I cannot say that I'm thrilled with how Miller Industries (NYSE:MLR) has performed since I wrote about it as a Top Idea in September of 2013. The shares are slightly ahead of the market since then, and the comp group has ranged from the outperforming Oshkosh (OSK) to the underperforming Spartan Motors (SPAR), but I was hoping for better performance as the company's sales improved. By the same token, this company is totally ignored by the sell-side and isn't very liquid, so it is the type of stock where investors need to have patience in the long-term story.
Looking to the rest of 2014, I continue to like Miller as a play on recovering demand for capital equipment in the towing sector. International markets remain a long-term growth opportunity and the company should see some margin benefits from better operating leverage. As I believe the shares are about 30% below fair value, I still see this as a quality small-cap GARP idea.
Ending The Year Mostly Positive
There are have been two earnings reports since my last review of Miller, and the company has seen solid growth in the interim. Third quarter revenue rose 35%, while fourth quarter revenue (reported yesterday, March 5) rose 31%. Those two quarters resulted in the company beating my mid-year expectations by about $10 million.
Margins have not improved at the same pace. Due to a greater mix of lower-margin chassis sales, gross margin softened throughout 2013. Fourth quarter gross margin declined a full point, bringing the full-year gross margin down about 120bp versus the prior year. Operating cost growth has been restrained (up about 16% in the fourth quarter and 3% for the full year), leading to operating income growth of 29% and only a tenth of a point of operating margin erosion.
Looking at the balance sheet and cash flow statements, inventories have been tracking up but most of that has been in raw materials - suggesting that the company is adding inventory to accommodate incoming orders. Receivables also jumped during the year, which I attribute to the influx of tow truck orders and the company's shipments to the French military.
Will The Momentum Continue?
One of the hardest things about owning or following Miller is that there is so little information out there for benchmarking purposes. Say what you will about sell-side research, it at least provides other opinions against which to compare your own assumptions.
One of my concerns for 2014 for Miller is whether the strong momentum in the second half of 2013 will continue. Management sounded relatively positive about order flow and customer sentiment, but they also talked previously about instituting price increases for the start of 2014 - leading me to wonder how much of the growth in the second half of 2013 was driven by customers getting orders in ahead of the new prices.
Even so, I think Miller is doing alright on a comparative basis. PACCAR (PCAR), Miller's primary truck chassis provider, referred to 2% growth in medium duty trucks for 2013. There are a lot of other applications for medium-duty trucks than towing, but it still seems to suggest that Miller outperformed.
Likewise with Oshkosh. Regrettably, Oshkosh doesn't break out sales of its Jerr-Dan business, but it is most likely more than three-quarters of the "Other" Access equipment revenue that the company does report. Oshkosh reported 10% growth in its "Other" Access revenue line for the December quarter, so while I regard that as a good sign for Miller's relative performance, it does underscore my concern that Miller may have gotten a meaningful boost from orders placed ahead of that price hike.
Cutting Losses And Moving On From Delavan
Miller also announced that it is ending its participating in the Delavan joint venture with Lohr Group. Lohr is the global leader in car-carrier trucks (as well as some railway products), and the two companies formed a joint venture in 2013 to develop large over-the-road trailers.
Miller has had some issues with initial losses tied to manufacturing issues for this JV and management decided that they don't want to continue. With that, Miller intends to sell its interest in the partnership to Lohr Group.
I'm a little surprised that the company moved so quickly. I respect the notion of recognizing a bad idea, cutting losses, and moving on, but one year does not seem like much time to work out the kinks for a new venture.
Playing A Rebound And Growing Overseas
I continue to believe that Miller can take advantage of improving demand in its core market. As other companies with commercial vehicle operations (including Oshkosh and Dover (DOV)) have experienced, the recession and credit crunch led (or forced) many small commercial operators to make do with what they had and delay fleet replacements or expansions. Now that conditions are improving, I believe Miller can benefit from catch-up orders and a more normal level of business.
I also believe that Miller has a good long-term opportunity to grow internationally. Miller has taken the unusual step of appointing co-CEOs, with William Miller II responsible for North American operations and Jeffrey Badgley in charge of Europe. I do not generally favor a dual-CEO approach, but the added executive focus on Europe could go a long way toward establishing a bigger presence in the sizable European tow market (a market that Miller has barely penetrated).
I do not believe my expectations for Miller are all that demanding. I'm looking for long-term growth of 5%, with the next few years tracking above that pace on catch-up demand in North America. I am also only looking for Miller to generate free cash low margins in the mid-single digits, a level that most quality operators in this sector can achieve.
The Bottom Line
My cash flow assumptions for Miller lead to a DCF-based target of $23 on the shares. While I would normally like to see stronger ROICs, I believe Miller's margins and returns are going to start improving as the company sees better orders and operating leverage. As those improvements show up in the reported results, I expect Miller shares to outperform the market.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
