Cummins

Cummins posted 9% revenue growth to $9.5 billion, but EBITDA margins compressed by 90 basis points to 17.5% due to higher incentive compensation expense in advance of the company’s record performance, surprising investors.

Why it matters: Data center exposure in Power Systems and the related power activities within the Distribution segment continued to be the primary driver of performance for the company. The company anticipates strong performance from its Engines and Components divisions in the second half as heavy-duty and medium-duty truck markets in North America recover. The company is not seeing material pre-buying of trucks as a result of EPA 27 regulations. As peers have discussed, the Environmental Protection Agency is offering consumers moderated non-compliance penalties that will smooth demand over the course of 2026 and 2027 as the next generation of compliant engines takes over the market.

The bottom line: We are increasing our fair value estimate for narrow-moat Cummins to $530 per share from $520 on the time value of money. Our prior forecast was within range of the updated guidance. The margin miss struck us as odd, but it is unlikely to recur and doesn’t really impact the Cummins investment case. While we acknowledge a wonderful opportunity for the company in power systems, we think much of this upside is reflected, especially given how early the company is in its pursuit of prime power offerings.

Long view: Cummins is expanding capacity in Power Systems and developing larger natural gas engines to target the huge market opportunity in prime power for data centers. We think this is very prudent but emphasize that Cummins remains a play primarily in backup power generators.

Our $530 per share fair value estimate, increased from $520, equates to about 17 times our 2026 EPS estimate. The valuation is not particularly demanding in a historical context. After a very strong postcovid recovery, Cummins has seen softer demand in 2024 and 2025, with the truck exposed engine and components segments declining, offset by robust growth in power systems and distribution, aided by demand for power solutions in the data center.

We forecast more robust, low-double-digit growth for the company in 2026, reflecting its updated guidance. Our figures were already within range of management's updated guidance with Q2 results. Heavy- and medium-duty truck markets are undergoing cyclical recovery, and demand is likely to be pulled forward before North American emissions regulations change in 2027. We forecast sales growth to taper to 5% for engines, components, and distribution and 15% for power systems. Engines and distribution are more modest because we anticipate Cummins will lose market share to Paccar, though distribution is also benefiting from power systems exposure. We give the company credit for its diversified exposure in components and power systems. From a margin perspective, we anticipate some operating leverage gains in 2026 and gradual tapering thereafter amid moderating sales growth. Midcycle margins are 13% for engines, 15% for distribution, and 13% for components. These figures are in line with historical performance. We anticipate power systems being able to maintain its higher margins as the business scales in attractive verticals and has strong revenue visibility, achieving a 25% midcycle margin. Accelera is forecast to have mid-single-digit revenue growth, breakeven profitability in 2028, and modest profitability at the end of our forecast period, essentially in line with company guidance.

Our Stage II forecast period incorporates an estimated investment rate of 25% and an earnings before interest growth rate of 4% with perpetual growth of 3%. An approximate 8.8% weighted average cost of capital derives from a market-average cost of equity and the firm’s current capital structure.

We assign Cummins a Morningstar economic moat rating of narrow, as a result of its intangible assets and customer switching costs across all its operating segments.

First, Cummins has meaningful intangible assets in terms of its brand and related intellectual property and engineering know-how, which it has cultivated over its long operating history. The brand strength is a function of high product quality, which in turn, derives from superior engineering. Many of Cummins’ customers produce engines themselves, so Cummins ultimately must offer a legitimate value proposition. We believe this results from a combination of superior power, reliability, fuel economy, and ability to satisfy environmental regulations, all of which contribute to a lower cost of ownership over the life of a truck. Cummins is not winning business as a low-cost provider. Customers are specifically selecting Cummins engines at the point of sale because they offer a superior solution. In some cases, truck OEMs have outsourced engine production to Cummins, notably in medium-duty trucks today (for example, Daimler Truck effectively exited this market and uses Cummins engines). Many of Cummins’ competitors have struggled to win market share across their end markets globally, suggesting the company’s strong market share positions may persist in the future. Cummins claims to have increased its market share in heavy-duty trucks in North America from the high 20s to the high 30s over the past decade. However, we acknowledge that Cummins has material customer concentration risk with the truck and engine manufacturer, Paccar, which represented 16% of Cummins’ sales in 2024. Paccar has clearly made strategic investments in the engine space, and we anticipate it will continue to vertically integrate, creating growth headwinds for Cummins’ core engine business.

Environmental regulation is a perpetual and increasingly challenging issue facing the industry, with standards becoming more demanding every few years across key jurisdictions in North America and Europe. Diesel fuel is notoriously bad for the environment, but its characteristics of energy density allow for better fuel efficiency than natural gas, which is why diesel has persisted as the fuel of choice in trucking through time. Technologically speaking, it should not be assumed that manufacturers can successfully produce environmentally compliant engines. In fact, there are notable failures that cause serious business risk (such as Navistar in the 2010s). As a general matter, Cummins has a reputation for leadership in environmental compliance, but it is not without troubles of its own. In fact, the company took a nearly $2 billion charge in 2024 to reach a settlement with the US Environmental Protection Agency and various other regulatory bodies over compliance issues with certain of its engines. The company has expanded its product offering to include electric and hybrid powertrain solutions, which reside within its Accelera segment. Accelera remains loss-making due to lack of scale and limited adoption of zero emissions solutions in the industry, which seems to be focused on maximizing fuel efficiency for diesel and natural gas-powered engines. Nevertheless, it is reasonable to assume that zero emissions will be an eventual goal in the coming decades, and the industry will continue to invest in this area. Furthermore, many of the products in Cummins’ components division focus on improving fuel efficiency (such as its fuel aftertreatment solutions), albeit for diesel engines. Over the near to medium term, we would anticipate tailwinds for the components business from content that boosts vehicle fuel efficiency. Implicitly, we believe Cummins’ strategy in components is to diversify from engines by adding more content per vehicle and strengthen customer relationships given the disintermediation risks the company perpetually faces. Cummins’ power systems business offers generators and engines to a broad range of industrial applications, leveraging the company’s engineering know-how across a host of verticals. This business has been a huge beneficiary of data center proliferation and also has significant mining exposure as a competitor to Caterpillar. We welcome this segment as a source of diversification from the core truck engines segment. Cummins’ distribution segment reflects the company’s robust network of support and services around the world for its various product businesses and has legitimate scale.

Cummins also derives a narrow economic moat from switching costs. While the customer base is very fragmented (meaning an individual trucker can buy a truck and select the engine), large fleet operators (transportation/logistics companies) are very important customers. Streamlining the engine/component choices can simplify and reduce the total cost of maintenance and repairs. Specifically, having fewer suppliers means less complexity and lower cost in terms of training, repairs, parts, and so forth. Furthermore, the engine is expensive and less likely to be swapped out over the life of the truck, so the switching cost is an issue for both the large fleet customer and the individual truck owner/operator. We would contrast this with the truck body itself, which is often more a matter of personal preference and more easily substitutable than the engine. Cummins also maintains a robust dealer and support network, ensuring that customers have parts efficiently and are able to maintain optimal uptime. We think the logic around switching costs applies to the power segment, as well. Once a customer commits to a power solution (be it an engine, generator, battery, or fuel cell), it tends to be mission critical and long-lived. As such, switching costs become a legitimate headache for the customer and source of economic moat for the supplier, such as Cummins.

Cummins will continue to gain engine market share owing to its superior products and engineering advantages, enhancing returns.

The group leverages its core technologies and customer relationships to add diversification and increase scale.

The company leads the industry with innovation in alternative powertrain technologies.

Trade wars and/or supply chain disruptions could reduce freight demand.

Environmental regulations could prove onerous and weigh on returns.

The market may be disrupted by innovation in alternative propulsion similar to Tesla/Rivian in passenger vehicles.