The Value of Lamson & Sessions

Lamson & Sessions (LMS) is receiving pressure from Ramius Capital Corp to sell its OVC line of business and use the proceeds to either buy back stock or invest in the company. Ramius also wants LMS to delay its intention to increase its capital to 40 million shares from 20 million to help it with acquisitions. They do not believe it should be making any acquisitions at this time, or at least until it has sold its PVC line of business. Ramius owns 5.9% of the company, while insiders own 18.39%. So what does Ramius see in LMS?

From management’s most recent presentation, net sales for 2006 are projected to grow 13% - 14% to a range of $560 - $565 million. Net income growth for 2006 is estimated to be 46% - 49% to $40.3 - $40.8 million, or $2.50 - $253 per diluted share vs. $1.82 per diluted share in 2005.

Management expects a seasonal decline in the 4th quarter and 1st quarter due to weather. However, the company expects 8-10 percent growth in sales and 15 – 20 percent in net income in 2007. Growth is strong, with 2/3 of growth in revenue for 2006 from price increases, 1/3 from volume.

LMS has good operational management:

• Inventory turns: 7.4 times at end of third quarter 2006.
• Accounts receivable days sales outstanding: 51.7 days at end of the third quarter 2006.
• Operating expense reduced from 16.8% of net sales in 2000 to an estimate of 10% in 2006.
• Margin 22% - 23% end of 2006 up from 15.9% in 2003 and 20.6% in 2005.

The company is the market leader in non-metallic electrical products and in non-metallic telecom products. They are closely aligned with Lowes (LOW) [sole source supplier], Home Depot (HD), Wal-Mart (WMT), Target (TGT), Sears (SHLD), Ace Hardware and other retailers.

The market believes the company is highly dependent on the home construction industry, which has depressed the price of the stock. However, their product line is more widely distributed, with Telecom providing the greatest growth for now.

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Verizon (VZ) is a major customer for their telecom products as they expect to pass another 3 million customers each year for the next 4 years. AT&T (T) is also starting to lay more fiber close to the home, though LMS has a much smaller share of this business. U.S. annual fiber optic cable demand is expected to grow at a compound annual rate in excess of 15% through 2009, as cable companies are also considering how to expand their networks.

Electric industry sales are expected to grow slightly over the next 3 years: commercial construction is expected to grow at approximately 10% year, home improvement retail sales is growing at 9-10% per year. The blue electrical box available at any electrical supply store [Home Depot, Lowes, Ace Hardware, Wal-Mart, target, Sears, etc], is a patented color that is widely recognized. They the primary supplier to Lowes and are leveraging their customer supply systems to great advantage, locking out other suppliers. Lowes even asks the LMS to buy certain small suppliers so Lowes can carry their products.

The company has an acquisition strategy to:

• Augment organic growth with accretive transactions
• Address critical mass limitations, especially in commercial markets
• Reduce cyclicality from residential market
• Gain a presence in international markets.
• Leverage distribution channel and information platform [sole source for Lowes, and major supplier to Home Depot, etc.]
• Broaden technology base.
• Expand their credit line from $125 million to over $200 million to support acquisitions.
• Increase authorized capitalization from 20 million to 40 million shares.

Recently the company expanded their credit line from $125 million to over $200 million to support acquisitions. They are also asking shareholders to increase the authorized capitalization from 20 million to 20 million shares. This is the primary issue Ramius has with the company’s strategy, as any issuance of stock will dilute their ownership and possible depress the stock price. As long as the acquisitions are accretive, this should be a positive for the company, longer term. Michael J. Merriman, a director since April 2006, was named the new CEO effective November 15, 2006. This bears watching as Merriman is a financial guy and the record of new CEOs from outside a company isn’t always the best.

Lamson & Sessions is a company that bears watching as they provide solid operational execution and financial performance. Should the decline in housing construction stabilize, expect the market to respond with a higher valuation. The PVC operation is a commodity business where it is difficult to differentiate the product. It provides the lowest margins and is slow growth segment. If the company were to sell the PVC business it would provide cash for acquisitions that should have higher growth rates and margins. This would be a positive for the company. If not, there is still good potential for LMS longer term, as long as any acquisitions are accretive.

LMS 1-yr chart

Disclosure: Author has no position in LMS