ProPetro Holding Corp (PUMP)

pump

Key Statistics

Enterprise Value = $1.024 billion

Operating Income = $233.82 million

EV/Operating Income = 4.38x

Earnings Yield = 13%

Price/Revenue = .63x

Debt/Equity = 17%

The Company

ProPetro is a Midland, Texas-based oilfield services company. The company’s focus is providing equipment and services to support the fracking industry with a concentration in the Permian Basin.

The Permian Basin is an ocean of oil, currently producing 2 million barrels of oil a day. PUMP owns and operates a fleet of mobile hydraulic fracturing units. Other companies pay ProPetro for the use of these units, along with the supporting crew which operates the equipment. They provide equipment, personnel, and services to meet the needs of their clients that work in the Permian Basin. They have strong relationships with their clients and are local to the Permian basin, giving them a substantial advantage in this region due to the relationships that they have in place.

This is a company whose fortunes are directly tied to the performance of fracking in the United States, which is directly linked to oil prices.

wti

Oil has been hammered recently, which led to a decline in the stock price.

PUMP has been punished further in the recent market sell-off, pushing it below its 2017 IPO price of $14.50. This is a small company in a rocky industry and has been, in my opinion, oversold because it is perceived as a risky small cap in a risky industry.

My Take

I am optimistic about the fracking industry, primarily due to the fact that it defied all expectations and survived the misery of the 2015-16 oil price crash. This was a crash that was engineered by Saudis who increased oil production to cripple the fracking industry in the United States. Fracking is only profitable at high oil prices, and the Saudis hoped to cripple the industry by boosting production and lowering the price. They did not succeed despite their best efforts and fracking, while damaged over the crash, survived the crash.

With that said, there is a lot to dislike about the industry. The oil crash of 2015-16 led to a string of bankruptcies among the highly indebted companies in the space. There is also criticism that the industry is too capital intensive and can’t produce sufficient free cash flow to be viable for the long run. The only thing supporting the industry, critics say, is a flood of cheap money from yield-hungry investors and greedy Wall Street banks determined to earn fees while they hold their nose over the stench of crappy deals. Adding more support to the “ick” factor is the environmental criticism of the industry.

Add up all of this and what do you get? An industry ripe for mispricing because of the revulsion is creates. I think ProPetro has been punished unnecessarily by this sentiment.

The speculative nature of this trade is that I am betting that oil prices are close to a cyclical low. The Saudis seem strongly incentivized to increase the price of oil, and they are already taking action to make this happen. They want to take Aramco public in the near future. To get the best possible offering price, they need to maximize the price of oil. This is going to benefit fracking, to the long-term detriment of Saudi Arabia but it will support their short-term interest to maximize the price of oil so they can get the most money out of their IPO.

ProPetro is uniquely positioned as one of the key players in the Permian Basin, which is a hub of fracking activity in the United States. They will benefit immensely by an increase in oil prices.

Even if I am wrong and oil heads lower, ProPetro held up nicely during the 2015-16 crash. They were able to eke out positive operating income in 2015 of $8.78 million and lost only $37.38 million in operating income in 2016. Once oil prices bounced back slightly in 2017, ProPetro came back to life and generated an operating income of $63 million. This suggests to me that even if my thesis is wrong, ProPetro should survive a downturn in the fracking industry and minimize my losses. Furthermore, I purchased the stock at such a significant discount to intrinsic value (4.38x Operating Income, a 13% earnings yield, and only 5 times cash flow), that the stock price should hold up in a downturn.

If my thesis is correct and the Saudis engineer a hike in oil prices to support their IPO, fracking in the United States ought to boom and ProPetro’s multiple ought to improve significantly.

PLEASE NOTE: The information provided on this site is not financial advice and it is for informational and discussion purposes only. Do your own homework. Full disclosure: my current holdings.  Read the full disclaimer.

Nucor (NUE)

nucor

Key Statistics

Enterprise Value = $19.038 billion

Operating Income = $2.726 billion

EV/Operating Income = 6.98x

Earnings Yield = 13%

Price/Revenue = .68x

Debt/Equity = 44%

The Company

Nucor exclusively produces steel via minimills. Minimills take in scrap steel, vehicles, or equipment and melt them down in a furnace. Nucor uses electric arc furnaces, which heat the raw materials up to temperatures of over 5,000 degrees Fahrenheit to melt the metal down. The melted down steel is then re-purposed and sold. Nucor is the largest operator of steel minimills in the United States.

The cheap valuation is a result of the recent market sell-off combined with Nucor’s strong earnings in the last couple of years. The market seems to be indicating its belief that we are headed for a recession and steel demand is near a cyclical peak.

My Take

Nucor’s business prospects are driven by demand for steel and steel products. With strong US and global growth, Nucor has benefitted. A bet on Nucor is a bet that the economy will continue to grow and will not enter a recession. As I’ve stated previously on the blog, I do not believe that the US will enter a downturn in the next year.

I also think it’s possible that demand for steel can increase from current levels. With the Democrats seizing control of Congress and Donald Trump’s attitude towards deficits and spending, I think it’s possible that a big infrastructure bill could pass through Congress. This would be excellent for steel demand and could help boost earnings and sales from already strong levels. Infrastructure spending is probably the only area that Congressional Democrats and Donald Trump can find common ground.

Nucor has been expanding in recent years, pursuing a strategy aimed at growing its business. Recently on November 29th, they acquired a Mexican precision castings company called Corporacion POK, S.A. de C.V. In 2016, they acquired Independence Tube Corporation for $430 million. In 2014, they bought Gallatin Steel for $779 million in cash. The acquisition is in addition to Nucor’s investment in its existing capacity. They spent $230 million on a cold mill in their Arkansas facility, allowing it to manufacture more advanced low alloy steel products. They are also building new minimills in the United States, including a $250 million facility in Missouri. All of these efforts, I believe, will strengthen Nucor’s competitive position within their industry.

Nucor is financially healthy. They currently have a perfect F-Score of 9. The debt/equity ratio of 44% and the current ratio of 2.77x indicates that debt is at healthy levels. This is particularly impressive considering that they have been expanding and acquiring new businesses over the last few years. The Z-Score of 4.23 implies a very low risk of bankruptcy in the upcoming year.

Nucor’s valuations look favorable compared to its own history and its industry. The P/E of 7.9 compares to an industry average of 12.18. An increase to this level would be a 54% increase from current levels. Nucor’s average P/E over the last 5 years is 25.28. On a price/revenue basis, Nucor currently trades at 68% of revenue, compared to an industry average of 159%. On an EV/EBIT basis, Nucor trades at a multiple of 7x, compared to a 5-year average of 15.

PLEASE NOTE: The information provided on this site is not financial advice and it is for informational and discussion purposes only. Do your own homework. Full disclosure: my current holdings.  Read the full disclaimer.

Gap (GPS)

mall

Key Statistics

Enterprise Value = $9.397 billion

Operating Income = $1.386 billion

EV/Operating Income = 6.77x

Earnings Yield = 10%

Price/Revenue = .56x

Debt/Equity = 36%

The Company

Gap is a retailer. Have you been to the mall in the last 20 years? Have you seen its commercials trying to convince you to buy khakis? I’m fairly certain you’re familiar with them. (Personally, I buy most of clothes at K-Mart, Wal Mart, and Costco, but whatever.)

The company is not simply the Gap stores in malls. They also own Banana Republic and Old Navy. Banana Republic is pricier than both Old Navy and Gap. Old Navy is the discount apparel retailer that is currently driving the company’s growth. Old Navy has continued growing while the other two segments have been in decline. Old Navy grew sales by 6% in 2017 while both Gap and Bananan Republic experienced sales decline as customers shy away from the mall.

Gap was beat up by the retail carnage a few years ago. From 2014 through its 2016 low, Gap went from around $40/share to a low of $17 in mid-2016. From there, as Mr. Market woke up and realized that most apparel transactions still happen in a store, the stock recovered to $35 in January 2018.

From the heights of $35/share, the stock has been punished again over the last year after some choppy quarters, but the news has hardly been devastating. The stock has also been punished by concerns over a trade war that isn’t yet showing up in the actual results.

My Take

Yes, I’m diving back into this category again – retailers punished by the sentiment that Amazon is eating brick and mortar retail. I keep ignoring the warnings. Like Z’Ha’Dum, the advice is: if you go there, you will die. I keep going there anyway.

Anyway, I think I made a few good picks in the retail sector (American Eagle, Dillard’s, Foot Locker, Dick’s), but this area has largely been a wasteland for my portfolio. Fortunately, I exited the dumpster fires like Francesca’s and Big Five after they posted operating losses. I even got out of Big Five for a slight profit! This is shocking considering the stock is down 68% year to date. In retrospect, the best way to play a beaten up sector is to own more of them in smaller chunks. I made “big” bets on a small handful of dirt cheap ones, but I probably should have been more diversified among a broad number of stocks in the group.

The trade is now played out. Retail recovered as a sector, even though I didn’t always have the right picks. Even after that after the run up, Gap looks to me like one of the best of the bunch and the multiple has been compressed due to some slight underperformance in business results along with trade war jitters.

Gap hasn’t posted a loss at any point in the last decade. Even in the depths of the Great Recession, it still earned $1.34/share. It has also maintained profitability throughout the last few years of intense competition with online brands. They also began a restructuring effort in 2016, which is working. They closed 75 stores internationally that were not performing and realized a $275 million cost savings. I find this encouraging, especially compared to my experience in Francesca’s, which continued to open new stores even while the existing stores were posting terrible results. Gap has a strong shareholder orientation in this regard.

Gap is very well run with a high degree of financial quality. The F-Score is a perfect 9 out of 9. The Altman Z-Score is currently 4.73, implying an extremely low risk of bankruptcy. The debt to equity ratio of 36% compares favorably to industry averages, which currently averages 68%. The company also has a high degree of yield. Last year, they bought back 2% of the existing share count and the current dividend yield is 3.94%.

Gap’s current valuations compare favorably to the industry and its history. Gap’s current P/E of 10.29 compares to an industry average of 14.32. A P/E of 14-15 seems reasonable to me for a steadily performing and financially healthy retailer. On a price/sales basis, Gap’s current ratio of 56% compares to a 5-year average of 83%. On an EV/EBIT basis, Gap’s current level of 6.77x compares to its 5-year average of 7.68. The forward P/E is 9, implying analysts don’t expect any kind of operational loss in the upcoming year.

PLEASE NOTE: The information provided on this site is not financial advice and it is for informational and discussion purposes only. Do your own homework. Full disclosure: my current holdings.  Read the full disclaimer.

First American Financial (FAF)

house

Key Statistics

Enterprise Value = $3.245 billion

Operating Income = $689 million

EV/Operating Income = 4.7x

Earnings Yield = 12%

Price/Revenue = .84x

Debt/Equity = 22%

The Company

First American Financial is a California based insurance company. Their focus is title insurance, from which roughly 92% of their revenue is derived. Title insurance is simply insurance which protects against losses if a title is deficient.

FAF is paid when mortgage transactions closed. With the real estate market in the United States steadily growing over the last decade, the company has benefited from real estate activity. Since 2013, earnings are up 119%.

The title business improves due to volume and the premium paid for title insurance is derivative of the home’s value. Therefore, FAF benefits from a rising real estate environment. The stock has been punished over the last year due to concerns that this real estate expansion is slowing down.

FAF also maintains an investment portfolio, which is mostly concentrated in fixed income instruments. Currently, they have $4.7 billion in fixed income instruments and $467 million in equity. For this reason, the pressure experienced by the markets in recent months has weighed upon the price. From 2016 to 2017, the investment portfolio increased in size by 157%. If we entered a serious downturn, it is unlikely that that this would persist.

Side note: In the summer of 2001, I had a job working for a title insurance company. My task was simply to spend all day calling title abstractors across the country. I would order title reports from the counties in which the properties were purchased, they would fax it to me, and it was my job to regularly follow up with them. I had a lot of fun doing it! I’m sure the operation is more sophisticated these days, but back then obtaining the reports from the local abstractors was like pulling teeth.

My Take

I owned this back in 2017 and made a 50% profit on it. It is one of my few successes over the last couple of years. I bought it around a P/E of 12. When I sold it, the multiple was around 20, and I made a 50% profit, so I got out. The stock is way down from those lofty levels, and it is now at a P/E of 8.

From a relative valuation standpoint, FAF looks like it is at an attractive level. The P/E of 8 compares to a 5-year average for the stock of 15. The average for the industry is also 15. On a price/revenue basis, the stock currently trades at 84% of revenue compared to an industry average of 125%.

With an F-Score of 6 and a low debt/equity ratio of 22%, the company exhibits a high degree of financial quality. Indeed, FAF is a well run company and this has buoyed its ability to consistently grow over the last decade. Additionally, while title abstracts and insurances looks like an area ripe for disruption, to truly streamline this industry would require many local governments throughout the country to upgrade their technology and systems used to track title information. I don’t think this will happen any time soon.

I expect that FAF will continue to perform well and I don’t think there will be a recession in the next year as many pundits are predicting right now. With that said, even in the midst of the 2008 real estate meltdown, FAF only lost 81 cents per share and quickly recovered to profitability in 2009. I would be shocked if the US entered a real estate meltdown of that magnitude. By all indications, the quality of mortgage loans has improved and household mortgage debt looks sustainable when compared to the disposable income of households.

PLEASE NOTE: The information provided on this site is not financial advice and it is for informational and discussion purposes only. Do your own homework. Full disclosure: my current holdings.  Read the full disclaimer.

Amtech Systems (ASYS)

winter

Key Statistics

Market Capitalization = $66.96 million

Cash & Equivalents = $62.50 million

Current Assets = $124.29 million

Total Liabilities = $56.32 million

Net Current Asset Value = $67.97 million

Z-Score = 2.45

The Company

Amtech operates three segments in three industries: (1) Semiconductors, representing 45% of revenue, (2) Solar cells, representing 47% of revenue, and (3) Polishing of newly sliced silicon wafers, representing 8% of revenue. They supply components and materials used in the manufacture of semiconductors and solar panels.

While the company has produced profits and cash flows for the last couple of years, the market believes semiconductor and solar revenues hit a cyclical peak this year and that the company is doomed to return to its loss-making years. In 2014, 2015, and 2016 Amtech generated net income losses of $13.09 million, $12.94 million, and $7.91 million respectively.

You see this same sentiment in mega caps like Micron, another one of my holdings. For a micro-cap stock like this, this sentiment is producing brutal price declines – i.e., a company selling for less than the cash it has in the bank. Amtech is down 55% year to date.

For the solar business, in particular, the industry is subject to brutal pricing pressure and is likely not a “good” business going forward. Solar projects are being shelved due to the President’s trade war and inclinations against the solar industry.

Furthermore, the company is diluting the shareholders. They have issued shares in the last year and the share count is up 8.37%.

My Take

Amtech is operating in a brutally competitive industry that appears to have peaked, they are issuing shares, and the situation appears grim. Why am I buying this stock?

I bought this because of the absurd valuation. This currently trades below net current asset value and for roughly the cash that they have in the bank.

Usually, when a net-net is this cheap, there are usually catastrophic losses going on. There is typically an asset value, but the market believes that the asset value will quickly go away due to losses. The risk is usually that the company will piss away the cash and the company will go out of business. This is not the case here. With a Z-Score of 2.45, the risk of bankruptcy is minimal. The company is also producing cash flows and earnings, which is extremely unusual for something trading this cheap. In 2017, they made $9.13 million in net income. In 2018, they made $5.31 million. They also produced free cash flow for the last couple of years, generated $5.3 million of free cash flow in FY2018 and $10.53 million in 2017.

There is also a high degree of insider ownership, with insiders owning 15.63% of the company. This is a positive sign, as insiders have a strong incentive to keep the business afloat.

I have no idea if semiconductor and solar demand is at a cyclical peak. As a value investor, I am drawn to the industries where Mr. Market is fretting, stressing, and creating potential bargains. Amtech seems like a compelling bargain to me. Even if the business is at a cyclical peak, I don’t think it matters for a stock like this. Frankly, I would be attracted to this stock even if it were producing losses.

When a company sells for the cash in the bank, all it needs to do to perform well is to simply survive. The question I am trying to answer is: Will Amtech exist a year from now? Will they maintain the current asset value? With a high degree of insider ownership and steady cash flows, I think the answer to both questions is yes. When a net-net like this is generating profits and cash flows, it seems like a compelling opportunity.

PLEASE NOTE: The information provided on this site is not financial advice and it is for informational and discussion purposes only. Do your own homework. Full disclosure: my current holdings.  Read the full disclaimer.

Oshkosh Corp (OSK)

osk

Key Statistics

Enterprise Value = $4.996 billion

Operating Income = $639.4 million

EV/Operating Income = 7.8x

Earnings Yield = 10%

Price/Revenue = .6x

Debt/Equity = 33%

The Company

Oshkosh is a 101-year-old company that focuses on building specially designed trucks and military vehicles. The company headquarters is in Oshkosh, Wisconsin. They began in 1917 by creating the first all-wheel-drive truck, known as “Old Betsy.” Throughout the last century, they’ve expanded into making many other types of vehicles. They make off-road trucks, fire trucks, farm equipment, and vehicles for the US military.

The stock has gone down in the last year over jitters concerning tariffs and trade wars. Of principal concern is the impact that tariffs will have on many of the components and raw materials that they use to build vehicles. The stock is presently down 30% year to date over these worries.

My Take

While the stock has gone down in the last year over tariff worries, the actual business is performing well. Revenues were up 12.8% in 2018 from 2017. Operating income was up 32%. Oshkosh is also in excellent financial condition with an F-Score of 8 and a debt/equity ratio that is nearly half of the industry average.

Their close ties with the US government give the company an excellent competitive advantage. For many key vehicles, such as the Oshkosh Light Combat Tactical All-Terrain Vehicle, they are the sole supplier to the US military. The ties with the US military are also long-standing, and they have been selling vehicles to the US military for 90 years. Sales to the US government presently account for 20% of their revenue. The ties with the military also strengthen their reputation in the private sector as a reliable manufacturer of sturdy, quality vehicles.

A major risk to the business would be a decline in the US defense budget. Based on the biases of the current White House occupant, I don’t think that is a serious possibility. Another major risk would be a US recession. While the stock market is fretting over this, I am not very concerned about it, particularly over the next year. The market might also be correct and a trade war will adversely affect the company, but this is speculation that is not showing up in the actual performance of the business. At the moment, this doesn’t appear to be the case.

From a relative valuation standpoint, Oshkosh trades at valuation multiples that are attractive compared to its history and its industry. Oshkosh currently has a P/E of 10.15, compared to an industry average of 18.85 and a five year average of 17.10 for Oshkosh itself. An increase to these levels would be a 68% increase from current levels. Trading at 60% of revenue, this compares to an industry average of 119%. On an EV/EBIT basis, Oshkosh currently trades at 7.8x compared to a 5-year average of 11.44.

Overall, I think Oshkosh is an excellent company with a deep history of solid performance and a stable competitive position. The stock has gone through pain over macro concerns that are not showing up in the real operating performance of the company. At the current valuation, I think it is an attractive choice.

PLEASE NOTE: The information provided on this site is not financial advice and it is for informational and discussion purposes only. Do your own homework. Full disclosure: my current holdings.  Read the full disclaimer.