Why Sandvik is a Contrarian Gem in the Mechanicals Sector Downturn

The mechanicals sector is mired in headwinds: inventory corrections, China demand slowdowns, and trade tensions are pressuring margins and profitability. Yet Sandvik AB (SAV-A.ST), a Swedish industrial powerhouse, is defying the gloom with razor-sharp execution and a focus on secular growth drivers. Morgan Stanley's recent upgrade to "Overweight" with a 40% upside target isn't just institutional bullishness—it's a contrarian call on a stock positioned to capitalize on the sector's bottoming process. Here's why investors should pay attention.

The Bearish Backdrop: Mechanicals Under Pressure

The sector faces three critical challenges:
1. Inventory Corrections: Automotive and industrial manufacturers are struggling with depleted inventories amid pull-ahead demand (see the U.S. automotive sector's inventory drop to 2.84 million units in Q2 2025). This has led to supply bottlenecks and volatile pricing.
2. China Demand Slowdown: The Caixin Manufacturing PMI fell to 48.3 in May 2025, the fastest contraction since late 2022, driven by U.S. tariffs and weak export orders.
3. Trade Friction: Proposed U.S. tariffs on Chinese imports (10% as of Feb 2025) are forcing companies to diversify supply chains, adding costs and complexity.

These factors have hit margins across the sector. For example, fiscal.ai data shows that average mechanicals EBIT margins have contracted by 1.2 percentage points year-over-year in 2025, while Sandvik's margins expanded to 19.7% in Q1 2025, outperforming peers by a wide margin.

Sandvik's Contrarian Play: Margin Discipline Meets Secular Growth

Sandvik isn't just surviving—it's thriving. Here's how:

1. Restructuring for Resilience

The company's SEK 1 billion restructuring program targets cost savings by 2030, with SEK 380 million in annual savings already realized in its Machining division. By consolidating production units and cutting redundancies, Sandvik is shielding itself from cyclical downturns. Critically, 80% of these savings are recurring, providing a structural tailwind to margins.

2. Shift to High-Margin Sectors

Sandvik is aggressively pivoting toward automation, electrification, and software-driven solutions:
- Digital Sales: Software and automation products now account for 30–35% of sales, up from 25% in 2023. Digital revenue grew to SEK 6.5 billion annually, with margins exceeding 50%—far above traditional hardware.
- Mining Automation: Orders in this segment jumped 15% in Q1 2025, driven by EV and renewable infrastructure demand. Sandvik's electric rotary drill rigs and autonomous systems are critical to this growth.

3. Geopolitical Diversification

While China's slowdown bites peers, Sandvik's exposure is mitigated by:
- Market Mix: Mining (40% of revenue) and infrastructure dominate, with strong demand in Australia, Southeast Asia, and North America.
- Supply Chain Agility: Sandvik is rerouting supply chains through Canada and Mexico to avoid U.S.-China tariff pitfalls.

Morgan Stanley's Bullish Case: A Contrarian Signal

Morgan Stanley's upgrade highlights two key factors:
1. Valuation Discount: Sandvik trades at 13.2x 2025E EBITA, a 40% discount to peers like Trumpf (22x) and Amada (19x). This valuation gap reflects sector pessimism, not fundamentals.
2. Margin Upside: Analysts project Sandvik could hit 22% EBITA margins by 2026, driven by its restructuring and high-margin software sales.

Fiscal.ai data underscores the strength:
- Free Cash Flow: Steady at SEK 3.8 billion annually, with a fortress balance sheet (net debt/EBITDA <1x).
- M&A Fueling Growth: Acquisitions like Verisurf Software (March 2025) are boosting software capabilities, with recurring revenue streams.

Why Now? The Contrarian Edge

The mechanicals sector is pricing in a worst-case scenario. Sandvik, however, is a leveraged play on two turning points:
1. Sector Bottoming: Inventory corrections typically peak before demand recovers. Sandvik's diversified end markets (mining, renewables) are less cyclical and more aligned with long-term trends.
2. Multiple Expansion: If Sandvik's EBITA margins hit 20–22%, its valuation could rise to 16x–18x, unlocking a 30–40% upside from current levels.

Risks and Considerations

• Execution Risk: Layoffs and site consolidations could strain operations in 2025.
• Trade Volatility: Geopolitical tensions could delay supply chain shifts.
• Commodity Prices: Mining demand ties to copper and lithium prices, which are volatile.

Final Take: A Buy on Value and Vision

Sandvik isn't just a survivor—it's a contrarian winner in a beaten-down sector. Its margin discipline, secular growth exposure, and undervalued stock make it a compelling long-term play. With Morgan Stanley's stamp of approval and fiscal.ai data backing its operational strength, this is a stock to buy on dips.

Investment Recommendation: Buy Sandvik with a 12–18 month horizon, targeting SEK 1,200–1,500 by 2026. The risks are manageable, and the upside rewards the patience of contrarian investors.

For further analysis, review Sandvik's Q2 2025 earnings call and fiscal.ai's sector margin comparisons.