson Controls is subject to the cyclicality of the auto and HVAC markets, which are highly correlated to macroeconomic conditions. It is particularly sensitive to conditions in North America and Europe, which represent approximately 37% and 51% of Automotive Experience revenue and around 48% and 28% of Building Efficiency revenue. While we are modeling a slowdown in Europe in the near term, a more significant decline in the region, both in terms of volume and currency, or an associated slowdown in North America could meaningfully hamper the company’s ability to grow sales and earnings.

Raw materials account for a significant portion of Johnson Controls’ costs and thus can be adversely affected by cost inflation. In autos, the company is most exposed to steel, while the Power Solutions segment is affected by lead prices. While historically customer recoveries have helped partially offset higher material costs, and the company is expanding its lead-recycling capabilities to reduce exposure to external pricing, large or rapid fluctuations in raw material prices could meaningfully impact earnings.

Recently, Johnson Controls has accumulated operational missteps across all three of its segments. With a history of a being well-run company with strong operational performance, our forecasts assume a gradual but complete resolution of current issues. To the extent that management is unable to fully resolve operational problems, the company’s sales and earnings outlook could come in materially below our and the street’s estimates.

The company is exposed to the cyclicality of the

auto and HVAC markets

Inability to reverse recent operational issues would

significantly reduce the earnings outlook

It is particularly sensitive to conditions in North

America and Europe

Appendices Johnson Controls - O-PF


Appendix 1: Risks & drivers

Investment by numbers Modeling in Johnson Controls' backlog and our industry volume assumptions, we estimateYoY sales growth of 5.4% in 2012, below the average for suppliers under our coverage aswe expect the company to face European auto headwinds and a still stalled HVAC environment in mature markets. Longer term, we forecast a 9.2% revenue Cagr to US$63.5bn in 2016.

While the company has a track record of strong earnings growth, we expect 2012 results tobe negatively impacted by a list of operational issues that will take time to resolve. As aresult, we are forecasting 2012 EPS of US$2.66, which is below the street at US$2.76 and company guidance of US$2.70-2.85, as we are more cautious on margins and European volumes than the company is.

Longer term, we believe the company’s earnings growth will be among the best of the supplier group, as it benefits from resolution of its operational issues and strong revenuegrowth. We expect an impressive 18.7% EPS Cagr over the next five years.

Risks to our view The company is subject to the cyclicality of the auto and HVAC markets, and in particularconditions in North America and Europe. While we are modeling a slowdown in Europe in the near term, a more significant decline in the region, both in terms of volume and currency, oran associated slowdown in North America could meaningfully hamper the company’s abilityto grow sales and earnings.

Raw materials account for a significant portion of Johnson Controls’ costs, In autos, the company is most exposed to steel, while the battery segment is affected by lead prices. While historically customer recoveries have helped partially offset higher material costs andthe company is expanding its lead-recycling capabilities to reduce exposure to external pricing, large or rapid fluctuations in raw material prices could meaningfully impact earnings.

Recently, Johnson Controls has accumulated operational missteps across all three of itssegments. With a history of a being well-run company with strong operational performance, our forecasts assume a gradual but complete resolution of issues. If management is unable to fully resolve issues, the company’s sales and earnings outlook could be materially weaker.

Key earnings drivers Production (’000s) 2011A 2012CL 2013CL 2014CL 2015CLEurope 20,089 18,600 19,250 20,750 21,500China 17,538 19,000 22,000 25,000 28,000Japan/Korea 12,451 14,000 13,500 13,300 13,200Middle East/Africa 2,233 2,350 2,500 2,650 2,800North America 13,126 14,198 14,900 15,600 16,100South America 4,318 4,575 5,000 5,400 5,800South Asia 6,814 7,400 8,100 8,800 9,600Global total 76,569 80,123 85,250 91,500 97,000Source: IHS Automotive, Credit Agricole Securities (USA)

Sales (US$m)

0

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20,000

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2010 2011 12CL 13CL 14CL

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2010 2011 12CL 13CL 14CL

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2010 2011 12CL 13CL 14CL

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2010 2011 12CL 13CL 14CL

Net debt (US$m)

0

1,000

2,000

3,000

4,000

5,000

6,000

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Appendices Johnson Controls - O-PF


Appendix 2: Summary financials Year to 30 September 2010A 2011A 2012CL 2013CL 2014CL

Summary P&L forecast (US$m) Revenue 34,305 40,833 43,041 47,401 53,104 Op Ebitda 2,606 3,087 3,585 4,334 5,190 Op Ebit 1,915 2,356 2,655 3,273 4,032 Interest income - - - - - Interest expense (170) (174) (227) (217) (192) Other items 0 0 0 - 0 Profit before tax 1,745 2,182 2,429 3,057 3,840 Taxation (314) (410) (467) (611) (799) Minorities/pref divs/affils (75) (117) (131) (138) (147) Net income 1,356 1,655 1,831 2,308 2,894

Summary cashflow forecast (US$m) Net income 1,356 1,655 1,831 2,308 2,894 Operating adjustments - - - - - Depreciation/amortisation 691 731 930 1,060 1,159 Working capital changes (769) (1,202) (494) (49) (452) Non-operating adjustments 236 (36) (312) (279) (126) Net operating cashflow 1,514 1,148 1,955 3,040 3,475 Capital expenditure (777) (1,325) (1,713) (1,564) (1,593) Free cashflow 737 (177) 242 1,476 1,882 Acq/inv/disposals (191) (1,384) (93) - - Net investing cashflow (968) (2,709) (1,806) (1,564) (1,593) Increase in loans (582) 1,575 808 (800) (1,000) Dividends (339) (413) (436) (623) (868) Net equity raised/other 26 77 (18) - - Net financing cashflow (895) 1,239 354 (1,423) (1,868) Incr/(decr) in net cash (349) (322) 503 53 14 Exch rate movements 148 19 31 0 0 Opening cash 761 560 257 791 844 Closing cash 560 257 791 844 857

Summary balance sheet forecast (US$m) Cash & equivalents 560 257 791 844 857 Debtors 6,095 7,151 7,363 7,922 8,875 Inventories 1,786 2,316 2,300 2,412 2,681 Other current assets 2,211 2,291 2,425 2,425 2,425 Fixed assets 4,096 5,616 6,237 6,816 7,333 Intangible assets 7,242 7,961 7,896 7,896 7,896 Other term assets 3,025 3,273 3,311 3,311 3,311 Total assets 25,743 29,676 31,219 32,522 34,275 Short-term debt 737 613 457 457 457 Creditors 5,426 6,159 6,286 6,908 7,678 Other current liabs 3,747 4,010 3,741 3,741 3,741 Long-term debt/CBs 2,652 4,533 5,526 4,726 3,726 Provisions/other LT liabs 2,808 2,921 2,494 2,494 2,494 Minorities/other equity 106 138 141 148 155 Shareholder funds 10,267 11,302 12,574 14,048 16,024 Total liabs & equity 25,743 29,676 31,219 32,522 34,275

Ratio analysis Revenue growth (% YoY) 20.4 19.0 5.4 10.1 12.0 Ebitda growth (% YoY) 88.8 18.5 16.1 20.9 19.8 Ebitda margin (%) 7.6 7.6 8.3 9.1 9.8 Net income margin (%) 4.0 4.1 4.3 4.9 5.4 Dividend payout (%) 26.2 26.7 24.1 27.5 30.5 Effective tax rate (%) 18.0 18.8 19.2 20.0 20.8 Ebitda/net int exp (x) 15.3 17.7 15.8 20.0 27.1 Net debt/equity (%) 27.3 42.7 40.8 30.6 20.6 ROE (%) 14.5 16.2 16.2 18.2 20.0 ROIC (%) 10.5 11.3 11.3 13.2 15.5 EVA®/IC (%) (2.4) (1.6) (1.6) 0.3 2.6 Source: Company, Credit Agricole Securities (USA)

Backlog and emerging market demand should support solid growth.

Focus on operational issues should enable margin expansion.

We expect Johnson Controls to generate significant free cashflow.

Cash generation offers the ability to repay debt or make acquisitions.

Johnson Controls - O-PF


Notes

Important disclosures Johnson Controls - O-PF


Analyst certification The analyst(s) of this report hereby certify that the views expressed in this research report accurately reflect my/our own personal views about the securities and/or the issuers and that no part of my/our compensation was, is, or will be directly or indirectly related to the specific recommendation or views contained in this research report.

Important disclosures CLSA (which for the purpose of this disclosure includes subsidiaries of CLSA B.V. and Credit Agricole Securities Asia B.V., Tokyo Branch)/Credit Agricole Securities (USA) Inc ("Credit Agricole Securities (USA)")'s policy is to only publish research that is impartial, independent, clear, fair, and not misleading. Analysts may not receive compensation from the companies they cover.

Regulations or market practice of some jurisdictions/markets prescribe certain disclosures to be made for certain actual, potential or perceived conflicts of interests relating to a research report as below. This research disclosure should be read in conjunction with the research disclaimer as set out at www.clsa.com/disclaimer.html and the applicable regulation of the concerned market where the analyst is stationed and hence subject to. This research disclosure is for your information only and does not constitute any recommendation, representation or warranty. Absence of a discloseable position should not be taken as endorsement on the validity or quality of the research report or recommendation.

Neither analysts nor their household members/associates may have a financial interest in, or be an officer, director or advisory board member of companies covered by the analyst unless disclosed herein. Unless specified otherwise, CLSA/Credit Agricole Securities (USA)'s did not receive investment banking/non-investment banking income from, and did not manage/co-manage public offering for, the listed company during the past 12 months, and it does not expect to receive investment banking relationship from the listed company within the coming three months. Unless mentioned otherwise, CLSA/Credit Agricole Securities (USA) does not own discloseable position, and does not make market, in the securities.

The analysts included herein hereby certify that the views expressed in this research report accurately reflect their own personal views about the securities and/or the issuers and that unless disclosure otherwise, no part of their compensation was, is, or will be directly or indirectly related to the specific recommendation or views contained in this research report or revenue from investment banking revenues. The analyst/s also states/s and confirm/s that he has/have not been placed under any undue influence, intervention or pressure by any person/s in compiling this research report. In addition, the analysts included herein attest that they were not in possession of any material, non-public information regarding the subject company at the time of publication of the report. Save from the disclosure below (if any), the analyst(s) is/are not aware of any material conflict of interest.

CLSA and/or Credit Agricole Securities (USA) Inc and/or the analysts involved in the preparation of this report have reason to know that an affiliate of Credit Agricole Securities (USA) Inc and/or CLSA received compensation from BorgWarner Inc for non-investment banking products/services in the past 12 months.

CLSA and/or Credit Agricole Securities (USA) (and/or their respective affiliates) participated in a public offering of Johnson Controls's securities or received compensation for investment banking services from Johnson Controls in the past 12 months.

CLSA and/or Credit Agricole Securities (USA) (and/or their respective affiliates) managed or co-managed a public offering of Johnson Controls's securities in the past 12 months.

CLSA and/or Credit Agricole Securities (USA) Inc and/or the analysts involved in the preparation of this report have reason to know that an affiliate of Credit Agricole Securities (USA) Inc and/or CLSA received compensation from Johnson Controls for non-investment banking products/services in the past 12 months.

Key to CLSA/Credit Agricole Securities investment rankings: BUY: Total return expected to exceed market return AND provide 20% or greater absolute return; O-PF: Total return expected to be greater than market



return but less than 20% absolute return; U-PF: Total return expected to be less than market return but expected to provide a positive absolute return; SELL: Total return expected to be less than market return AND to provide a negative absolute return. For relative performance, we benchmark the 12-month total return (including dividends) for the stock against the 12-month forecast return (including dividends) for the local market where the stock is traded. For example, in the case of US stock, the recommendation is relative to the expected return for S&P of 10%. Exceptions may be made depending upon prevailing market condition.

CLSA/Credit Agricole Securities changed the methodology by which it derives its investment rankings on 1 January 2012. The stocks covered in this report are subject to the revised methodology. We have made no changes to the methodologies through which analysts derive price targets - our views on intrinsic values and appropriate price targets are unchanged by this revised methodology. For further details of our new investment ranking methodology, please refer to our website.

Prior to 1 Jan 2012, our investment rankings were: BUY = Expected to outperform the local market by >10%; O-PF = Expected to outperform the local market by 0-10%; U-PF = Expected to underperform the local market by 0-10%; SELL = Expected to underperform the local market by >10%.

Overall rating distribution for CLSA/Credit Agricole Securities Equity Universe: Buy / Outperform - CLSA: 58%; Credit Agricole Securities (USA): 70%, Underperform / Sell - CLSA: 34%; Credit Agricole Securities (USA): 30%, Restricted - CLSA: 0%; Credit Agricole Securities (USA): 0%. Data as of 31 December 2011. INVESTMENT BANKING CLIENTS as a % of rating category: Buy / Outperform - CLSA: 89%; Credit Agricole Securities (USA): 67%, Underperform / Sell - CLSA: 11%; Credit Agricole Securities (USA): 33%, Restricted - CLSA: 0%; Credit Agricole Securities (USA): 0%. Data for 12-month period ending 31 December 2011. For a history of the recommendations and price targets for companies mentioned in this report, as well as company specific disclosures, please write to: (a) Credit Agricole Securities (USA), Compliance Department, 1301 Avenue of the Americas, 15th Floor, New York, New York 10019-6022; and/or (b) CLSA, Group Compliance, 18/F, One Pacific Place, 88 Queensway, Hong Kong.

© 2012 CLSA Asia-Pacific Markets ("CLSA") and/or Credit Agricole Securities (USA) Inc (“CAS”)

This publication/communication is subject to and incorporates the terms and conditions of use set out on the www.clsa.com website. Neither the publication/ communication nor any portion hereof may be reprinted, sold or redistributed without the written consent of CLSA and/or CAS, a broker-dealer registered with the Securities and Exchange Commission of US and an affiliate of CLSA.

CLSA and/or CAS has/have produced this publication/communication for private circulation to professional, institutional and/or wholesale clients only. The information, opinions and estimates herein are not directed at, or intended for distribution to or use by, any person or entity in any jurisdiction where doing so would be contrary to law or regulation or which would subject CLSA and/or CAS to any additional registration or licensing requirement within such jurisdiction. The information and statistical data herein have been obtained from sources we believe to be reliable. Such information has not been independently verified and we make no representation or warranty as to its accuracy, completeness or correctness. Any opinions or estimates herein reflect the judgment of CLSA and/or CAS at the date of this publication/communication and are subject to change at any time without notice. Where any part of the information, opinions or estimates contained herein reflects the views and opinions of a sales person or a non-analyst, such views and opinions may not correspond to the published view of CLSA and/or CAS. This is not a solicitation or any offer to buy or sell. This publication/communication is for information purposes only and does not constitute any recommendation, representation, warranty or guarantee of performance. Any price target given in the report may be projected from 1 or more valuation models and hence any price target may be subject to the inherent risk of the selected model as well as other external risk factors. This is not intended to provide professional, investment or any other type of advice or recommendation and does not take into account the particular investment objectives, financial situation or needs of individual recipients. Before acting on any information in this publication/ communication, you should consider whether it is suitable for your particular circumstances and, if appropriate, seek professional advice, including tax advice. CLSA and/or CAS do/does not accept any responsibility and cannot be held liable for any person’s use of or reliance on the



information and opinions contained herein. To the extent permitted by applicable securities laws and regulations, CLSA and/or CAS accept(s) no liability whatsoever for any direct or consequential loss arising from the use of this publication/communication or its contents. Where the publication does not contain rating, the material should not be construed as research but is offered as factual commentary. It is not intended to, nor should it be used to form an investment opinion about the not rated companies.

Subject to any applicable laws and regulations at any given time CLSA, CAS, their respective affiliates or companies or individuals connected with CLSA/CAS may have used the information contained herein before publication and may have positions in, may from time to time purchase or sell or have a material interest in any of the securities mentioned or related securities or may currently or in future have or have had a business or financial relationship with, or may provide or have provided investment banking, capital markets and/or other services to, the entities referred to herein, their advisors and/or any other connected parties. As a result, investors should be aware that CLSA, CAS and/or their respective affiliates or companies or such individuals may have one or more conflicts of interest.

Regulations or market practice of some jurisdictions/markets prescribe certain disclosures to be made for certain actual, potential or perceived conflicts of interests relating to research report. Details of the disclosable interest can be found in certain reports as required by the relevant rules and regulation and the full details are available at http://www.clsa.com/member/research_disclosures/. Disclosures therein include the position of the CLSA Group only and do not reflect those of Credit Agricole Corporate & Investment Bank and/or its affiliates. If investors have any difficulty accessing this website, please contact [email protected] on (852) 2600 8111. If you require disclosure information on previous dates, please contact [email protected].

This publication/communication is distributed for and on behalf of CLSA Limited (for research compiled by non-US analyst(s)) and /or CAS (for research compiled by US analyst(s)) in Australia by CLSA Australia Pty Ltd; in Hong Kong by CLSA Research Ltd.; in India by CLSA India Ltd. (Address: 8/F, Dalamal House, Nariman Point, Mumbai 400021. Tel No: +91-22-66505050. SEBI Registration No: BSE Capital Market Segment: INB010826432; BSE F&O Segment: INF010826432; NSE Capital Market Segment: INB230826436; NSE F&O Segment: INF230826436); in Indonesia by PT CLSA Indonesia; in Japan by Credit Agricole Securities Asia B.V., Tokyo Branch, a member of the JSDA licensed to use the "CLSA" logo in Japan; in Korea by CLSA Securities Korea Ltd.; in Malaysia by CLSA Securities Malaysia Sdn Bhd; in the Philippines by CLSA Philippines Inc. (a member of Philippine Stock Exchange and Securities Investors Protection Fund); in Thailand by CLSA Securities (Thailand) Limited; and in Taiwan by CLSA Limited, Taipei Branch.

United States of America: Where any section of the research is compiled by US analyst(s), it is distributed by CAS. Where any section is compiled by non-US analyst(s), it is distributed into the United States by CLSA solely to persons who qualify as "Major U.S. Institutional Investors" as defined in Rule 15a-6 under the Securities and Exchange Act of 1934 and who deal with Credit Agricole Corporate & Investment Bank. However, the delivery of this research report to any person in the United States shall not be deemed a recommendation to effect any transactions in the securities discussed herein or an endorsement of any opinion expressed herein. Any recipient of this research in the United States wishing to effect a transaction in any security mentioned herein should do so by contacting CAS.

United Kingdom: Notwithstanding anything to the contrary herein, the following applies where the publication/communication is distributed in and/or into the United Kingdom. This publication/communication is only for distribution and/or is only directed at persons ("permitted recipients") who are (i) persons falling within Article 19 of the Financial Services and Markets Act 2000 (Financial Promotion) Order 2001 (the "FPO") having professional experience in matters relating to investments or high net worth companies, unincorporated associations etc. falling within Article 49 of the FPO, and (ii) where an unregulated collective investment scheme (an "unregulated CIS") is the subject of the publication/communication, also persons of a kind to whom the unregulated CIS may lawfully be promoted by a person authorised under the Financial Services and Markets Act 2000 ("FSMA") by virtue of Section 238(5) of the FSMA. The investments or services to which this publication/communication relates are available only to permitted recipients and persons of any other description should not rely upon it. This publication/ communication may have been



produced in circumstances such that it is not appropriate to categorise it as impartial in accordance with the FSA Rules.

Singapore: This publication/communication is distributed for and on behalf of CLSA Limited (for research compiled by non-US analyst(s)) and /or CAS (for research compiled by US analyst(s)) in Singapore through CLSA Singapore Pte Ltd solely to persons who qualify as Institutional, Accredited and Expert Investors only, as defined in s.4A(1) of the Securities and Futures Act. Pursuant to Paragraphs 33, 34, 35 and 36 of the Financial Advisers (Amendment) Regulations 2005 with regards to an Accredited Investor, Expert Investor or Overseas Investor, sections 25, 27 and 36 of the Financial Adviser Act shall not apply to CLSA Singapore Pte Ltd. Please contact CLSA Singapore Pte Ltd in connection with queries on the report. MICA (P) 162/12/2011

The analysts/contributors to this publication/communication may be employed by a Credit Agricole or a CLSA company which is different from the entity that distributes the publication/communication in the respective jurisdictions.

MSCI-sourced information is the exclusive property of Morgan Stanley Capital International Inc. (MSCI). Without prior written permission of MSCI, this information and any other MSCI intellectual property may not be reproduced, redisseminated or used to create any financial products, including any indices. This information is provided on an "as is" basis. The user assumes the entire risk of any use made of this information. MSCI, its affiliates and any third party involved in, or related to, computing or compiling the information hereby expressly disclaim all warranties of originality, accuracy, completeness, merchantability or fitness for a particular purpose with respect to any of this information. Without limiting any of the foregoing, in no event shall MSCI, any of its affiliates or any third party involved in, or related to, computing or compiling the information have any liability for any damages of any kind. MSCI, Morgan Stanley Capital International and the MSCI indexes are services marks of MSCI and its affiliates. The Global Industry Classification Standard (GICS) was developed by and is the exclusive property of Morgan Stanley Capital International Inc. and Standard & Poor's. GICS is a service mark of MSCI and S&P and has been licensed for use by CLSA Asia-Pacific Markets.

EVA® is a registered trademark of Stern, Stewart & Co. "CL" in charts and tables stands for CAS estimates unless otherwise noted in the source.

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USA - New York Credit Agricole Securities (USA) Inc 15/F, Credit Agricole Building 1301 Avenue of The Americas New York 10019 Tel: (1) 212 408 5888 Fax: (1) 212 261 2502

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Thailand CLSA Securities (Thailand) Ltd 16/F, M Thai Tower All Seasons Place 87 Wireless Road, Lumpini Pathumwan, Bangkok 10330 Tel: (66) 2 257 4600 Fax: (66) 2 253 0532

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CLSA Sales Trading Team Australia (61) 2 8571 4201 China (Shanghai) (86) 21 2020 5810 Hong Kong (852) 2600 7003 India (91) 22 6622 5000 Indonesia (62) 21 573 9460 Japan (81) 3 4580 5169 Korea (82) 2 397 8512

Malaysia (60) 3 2056 7852 Philippines (63) 2 860 4030 Singapore (65) 6416 7878 Taiwan (886) 2 2326 8124 Thailand (66) 2 257 4611 UK (44) 207 614 7260 US (1) 212 408 5800

© 2012 CLSA Asia-Pacific Markets ("CLSA").

Key to CLSA/Credit Agricole Securities investment rankings: BUY: Total return expected to exceed market return AND provide 20% or greater absolute return; O-PF: Total return expected to be greater than market return but less than 20% absolute return; U-PF: Total return expected to be less than market return but expected to provide a positive absolute return; SELL: Total return expected to be less than market return AND to provide a negative absolute return. For relative performance, we benchmark the 12-month total return (including dividends) for the stock against the 12-month forecast return (including dividends) for the local market where the stock is traded. CLSA/Credit Agricole Securities changed the methodology by which it derives its investment rankings on 1 January 2012. The stocks covered in this report are subject to the revised methodology. We have made no changes to the methodologies through which analysts derive price targets - our views on intrinsic values and appropriate price targets are unchanged by this revised methodology. For further details of our new investment ranking methodology, please refer to our website. 12/01/2012

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