Category Archives: Company Analysis

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.

Reliance Steel & Aluminum (RS)

rs

Key Statistics

Enterprise Value = $7.281 billion

Operating Income = $968.3 million

EV/Operating Income = 7.52x

Price/Revenue = .47x

Earnings Yield = 16%

Debt/Equity = 41%

The Company

Reliance Steel & Aluminum is a Los Angeles based metals company. They are the largest metal service center operator in North America. Metal service centers take raw metals and convert them into products that meet customer specified products. They currently have 125,000 customers across a wide range of industries. They distribute 100,000 metals products including stainless and special steel, aluminum, brass, copper products, etc. While it has only been a public company since 1994, they have been in business since 1939 and have grown through the growth of the US economy and acquisitions.

Sentiment against the stock isn’t quite in the realm of hatred. It is more like mild reluctance. Year to date, the stock is down 15.9% mostly due to jitters about Tariff Man raising metals prices and dampening demand.

My Take

I believe this is a situation where macro worries are dampening enthusiasm for the stock and these worries aren’t showing up in the actual performance of the business. The company is still delivering solid returns on capital, currently boasting an 18% return on equity. Its size and breadth of the customer base is also a significant strength.

If the steel industry does enter a downturn, Reliance Steel & Aluminum is actually in a great position to strengthen its competitive position through the acquisition of smaller competitors. Their financial situation is impeccable, with an F-Score of 9 and a debt to equity ratio of 41%.

From a valuation standpoint, the company is at a significant discount to its history and industry averages. The current P/E of 6 (forward P/E is 9). This compares to an industry average of 13. The 5-year average for the company is a P/E of 14.77. An increase from the forward P/E of 9 to its historical average would be an increase of 64%. The enterprise multiple of 7.52 compares to a 5-year average of 11, a 45% discount. On a price/revenue basis, it currently trades at 47% compared to an industry average of 162%.

Overall, Reliance Steel & Aluminum is in a strong financial position with a dominant position in a competitive business. It trades at a significant discount to its intrinsic value, providing an ample margin of safety.

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.

Universal Forest Products (UFPI)

ufpi

Key Statistics

Enterprise Value = $1.83 billion

Operating Income = $196 million

EV/Operating Income = 9.33x

Price/Revenue = .36x

Earnings Yield = 9%

Debt/Equity = 20%

The Company

Universal Forest Products (UFPI) designs, manufactures and markets wood products around the world. They supply lumber directly, while also supplying lumber products for everything from wooden crates to wood products used in manufactured homes and RV’s. While they have a global footprint, their focus is in the United States. A major source of business is their supply of lumber to Home Depot, which accounted for 19% of their total revenue in 2017.

UFPI grows organically with the economy. Growth over the last ten years has been steady with the US economic expansion.

ufpibus

Market sentiment is against this stock despite its rapid growth over the last few years. The stock is down 29% over the previous year while earnings in the most recent quarter were up 20% during the last year. Fear is being driven by the slowdown in the US real estate market and current market fears that the US economy is headed for a recession. The housing market has slowed down recently, bringing up fresh doubts about the lumber business and fueling concerns that UFPI’s earnings are at a cyclical peak.

My Take

This is a cyclical stock, and I am buying it based on my belief that the US will not go into recession over the next year. The short end of the yield curve inverted, the long end hasn’t yet, and we typically have 2 years after inversion in the long end before we actually have a recession. What’s a more reliable forecasting tool? Mr. Market’s freak out over the last couple of months, or the yield curve?

Worries over housing are actually worries over a redux of the 2008 housing meltdown. Even if we do experience a slowdown in housing, I don’t think it will be anything like that meltdown. The quality of borrowers is significantly better than it was last decade. Credit scores for first-time homebuyers, for instance, are up significantly over the mid-2000s euphoric Red bull and Vodka soaked housing bubble that left the US in financial ruin. I also think there is plenty of pent-up demand for housing from Millennials. Mortgage debt service payments as a percent of disposable income are also at the lowest levels since we started tracking it. In short: I think worries about a housing slowdown are overblown.

mortgage

The stock has been punished in the previous year over macro worries that aren’t showing up in the actual results from the business. The most recent Q3 earnings were up 20% over the last year and profits were up 14.7% while the stock is down 29%. What is more real? What is more reliable? The actual performance of the business or the market’s speculation about macroeconomics? I know where I would prefer to place my bets.

This is a bucket I am going to focus more on. Namely, stocks that are getting punished over macro worries that aren’t actually showing up in the real performance of the business. It seems like an area that is ripe for mispricing.

From a relative valuation standpoint, UFPI’s valuation ratios compare favorably to its history and the industry averages. On a Price/Revenue basis, UFPI currently trades at 36% of revenue, compared to an industry average of 115%. UFPI currently has a P/E of 11, compared to an industry average of 17. Over the last 5 years, UFPI’s average P/E has been 19.5. A return to these levels would be an increase of 77%. On an EV/EBIT basis, UFPI currently trades at 9.33x compared to a 5-year average of 12.65.

Overall, UFPI currently trades at an attractive valuation, and it has been punished over macro worries that aren’t showing up in the actual business. For this reason, I have purchased a position.

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.

Allstate (ALL)

lake

One of my favorite spots on a perfect fall day. Onto the analysis . . . 

Key Statistics

Enterprise Value = $27.791 billion

Operating Income = $4.283 billion

EV/Operating Income =6.48x

Price/Revenue = .73x

Earnings Yield = 12%

Debt/Equity = 27%

The Company

Allstate is the 4th biggest insurance company in the United States (as measured by market capitalization) and their main focus is automobile and homeowners insurance. Interesting bit of history: Allstate was established in 1931 by Sears. Allstate originally marketed policies via mail and the Sears catalog, which was revolutionary at the time. After 62 years of operating within Sears, it was spun off in 1993.

Market sentiment is relatively weak against Allstate. The stock is down 20% over the last year. The stock has been punished due to rising interest rates and various extreme weather events over the previous few years. There is also fear that the rise of autonomous vehicles will afflict Allstate’s insurance premiums in the long run.

My Take

From a quantitative perspective, Allstate appears to be an excellent company at a bargain price. At a P/E of 9, this compares to an industry average of 16.05. On a price/revenue basis, Allstate currently trades at 73% of revenue, compared to an industry average of 127%.  The forward P/E is presently 9, implying that Allstate is expected to maintain its current level of profitability by most analyst estimates. Allstate’s present valuation also compares favorably to its history. Allstate’s average P/E over the last 5 years is 13, 44% higher than current levels. On an EV/EBIT basis, Allstate’s average multiple in the previous 5 years was 8.5, which is 31% higher than current levels.

Allstate is also a well-run company. The F-Score is presently 7, which places it at a high degree of financial quality. Allstate also achieves better results than its competitors, producing a return on assets of 3.31% compared to an industry average of 1.91%. It delivers these results without excessive leverage, with a debt/equity ratio of 27%.

Allstate also grows organically with the economy, with operating income and revenues steadily increasing over time. The share price has increased with the growth in business over time.

allstate

Regarding short-term risks, the Fed is signaling that the rate hikes will end, which ought to stop the pressure on its bond and loan portfolio. There is also the risk of extreme risk events, such as terrible weather events in the upcoming year. That is a constant risk for insurance companies that don’t vary much from year to year and is built into Allstate’s pricing models. With a history going back 87 years, I’m reasonably sure that Allstate can handle a bad hurricane season, for instance.

As for long-term risks, the fears about the rise of autonomous vehicles seem silly to me. We are a long way off from widespread adoption of autonomous cars, considering that most people keep their cars for 11 years. Even when autonomous vehicles are widely adopted, you will still need someone to sue when the car gets into an accident. Even if the car can drive itself, the driver’s insurance is still going to be held responsible when the car makes an error. I don’t think we’ll ever see a day when it will be legal for the driver to hang out in the back seat drinking whiskey while the car whisks away to its destination with the driver completely free of responsibility.

In short, Allstate is a well run, defensive pick that is experiencing organic growth and currently trades at an attractive discount to average valuations within the industry and Allstate’s history.

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.

Manpower Group (MAN)

handshake

Key Statistics

Enterprise Value = $5.113 billion

Operating Income = $856.8 million

EV/Operating Income = 5.96x

Price/Revenue = .21x

Earnings Yield = 13%

Debt/Equity = 40%

The Company

Manpower Group is a global staffing company. They provide recruiting services. They place a broad and diverse group of workers, from office staff to industrial workers. They also have a rights management unit, which provides consulting for workforce issues, such as advice to improve overall productivity.

This is not a “good business” with high returns on invested capital. Its earnings are driven by the cyclical nature of the global employment trends. However, Manpower has been in business for 75 years and has a strong global footprint, with a concentration in Europe. 13% of their revenue is from the United States, 13% is from Asia & the Middle East, and the remainder is from Europe. They have a particularly big focus in France, where 26% of their revenue comes from.

Manpower is in the most cyclical industry that there is: staffing. Their fortunes are dictated by the performance of demand for global employment. The company has performed well as unemployment rates fell in Europe and the United States. Employment in the European Union peaked at 11% in the middle of 2013 and is now down to 6.8%. In the United States, unemployment peaked at 10% and is now down to 4%.

The stock has been punished all year long. From its peak of $136 in January 2018, it is now down to $73.16.

My Take

In the quantitative sense, Manpower is a compelling bargain. The current P/E of 7.93 compares to Manpower’s 5-year average of 15.69 and an industry average of 24.14. Analysts don’t anticipate a significant decline in earnings. The stock currently has a forward P/E of 8.83. Additionally, the current EV/EBIT of 5.96 compares to a 5-year average of 9.27, which represents a 55% discount.

A bet on Manpower is obviously a bet on the US and Europe avoiding a recession in 2019. The economies of the United States and Europe are tied at the hip. A recession in the United States will likely coincide with a recession in Europe. There are indeed exceptions to this synergy, such as the 2011-13 period, when Europe languished while the recovery remained strong in the United States, but for the most part, they are closely correlated. Manpower’s performance is primarily dictated by the employment fortunes of these companies, as you can see in the below.

unemploymentincome

As I’ve stated elsewhere, I do not think that we will experience a recession in the upcoming year. The 2-year vs. 10-year treasury yield, along with the 3-month vs. 10-year treasury yield, has not yet inverted. Typically, after the inversion, the US has 1-2 years before the recession begins. Usually, the unemployment rate doesn’t start ticking up until immediately before the recession. This means that Manpower group is likely getting into the best part of the employment cycle at an attractive valuation.

The market is apparently concerned that Manpower’s earnings and cash flows are at a cyclical peak. I believe we are close to a cyclical peak, but I think a lousy period for Manpower is likely 2-3 years away and is not imminent. In the meantime, I think this is an attractive bargain with the wind at is back.

Manpower has a strong footprint in temporary hiring. This is a segment of Manpower’s business that will likely benefit from where I think we are in the cycle: a period when temporary workers will be in demand as firms struggle to retain employees.

Overall, I believe Manpower will benefit from where we are in the cycle in the upcoming 1-2 years. I am purchasing the stock with a margin of safety, with the stock trading significantly below its historical valuation multiples.

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.

 

 

MetLife (MET)

fall

Key Statistics

Enterprise Value = $46.727 billion

Operating Income = $5.65 billion

EV/Operating Income = 8.27x

Price/Revenue = .70x

Earnings Yield = 11%

Debt/Equity = 36%

The Company

Met Life is a massive global insurance firm. Their $457 billion bond portfolio makes them one of the biggest institutional investors in the United States. Their business spans the globe with operations in the United States, Asia, EMEA, and Latin America.

A major focus for MetLife is group insurance for large corporations. Another important segment is pension risk transfer when MetLife assumes the pension risk of another company. Another segment is structured settlement, in which MetLife will take on large class action legal claims.

Like Unum Group, shares have languished due to concerns about its long-term care insurance reserves. In other words, with people living longer and medical care costs rising, the market is worried that MetLife doesn’t have enough capital set aside to deal with these concerns. These concerns have caused many insurance names to lag the S&P 500 in the past year and MetLife has not been immune to the pain In the last year, the stock is down 8.39% while the S&P 500 is up 15.67%.

My Take

Cheap insurance stocks are a large segment of my portfolio. I currently own Aflac, Unum Group, Reinsurance Group of America, and MetLife. I like insurance for several reasons: it is boring, it is profitable, and beaten up insurance companies almost always tend to recover unless there is a black swan event or they have been playing it fast and loose with risk management.

As for the long-term care anxieties, I have no idea if MetLife has sufficient capital set aside. What I do know is that long-term care represents only 15% of MetLife’s business and it looks to me like the concerns are already built into the stock price.

Despite the pressures on the stock and worries about long-term care, revenues and profits are up over the last year. In the most recent quarter, year/year revenues are up 38.23% and EPS is up 3.75%.

Met Life is a high-quality firm. Their Piotroski F-Score is currently an excellent 7. Their debt/equity ratio is currently 36%, implying that they have a relatively safe balance sheet.

My main attraction to Met Life is its high level of shareholder yield. In the last year, MetLife has bought back 5% of the outstanding shares and delivers a dividend yield of 3.60%. The share buybacks show no signs of letting up. In May, the company announced a $1.5 billion share buyback.

With most of my picks, I buy ugly situations and wait for significant multiple appreciation once the concerns fade away. I am looking for gains of 50-100%. With Met Life, I’m not expecting those kinds of gains. While moderate multiple appreciate is possible, my expectation is that MetLife has a low probability of blowing up and, in the meantime, it will continue to aggressively return capital to shareholders and ought to deliver an attractive rate of return.

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.

Reinsurance Group of America (RGA)

measurement

Key Statistics

Enterprise Value = $10.10 billion

Operating Income = $1.159 billion

EV/Operating Income = 8.71x

Price/Revenue = .73x

Earnings Yield = 19%

Debt/Equity = 41%

The Company

RGA is a Missouri based holding company for multiple reinsurance entities all over the world.

What is reinsurance? Simply put, reinsurance is insurance for insurance companies. Typically, insurance companies buy reinsurance policies to cover themselves in the event of catastrophic losses that occur outside of the assumptions in their risk models. Insurance companies would depend on reinsurance after an extreme event – a major disaster like a historically unprecedented hurricane, earthquake, or a terrorist attack.

RGA is unique in that it focuses on insurance for claims related to health insurance and life insurance. One example of this niche is their focus is longevity reinsurance, a business where RGA insures health insurance companies for the risk that insured people will live longer than the models project. (If Ray Kurzweil’s predictions are true, RGA is screwed. I don’t think we will find the fountain of youth anytime soon, though.) Another area that they focus on is “asset-intensive reinsurance,” which insures annuities for the possibility that their annuity returns might fall short and annuitants will live longer.

RGA has often changed its ownership structure. RGA initially went public in 1993 after years as a division of General American Life Insurance Company (General American retained a majority stake in the company after it went public). It operated publicly from 1993 until 2000, at which point MetLife bought it and took it private. MetLife then spun off RGA in 2008, and it has operated as an independent public company ever since.

A key risk for RGA would be a global disaster affecting human mortality. An example would be a pandemic. Bill Gates has sounded the alarm on this issue for a long time. In addition to an event causing mass casualties, such an event would also create chaos in the financial markets, which would affect RGA’s investment portfolio. A bet on RGA is a bet that such an extreme event won’t happen in the near future.

Reinsurance is also a dull, slow-growing industry that doesn’t command high multiples. Regardless of this, it is essential for insurance companies to maintain reinsurance policies to protect themselves.

My Take

RGA operates a good business that has been steadily growing since it was spun off in 2008. It has grown premiums and investment income steadily since going public, as you can see from the below chart (in billions of dollars):

rgarevenue

While the industry grows slowly, it grows steadily and methodically as the need for insurance grows and more of the world’s population enters the middle class, creating a need for insurance where none existed in the past. Each year, 160 million people globally become middle class. As they enter the middle class, they need home insurance, car insurance, and health insurance. As demand for insurance grows, demand for reinsurance grows. Because RGA has a global footprint, they benefit from the global growth in insurance, as you can see from their results over the last decade.

RGA trades at a discount to industry averages. The average price/revenue for the industry is 1.37 compared to .73 for RGA. The price/revenue multiple implies that RGA’s stock has an 87% upside. From a P/E multiple standpoint, RGA trades at 5.37x versus an industry average of 19.48, giving the stock a 262% upside potential.

Much of RGA’s high earnings in the last year are due to positive gains realized from the tax bill. Even with temporary tax gains taken into consideration, RGA’s forward P/E of 12 is still a discount from the industry average. RGA also trades at a discount to book value, which is currently $147 per share.

RGA is not only at a discount to the industry average, but it is also posting better results than industry peers. RGA achieved a 21% return on equity last year, which is better than the industry average of 6.71%.

RGA compares favorably to two of its biggest competitors, Everest Re and Renaissance Re, both of which paradoxically trade at a higher valuation. Concerning return on assets, RGA beats both of them. RGA delivered a 2.97% ROA in the last year, compared to 1.4% for Everest and -1.55% compared to Renaissance.

comparison

In short, I think RGA represents an attractive discount to the valuation of its peers even though it is performing better than them. Simple multiple appreciation could provide an attractive return for RGA.

I also think it is a possibility that RGA could be bought by a larger insurance company, as it was back in 2000 by Met Life.

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.

Micron (MU)

chip

Key Statistics

Enterprise Value = $59.959 billion

Operating Income = $13 billion

EV/Operating Income = 4.6x

Price/Revenue = 2.23x

Earnings Yield = 20%

Debt/Equity = 26%

The Company

Micron is a rapidly growing semiconductor manufacturer. It represents everything that investors are supposed to love in 2018. Micron manufactures semiconductors for everything from supercomputers to smartphones with a particularly strong niche in memory products.

Business has been fantastic over the last few years, driven by the global growth in tech spending. From 2016 levels, 2017 sales were up by 64%.

The business is in the midst of a massive boom, with revenues and earnings growing every quarter. The Q3 earnings report was the best in Micron’s history, pulling in $7.7 billion in revenue and $3.10 in earnings per share.

My take

In the current tech-obsessed mood, Micron is the kind of business that Wall Street should be infatuated with, but it’s not. Micron currently trades at an absurd P/E of 5.10 compared to industry average of 30.10, a discount of 83%. Micron’s 5-year average P/E is 14.58. An increase to this level would be a 185% increase from current levels.

The crazy valuation is not a result of a sell-off. Micron’s stock price has done well over the last few years. This is an odd situation where the actual earnings growth over the last few years has outpaced the stock price.

The major risk is that Micron’s business is at a cyclical peak. This is a view I am very sympathetic towards. Micron is mired in an extremely cyclical business. In the last twelve months, Micron posted a crazy operating margin of 46%, which is destined to decline. Eventually, the market will become saturated and prices will decrease.

Where are we in Micron’s business cycle? I have no idea. It’s entirely possible that we are at the peak in this business cycle for Micron. It’s also possible that we are in an early inning. I don’t know. The thing is: no one else knows, either.

This is also an industry facing constant and relentless pricing pressure. That’s why a ’90s supercomputer can now fit into your pocket. Tech gets better and cheaper as time goes by. It’s a bad place to be.

semi

Tech hardware: not a great business

This is a cyclical business with long-term pricing pressure on the downside. This begs the question: why am I buying this thing?

In my view, even if Micron’s business is at a cyclical peak and they are poised to lose pricing power: at 5x earnings, does it matter? What will the multiple go up to, 8x? 10x? That’s still very cheap for an S&P 500 tech company that is growing earnings and cash flow at such a rapid rate.

Why isn’t the same mentality applied to other amazing mega cap semiconductor companies like Nvidia, trading at a multiple of 39x earnings? Or Intel, trading at 19.85x earnings?

The expectations embedded in the stock price completely discount the possibility that the Micron’s good times might last longer. At such a cheap price, I am willing to take the other side of that trade.

There are no signs of financial distress with Micron, with a nearly perfect F-Score of 8 and a debt to equity ratio of 26%. Micron’s solid balance sheet and strong financial position also limit the possibility of a major blow up, limiting the risk on the downside.

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.

United Therapeutics (UTHR)

dna

Key Statistics

Enterprise Value =$4.454 billion

Operating Income = $998.2 million

EV/Operating Income = 4.46x

Price/Revenue = 3.06x

Earnings Yield = 13%

Debt/Equity = 10%

The Company

United Therapeutics is a biotech firm founded in 1996 by Martine Rothblatt. Rothblatt’s daughter suffered from pulmonary hypertension (high blood pressure within the arteries of the lung), and she founded United Therapeutics to try to find a treatment. They succeeded in creating Remodulin, which was approved by the FDA in 2002. UTHR sells many other drugs, but Remodulin remains the blockbuster core of the business. In 2017, it represented 39% of total revenue.

More recently, in 2015, the FDA approved one of UTHR’s latest drugs: Unituxin. Unituxin is a treatment for neuroblastoma, cancer affecting the kidney. Children often have this cancer. Unituxin helps the immune system fight cancer.

A few years ago, UTHR was a richly valued growth stock. To put the growth into perspective, in 2002 the company generated $50 million in sales. Last year, sales were $1.7 billion. In 2015, it traded at a P/E ratio of 50.

Since the 2015 peak, the stock is down 17%.

What happened? Several patents expired in 2017 and UTHR is facing increased competition from generics. Growth has slowed down, and the market is worried that there aren’t enough drugs in the pipeline to keep the growth going.

My Take

Growth for UTHR likely won’t continue at the intense pace of the last twenty years. The thing is: at this price; it doesn’t need to. The stock is priced like it is a dying business that is being destroyed by competition as if it is one of my beleaguered retail picks fighting the Amazon juggernaut. In reality, this is a Phil Fisher company trading at a Ben Graham price.

The stock now trades at a P/E of 7.63 (down from its 50x peak in 2015). The average for the biotech industry is 29.45, meaning that UTHR trades at a 74% discount to this. It is also a free cash flow machine generating an 11% yield based on its current enterprise value. The 5-year average P/E for UTHR is about 18.55 (which seems like a proper valuation for a growth company). An increase to 18.55 would be a 143% increase from current levels.

In the most recent quarter, year over year sales was mostly flat, and earnings were down. The recent performance deepens the worries that UTHR’s best days are in the past.

The consensus price implies that UTHR has nothing in the pipeline. In reality, they spent $264 million on research in 2017. They are working on many new drugs, but one of the most exciting areas of research is the manufacturing of organs. They are trying to develop the ability to generate engineered lungs, hearts, and kidneys. If they succeed, such a development could save a tremendous number of lives over the long run and, of course, generate significant business for the company.

UTHR is valued as if it is roadkill. It is priced for a no-growth future. Based on its past results and research pipeline, this seems to me like an unlikely fate. With a solid balance sheet and low valuation, the prospects of a significant decline are low. Meanwhile, any whiff of good news on the research front could send the company to a more normal valuation, potentially a 100%+ gain from current levels.

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