Nordson (NDSN) has been underperforming the broader market recently with the last twelve months offering only a 10% return while the S&P 500 (SPY) has provided a return north of 24%. The contrarian in me finds this interesting and peaks my interest as potentially finding an investment that has been out of favor or maybe undervalued. A closer inspection reveals a full valuation and insider selling despite favorable consensus estimates.
I. COMPANY OVERVIEW
Nordson provides precision technology solutions through engineering, manufacturing and marketing differentiated products and systems used for dispensing and processing of adhesives, coatings, plastics, sealants and biomaterials, with related technologies in fluid management, testing and inspection, UV curing, and plasma surface treatment, all supported by application expertise and direct global sales and service. The Company serves a wide variety of consumer non-durable, durable and technology end markets including packaging, electronics, medical, appliances, energy, transportation, construction, and general product assembly and finishing.
II. HISTORICAL PERFORMANCE
|Avg Diluted Shares||67.1||68.4||68.4||65.1||64.9|
Note: All figures are MM's (except per share data) unless noted otherwise
Nordson has performed well over the past five years with EBITDA expanding each and every year (albeit just a slight expansion in 2013). The Company's revenue expanded rather rapidly every year since 2009 at a compounded annual growth rate of 17.2%. The gross margin has trended negatively staying within a tight 4.6% range over the past five years (bottoming at 56.1% and peaking at 60.7%). On the other hand, EBTIDA Margins have expanded from 19.9% in 2009 to 24.6% in 2013 (as a result of leveraging fixed costs) resulting in EBITDA expansion from $163MM in 2009 to $379MM in 2013 (133% expansion) over the five year period.
Note: Per share data based on weighted average diluted shares outstanding.
On a per share basis, there isn't much additional to identify. The Company had relatively flat weighted average shares outstanding, only slightly decreasing from 67MM to 65MM over the period (a 3.3% decrease). EBITDA per share has expanded from $2.43 to $5.85 (a 141% increase as compared to a 133% increase at the Company level). The Company's dividends per share have been growing, increasing from $0.37 per share in 2009 to $0.63 per share in 2013 (a 71% increase or a 14.3% compounded annual growth rate). The payout ratio has remained below 20% since 2010.
|Market / Par Value||EBITDA Multiple|
|- Cash and Equivalents||$42||0.1x|
|+ Total Debt||$668||1.8x|
|+ Market Capitalization||$4,656||12.3x|
|Total Enterprise Value||$5,282||13.9x|
Note 1: Based on TTM EBITDA of $379MM as of 10/31/13.
Note 2: Market Cap based on 64.3MM shares outstanding and a $72.46 market price as of 1/17/14.
Nordson has a low leveraged capital structure. The Company is levered at 1.8x TTM EBITDA (1.6x net of cash) with a total enterprise value of 13.9x TTM EBITDA. There is some opportunity to unlock value by adding a little bit of low cost debt to leverage their equity returns. Even with moderate leverage the Company would have a low cost of debt and maintain significant financial flexibility while enhancing returns to the equity holders.
Note: All figures are MM's (except per share data) unless noted otherwise. Consensus Estimates only relate to EBITDA projections. All other assumptions are based on unadjusted LTM actuals.
The consensus estimates for Nordson are aggressive projecting a growth rate between 12.1% and 10.9% annually through 2015 at the EBITDA line (projections unavailable for 2016 through 2018). Under the consensus case the Company is projected to have significant additional free cash flow available to reinvest in the business, repurchase shares (always assumed for modeling purposes), or increase the dividend.
|Share Redemption Price||$83.33||$95.83||$110.20||$126.73||$145.74|
|Wtd Avg Diluted Shares||62.4||59.9||57.7||55.8||54.2|
|Dividends Per Share||$0.74||$0.77||$0.80||$0.83||$0.85|
The share redemptions are assumed to be at a 15% annually compounded price. I believe that this is structured very conservatively. If the weighted average redemption price exceeded this threshold, the investor would have ample opportunity and time to re-evaluate their position and consider selling their position for a gain from today's price. The Company's share redemption would allow for a 3% to 4% increase in the dividend annually from the share redemptions alone. Additionally, the Company's payout ratio would decline as the dollar amount of dividends paid would not be increasing while the Company's earnings (using EBITDA as a proxy) would be increasing.
If the Company performs in line with the consensus estimates and pay dividends / redeems shares as outlined above, the Company would achieve the IRR / Cash on Cash returns illustrated below based on the outlined terminal EBITDA multiples.
|Cash on Cash||1.25x||1.31x||1.37x||1.43x||1.49x||1.57x|
The valuation at ~14x TTM EBITDA seems to be a little rich for Nordson and where the consensus estimates are shaking out. Given the fairly aggressive estimate for 10%+ growth in both 2014 and 2015, I think there is significant risk of the Company coming up short to the projections (2013 performance was flat to 2012 performance). Which leads to the question of why is Nordson trading for nearly 14x TTM EBITDA?
While not a primary factor for making an investment decision, the Company has increased its dividend for the last 50 years. However, with the yield today of just under 1%, it won't be attracting income investors in droves.
With the risk surrounding this investment, there are certainly less risky investments that can provide a comparable total return. I think its time to follow the insiders and sell at this tall valuation.