Some of the best investment opportunities can be found among small cap value companies. Often times, these companies lack pizzazz and may be seen as part of an industry whose time has passed. The key is to find the catalyst that moves the company forward.
One company that fits this mold is Valassis Communications (VCI). The company is a media and marketing services company. The old school model for VCI is providing newspaper inserts and mailers for retailers. The catalyst for VCI is, in my opinion, its embracing digital technology to provide consumers with discount coupons online.
The most recent quarter reported by Valassis is for the third quarter of 2012. The company's 10-Q filing with the SEC reflects several adverse developments in F2012. The company closed-up shop on two underperforming operations: newspaper polybag advertising and sampling and on their solo direct mail business. The company also initiated a reorganization which included downsizing of staff. The short term effect of these actions was to cause a loss of revenue from discontinued operations and the incurring of one-time charges. The long term impact of these changes is to get Valassis out of poorly performing businesses.
The company also acted to move forward with their expansion into digital media. In FY2012, the company acquired Brand.net, an online display, video and mobile advertising platform.
The company provides full-year 2012 guidance for diluted EPS of $2.98. The consensus EPS estimate reported by Thomson Reuters is $3.12. For FY 2013, the company announced expected diluted EPS of $3.50 whereas analyst estimates average $3.52.
Over the last 7 years, the average growth has been in the double digits. However, over the last 3 years revenues revenue declined at the rate of 2.1%. For the trailing twelve months, revenue declined 4.1%. The reasons for the revenue decline are explained above.
The average EPS growth rate has remained relatively strong. The five year average EPS growth rate is 16.8% and for the trailing twelve months, the growth rate jumped to 34.5%. In the quarter period ending September 2012, EPS jumped 55.2% when compared with the year-ago period.
Common equity has a five year growth rate of 21.8%. Despite fluctuating trends in both revenue and earnings, Valassis has, over time, managed to grow equity.
Valassis has a current gross margin of 25.2% which is better than its five year average of 24.3%. The operating margin for the most recent quarter is 9.4% compared to a five year average of 10.02%. However, we note the operating margin has fluctuated during this period from a high of 29.6% to a low of -4.8%.
Valassis is a highly levered company with a debt equity ratio of 123.1%. Its healthy free cash flow, however, more than compensates for this high leverage. The company has reduced its long term debt very significantly from $1,279.6 million in 2007.
Over the long term, receivables turnover has remained in the mid-single digits with a slightly rising trend. Inventory turnover ratio has shown a fluctuating trend over the years from a low of 31.0% to a high of 49.4% in 2007. For the most recent reporting period, inventory was at 47.5%.
The company has a trailing PE of 10.5 and a forward PE of 9.3. This is 0.58 relative to the SPX. The valuation for Valassis looks attractive as the forward PE stands significantly below the benchmark of 15 for a value stock. The P/S and P/B ratios also remain low at 1.52 and 2.43, respectively.
Valuation on an enterprise value basis also looks attractive. EV/EBITDA for VCI is 6.86 as compared to the industry median of 7.92 and EV to Sales is 0.75 versus the industry median of 1.21.
Furthermore, the company has a return on invested capital of 19.75% as compared to the industry median of 16.72%. Cash return on invested capital, at 16.27% confirms the strength of earnings.
As a final point, we note the adoption of a new dividend policy. The indicated dividend is $1.24 per share which implies a yield of 4.3%. Additionally, the company has in place a share buyback program. They anticipate devoting 35%-40% of free cash flow for continued stock repurchase. In the twelve month period ending September 2012, the share buyback yielded 14.5%.
Valassis is repositioning itself to take advantage of digital distribution of its products. Revenue, earnings and free cash will grow. Capital allocation, in the form of a healthy dividend and share repurchases make this an attractive investment.