Introduction
Ingram Micro (IM) is the world's largest information technology distributor and a leading marketing, technology sales and logistics company for the IT industry worldwide. The share price of the company is currently at a one and a half year low at $16.45. In the analysis below I have listed five reasons why this company probably should be priced somewhat higher.
Graph: Historical share price of Ingram Micro
Source: Morningstar.com
Reason 1: Low P/B ratio
The price to book ratio is below 1 (0.736). In a vacuum this doesn't make the stock underrated, because it is possible that the book value is inflated and that management might not make good use of the assets. Looking at the below graph it seems that Ingram is "supposed" trade at a discount compared to S&P, nevertheless, a P/B ratio of less than 1 isn't a bad place to start.
Source: Morningstar.com
Reason 2: Decent ROI
Source: Morningstar.com
The negative ROI in 2008 can be explained by an $800 million impairment of assets. The current TTM ROI is 8.135%. Given the B/V ratio this is actually a pretty high value. Think about the relationship between ROI and B/V in this way. If the B/V value is below 1, we would expect the company to produce returns for shareholders below the required cost of equity. If the reported book value assets were inflated, then the ROI would be correspondingly smaller (ROI is calculated as net profit / equity). If assets increase while net profit (and liabilities) are unchanged, then equity increases by the same amount as the rise in assets (this decreases the ROI).
But with a ROI of above 8%, it seems that management is doing a decent job of preserving the value of the invested capital for the shareholders. But of course this depends on the cost of equity, which brings me to my next argument.
Reason 3: Low risk
The beta of Ingram is only 0.77. Assuming a risk free rate of 3% and an expected return on the market portfolio of 8%, the cost of equity is 8.39%. This means that Ingram currently isn't adding economic value to the reported book value of the equity, but neither is it a huge destroyer of wealth. The problem of relying too much on income reported by the management is that they can manipulate earnings (one example of that could be to report revenues too quickly). But the effect of earnings manipulations can be minimized by taking cash flows into account as well.
Reason 4: The cash flows look great
Source: Morningstar.com
The EV/free cash flow of Ingram Micro is 7.95, which is a pretty low number, and to make sure that the EV/FCF ratio is not artificially low due to management not prioritize long-term investments (CAPEX), I am also including the EV/operating cash flow ratio, which is 6.95.
So far it definitely seems that Ingram Micro is an undervalued company because you get a large discount on the book value, even though Ingram is still capable of producing decent earnings and good cash flows. But there is one very important factor I haven't analyzed yet: future expectations!
Reason 5: Double digit expected future earnings growth
Unless analysts are absolutely terrible at estimating future earnings for companies, I think it is fair to say that we can expect positive earnings growth rates for Ingram Micro. In fact analysts expect a 12.5% average growth rate over the next five years for the company. Given the analysts' expectation, I have plotted some numbers into a DCF model.
Assumptions
- Net interest bearing debt (NIBD) = 392.
- Equity = 3273.
- E/V = 0.89.
- Cash = 891.
- Average interest on NIBD (after taxes) = 50 / 392 *0.7 = 8.9%.
- WACC = 0.89 * 8.39% + 0.11 * 0.89 = 8.5%. After 2016 I am assuming a terminal period without any growth until eternity.
- CAPEX is (besides year 2012) estimated by assuming that the historical average CAPEX/revenue ratio will continue in the future.
- Depreciations are (besides year 2012) estimated by assuming that the historical average Depreciation/Capex ratio will continue in the future.
- Working capital is (besides year 2012) estimated by assuming that the historical average working capital/revenue ratio will continue in the future.
Year | 2011 | 2012 | 2013 | 2014 | 2015 | 2016 |
Revenue | 36329 | 40870 | 45979 | 51726 | 58192 | 65466 |
Net earnings | 244 | 275 | 309 | 347 | 391 | 440 |
Change in Working capital | 293 | 239 | -46 | -52 | -58 | -65 |
Capex | -122 | -114 | -92 | -103 | -116 | -131 |
Depreciations | 57 | 80 | 64 | 72 | 81 | 92 |
FCF | 358 | 479 | 235 | 265 | 298 | 335 |
PV(FCF) | 358 | 442 | 200 | 207 | 215 | 223 |
Budget value | 1286 | |||||
Terminal value | 2717 | |||||
MV | 4003 | |||||
Debt | 392 | |||||
Cash | 891 | |||||
Market value of equity | 2721 |
Compare the estimated market value of equity with the current market cap of $2.231 billion and Ingram seems like a great company to buy as an investor. But take the above DCF model with a grain of salt (as analysts possibly could be wrong), estimating the future values of CAPEX, working capital and depreciation is very difficult.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
