Why Ingram Micro Is Too Cheap

| About: Ingram Micro (IM)

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

Click to enlarge

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.

Click to enlarge

Source: Morningstar.com

Reason 2: Decent ROI

Click to enlarge

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

Click to enlarge

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 (MUTF: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

  1. Net interest bearing debt (NIBD) = 392.
  2. Equity = 3273.
  3. E/V = 0.89.
  4. Cash = 891.
  5. Average interest on NIBD (after taxes) = 50 / 392 *0.7 = 8.9%.
  6. WACC = 0.89 * 8.39% + 0.11 * 0.89 = 8.5%. After 2016 I am assuming a terminal period without any growth until eternity.
  7. CAPEX is (besides year 2012) estimated by assuming that the historical average CAPEX/revenue ratio will continue in the future.
  8. Depreciations are (besides year 2012) estimated by assuming that the historical average Depreciation/Capex ratio will continue in the future.
  9. 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

         
Click to enlarge

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.