Per share values on 3-18-2011:
Market value $6.55
Cash & investments $5.09
Enterprise value $ 1.46
Dividend rate 2.8 %
Nam Tai Electronics (NTE) is an electronics manufacturing and design service provider to a select group of the world’s leading original equipment manufacturers (OEM’s) of telecommunications, consumer electronic, medical and automotive products. They specialize in low cost production of small and advance form manufacturing and work to improve production techniques in order to better service the electronic components for the OEM industry.
We selected Nam Tai Electronics because it is one of the select few that fits our model. Our goal is to select, purchase and continually monitor companies in an effort to obtain outstanding performing investments while minimizing risk by finding low values for our clients. We will cover part of our review and selection process as well as explain why Nam Tai Electronics has recently been included in our Income with Investment portfolio.
Great balance sheet:
Nam Tai Electronics has $5.09 in cash and investments per share and has no debt. This represents almost 75% of the market value of the company. They earned $0.12 a share in the fourth quarter of 2010 and $0.33 for the calendar year 2010. For the year period ended in December 2010, net cash generated from operations totaled $34.89 million, or $0.78 per share. The cash return on enterprise value was a very high 53% last year. Based on the annualized fourth quarter operations, the run rate on the cash flow works out to be about $42.6 million or $ 0.95 per share, this works out to be a whopping 65% return on the equity. It appears that the high levels of cash are camouflaging the true earning power of the company.
Nice quarterly performance:
Non-GAAP net income for the fourth quarter of 2010 increased to $5.4 million or $0.12 per share (diluted) compared to $0.4 million or $0.01 per share (diluted) in the fourth quarter of 2009. During the fourth quarter of 2010, Nam Tai Electronics achieved revenue of $166.5 million, which compared year over year, represents an increase of 78%. Gross profit of $14.2 million in the fourth quarter of 2010 also grew by 40% when compared with $10.2 million in the same quarter last year. After executing the strong year end quarter, management made the following statement:
The demand...increased considerably during 2009 and 2010, and we expect that momentum to be strong into 2011.
|Valuation Ratios||Company||Industry||S&P 500|
|Price to Enterprise free cash flow||0.45||22.3||24.00|
The manufacturing peer groups trade at about 22.3x cash flow. Applying this metric would value Nam Tai Electronics at about $17.23 per share plus $5.09 cash, thus creating a market value of $22.4 per share. The 45% return of operational cash flow on the market value is close to our review of China Yuchai Internation (NYSE:CYD), which is up strongly since we included it in our High Cash Stock Review.
The average price to enterprise earnings estimate for 2011 is $0.41. Using the $0.41 times the industry average of 14.80 would give Nam Tai Electronics a $6.07 enterprise value. Add the $5.09 of cash and we find the peer valuation at about $11.15 per share.
In my opinion, the high level of cash is hiding the outstanding free cash flow generation from operations, coupled with the worries about their large Japanese OEM clients. We believe they are in a position to maintain and possibly increase their dividend, as currently they are paying out just 15% of the free cash flow.
Assuming they maintain the $0.20 dividend payout per share, the yield would be 2.8% based on a share price of $6.55. Since they have almost 75% of their stock market value in cash, this large amount of cash is concealing their real earnings power.
The stock is currently trading at levels that represent a yield of 2.80% yield, or between the 5 and 10 year US Treasury.
- Japanese earthquake and tsunami
- Currency volatility
- Maintaining low cost production advantage
- Regulator and tax burdens
Japanese earthquake and tsunami:
It is rumored that 80% of Nam Tai Electronics are produced for Japanese multi-nation corporations. If key components, or part of the manufacturing process, is taking place domestically in Japan, this would slow revenues. Beyond the immediate crisis, we view the long term implications as being positive for Nam Tai.
Japanese multi-nationals may have, either in the short term or long term, lost large amounts of in house domestic manufacturing capabilities. They may seek additional production of low cost solutions to either relieve or replace distressed facilities. This is the combination of being a low cost alternative and/or a quicker way to get product back on the market versus rebuilding. This may become a real solution as the ongoing nuclear crisis has caused an indefinite economic hiatus.
Since most of Nam Tai Electronics are shipped to foreign markets, the price and volatility of currency transactions could greatly affect the bottom line. This may be magnified by the low margin environment they operate in. In just the last week, we have seen drastic increases in currency volatility.
Keeping the low cost advantage:
There may be pricing pressure building on labor and raw material. Recently, there have also been reports of labor unrest in China. Each of these situations could negatively affect the narrow margins that Nam Tai has. It is surprising that the company considers these two issues as one integral issue. We believe they are beginning to feel downward pressure on their margins. Nam Tai Electronics seems to do a good job of mitigating that pressure with technological innovation, however, competing as a low cost provider may not be sustainable in the long run.
Regulator and tax burdens:
Nam Tai Electronics has been seeing their taxes raised. Management has stated their belief that they will be raised again in the future. They want to open two new plants on property they have already leased and paid for. Due to government bureaucracies, they have not been able to execute these plans. These are both good examples of how unclear government regulation can cause problems in business plans.
They started paying a dividend in 1994 and grew it until 2008. The suspension in 2008 may be attributed to the economic slow down and the need to preserve cash. They reinstated their dividend and scheduled a $0.05 quarterly dividend 2011, and as explained above, cash flow is easily covering it. Beyond 2011, the dividend would be to the board’s discretion.
We believe that Nam Tai is trading at about 70% discount to many of their peers and well below most companies in the manufacturing market. We find this attractive while also knowing the company claims in their SEC documents:
we currently anticipate exceeding in 2011 our financial results reported in 2010.
Nam Tai’s core business appears to be accelerating before the latest crisis. They are in a strong financial position where core operations are very profitable. They are seeing very strong growth in total investment of cash, profits and cash flow. They appear so compelling based on very low valuations that we have included them in our Investment Growth & Income Portfolio.