We're Still Not Buying Plantronics Despite its Seemingly Low Valuation (PLT)

Plantronics, Inc.'s (PLT) core business has always been headsets used in office and call center environments. The rise of the mobile phone, including hands-free legislation, spurred an increasing exposure to consumer business lines that was heightened with the recent acquisition of Altec Lansing.

These consumer businesses are more fashion-oriented, less predictable, and offer lower margins than the office and call center market, which is essentially a duopoly between Plantronics and European competitor GN Netcom.

Plantronics has remained consistently free cash flow positive. For several years the cash was building up on the balance sheet before it was ultimately used in the Altec Lansing acquisition. The valuation, currently at 13.5x trailing EPS, is a low level compared to Plantronics’ history and to the market as a whole.

Guidance calls for another modest EPS dip in FY2007 (the company’s fiscal year ends in March) and for an increase the following year. These estimates should be taken with a grain of salt, as the same thing was said last year and because the estimates for Plantronics have frequently been off by very wide margins in both directions.

Although the company has consistently generated free cash flow, it fell off significantly in FY06. Cash flow from operations declined to $78.3 million from $93.6 million the year before, partly due to an $11 million ad campaign that did not improve sales in the consumer business lines (in fact sales declined in those segments.) Capital expenditures increased from $27.7 million to $41.9 million due to the completion of a new factory in China. Net result, free cash flow declined from $65.9 million in FY05 to $36.4 million in FY06. And that doesn’t count the $165.4 million they spent on Altec Lansing.

All that wouldn’t be too big a concern if it were clearly temporary. However, the company has said it plans to increase ad spending to $19 million in FY07, and expects to spend $45 million on Capex this year to expand its headquarters in Santa Cruz, California. So rather than being temporary, the lower free cash flow levels are actually looking somewhat persistent.

The higher capex will soon be reflected in depreciation expense, which was just $16 millionin FY06. When the higher spends of recent years flow through it will act as a drag on EPS for several years.

Therefore, although today’s valuation appears low, we will not be buyers again until it is lower still, or until we see evidence that the free cash flow is once again improving. A 3.6 percent free cash flow yield just doesn’t cut it when CDs are paying five percent.

PLT 1-yr chart:

Comments

[FaisalLaljee]

Yes good point. In fact, Plantronics has heavy competition in the form of Logitech, which might be worth a look.

[Asif]

Like Faisal, I like Logitech. Logitech enjoys strong brand awareness amongst consumers and saw a <b>61% growth in sales in its PC headsets</b> business thanks to VOIP.

The board approved a 2 for 1 stock split and to see how this could benefit Logitech, check out my post about Logitech on Seeking Alpha.