Orbotech: Patience Could Be A Virtue

Both management and analysts have been guarded in their forecasts for 2007, but the company’s prospects could be brighter than they look. Last Tuesday, equipment inspection maker Orbotech Ltd. (Nasdaq: ORBK) published its financial report for the fourth quarter of 2006 and the year as a whole. The market was somewhat disappointed with these and the stock has been quietly tanking ever since.

The truth is that Orbotech has not recovered from the bubble period as the other technology companies have done, even though its situation on Main Street is fine. The company’s sales rose from $228 million in 2003 - the year it emerged from the crisis - to $315 million in 2004, $380 million in 2005 and then $416.5 million in 2006. It moved from an operating loss of $3.6 million in 2003 to an operating profit of $56.2 million in 2006, and it turned a net loss of almost $3 million in 2003 into a net profit of $56 million in 2006.

Orbotech expects sales for 2007 to come in at $400 million, while the consensus estimates predict $412 million. This is not a large gap, but it does show a decline in sales. Company CEO Rani Cohen said that the company anticipates a “challenging 2007 due to the current decrease in capital expenditure in the flat panel display [FPD] industry,” the company’s core business.

Orbotech’s stock is, justifiably or not, inextricably bound up with the overall state of the semiconductor industry, since this is where most of its revenue comes from. I imagine that the company needs be cautious, since it is basing its forecasts on its view of the semiconductor industry in general and the way it specifically has been affected, and at present it does not see any business breakthrough. Managements everywhere have learned that if you’re not sure, tone down your forecasts. Either way, the combination of the overall uncertainty in the semiconductor industry and Orbotech’s own forecasts is the reason for the stock’s 9% fall over the last two weeks.

The trouble is that, as a whole, there’s no point in looking for economic compatibility between Wall Street and Main Street, and this particular case is actually the exception to the rule. Orbotech began its downslide as early as August 2005. Since then it has hovered, in accordance with the mood on Wall Street, at around $20-26, and then it suddenly surged 10% at the end of January only to fall 9% a week later. The question is not why the stock has been falling of recent, but why it failed to rise in 2005-2006. After all, it could hardly be claimed that the stock has done nothing since the summer of 2005 because someone knew that 2007 would not be that good a year.

In practice, what has happened since the second half of 2004 is that investors have taken time out to think, and when people start to think, the market grinds to a halt. Orbotech’s shares came to a halt because of fears of negative developments in the semiconductor industry. When an investor hears people constantly carping on about how activity in the semiconductor is slowing down, he will sell every stock in the sector that he has, from Orbotech to Zoran Corp. (Nasdaq: ZRAN). You can see it for yourselves if you place the graph for Zoran’s stock over the last five years next to that for Orbotech.

Both analysts and investors (under the influence of the former) are more influenced by what is happening in the sector as a whole, than in the company. In actual fact not only has the semiconductor industry not come to a halt but it has, actually, continued to grow, and Orobotech’s revenue bears this out. But the experts still stick to their guns. “Next year won’t be as good.” Since they’ve been getting it wrong since 2003, there’s a very good chance that they got it wrong once again with their forecast for Orbotech.

Let’s look at the actual facts and figures for Orbotech as of the end of 2006. It posted a pretax profit of $63 million on $416.5 million for the year as a whole. It has $270 million in cash and it currently has a market cap of $760 million. The company had earnings per share, fully diluted, of $1.65, representing a historical multiple of 13.8. My logical deduction is that in light of the latest forecasts, both those of the company management itself and those of the analysts who have already analyzed the company’s reports, the stock will continue to head south, and the question now is whether to wait on the sidelines and buy on the falls, or forget the whole idea and go elsewhere.

CIBC Israel analysts Avivit Mannet-Kalil and Sergey Vastchenok believe that 2007 will indeed be a weak year and actually, the company thinks so too, so it would be best to wait and see what happens. But if the stock continues to fall, there could suddenly be a serious buying opportunity here, since this is a company that is highly professional and efficient, has plenty of cash and is a leader in its field.

If the learned analysts are right, and the earnings per share do fall to $1.15 in 2007, (far less, as it happens, than the consensus), then, provided that they are indeed proved correct, it would be best wait until the stock reaches $18-20 before buying. That said, Orbotech has already been buying its own shares on the market, it is exposed to acquisition offers, and it is working on a number of projects, any one of which could be could be floated at fantastic values.

I have been following Orbotech since around 1995, when my investment manager friend Steven picked up 200,000 of its shares for $7 each, and sold them four years later for $60. My approach has always been that when the stock is nearing a price that is economic, it’s worth taking and this is the state of affairs at present. Patience will always pay off in cases like these. For the time being, however, Orbotech is continuing to do all it can to expand its product range. It has investments in several extremely interesting companies, and it is focusing its efforts on penetrating the medical device sector.

ORBK 1-yr chart

Published originally by Globes [online], Israel business news - www.globes.co.il
© Copyright of Globes Publisher Itonut (1983) Ltd. 2006. Republished on Seeking Alpha with full permission.