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Corning Is An 800 Pound Gorrilla

|Includes: Corning Inc. (GLW)

Corning (NYSE:GLW) is a $21 billion dollar technology company based in Corning, NY. After hitting a 52 week high of $25, it's stock is down about 27%, underperforming both the S&P 500 and the technology sector. Figure 1 compares the price performance of Corning,Technology Select Sector SPDR Fund (NYSEARCA:XLK), and SPDR S&P 500 ETF Trust (NYSEARCA:SPY) since 2011. Though GLW may face more near-term price weakness, the company is fundamentally sound and already looks attractively priced.

Figure 1

GLW Chart

GLW data by YCharts

Corning is an 800 pound Gorilla

Corning used to be known for its glass kitchen and cook ware. Today, Corning has transformed into an industry-leading glass technology company. Glass doesn't scream cutting-edge technology, that is until you consider it's application.

Corning creates glass products for a variety of uses ranging from life sciences to fiber optics. But it's primary source of income comes from making the glass panels that surround us on things like televisions, monitors, laptops, tablets, and phones. The glass for these high-tech devices have demanding standards for things like size, shape, strength, thickness, and precision. Through decades of research, development, and investment, Corning has developed special expertise, proprietary manufacturing processes, and industry-leading technology that enable it to produce some of the highest-quality glass in the business.

Examples include Corning's development of Gorilla Glass. This specialty product is thinner, lighter, stronger, and more damage resistant than traditional glass panels. It's characteristics make it ideal for mobile devices like smartphones and tablets that are carried around and receive high levels of wear and tear.

In 2012, Corning introduced Willow Glass, designed for the next generation of display devices. Not only is the glass ultra thin and light, but it's actually flexible. Imagine a super-thin, bendable phone or tablet that could be wrapped around your arm. The potential applications are endless and like something out of a science-fiction movie.

Corning's long history of expertise and innovation have positioned it as an undisputed industry leader. According to Morningstar, the company controls roughly 50% of the global glass panel market. The company's size and scale allows it operate more efficiently than competitors and with wider margins. That makes Corning the only 800 pound gorilla in the global glass panel business.

Being leader is not enough

Not only is Corning an undisputed leader, but it also operates in an business with tremendous long-term potential. According to the International Telecommunications Union, there were approximately 400 million internet users in 2000. By the end of 2015, that number is estimated to be 3.2 billion - an increase of roughly 800%, shown in Figure 2.

Figure 2

Number of internet users

Source: International Telecommunications Union

Despite the remarkable growth, that still only represents less than half of the world's population. Clearly, it's only a matter of time before the other half finds its way online. And as it does, we can expect an increasing demand for internet enabling phones, tablets, and monitors. Combined with the ever increasing speed of new product cycles, and Corning is literally facing a world of opportunity.

Some will argue the obvious growth potential and wide margins that Corning enjoys will attract more competition. However, glass panel production is a capital intensive activity. In addition, doing it well requires the type of specialized expertise that took Corning well over a century to develop. At present, Corning has no competition in the US. It's only notable rivals are a handful of smaller foreign firms including Asahi Glass, NipponElectric Glass, and AvanStrate that combined control less than half the market. Corning's wide lead, the significant capital requirements of the business, and the intimidation of an up-hill battle against an 800 pound gorilla for new industry entrants all provide Corning with a durable advantage.

By the numbers

Looking at Corning's numbers and its operating history only supports the company's allure. Corning has demonstrated a long history of strong performance, consistently growing revenues, cash flow, and book value. Over the past decade, the company grew earnings per share at a compound annual growth rate (OTCPK:CAGR) of 16.37%, shown in Figure 3.

Figure 3

Measure 2014 2013 2012 2011 2010 2009 2008 2007 2006 2005
Revenue (NYSE:MM) 9,715 7,819 8,012 7,890 6,632 5,395 5,948 5,860 5,174 4,579
EPS 1.73 1.34 1.15 1.77 2.25 1.28 3.32 1.34 1.16 0.38
CFPS 2.51 2.03 1.81 2.38 2.79 1.79 3.76 1.72 1.56 0.7
TBVPS 13.84 14.02 13.60 13.30 11.95 9.57 8.49 5.97 4.43 3.43

Source: S&P Capital IQ

Meanwhile, Corning also maintains solid financial health with ample liquidity and low financial leverage. The company's most recent financial statements show $5 billion in cash versus $4 billion in total debt. Corning's current ratio and debt to equity ratio are both strong, at 4.71 and 0.22, respectively.

Valuation-wise Corning appears to be trading at a meaningful discount relative to the electronic equipment & parts industry, the technology sector, and the S&P 500. Figure 4 shows a range of valuation measure comparisons based on trailing twelve month data.

Figure 4

Measure GLW Industry Sector S&P 500
Price to Earnings 12.33 24.65 16.77 19.3
Price to Book 1.22 2.93 2.93 2.7
Price to Sales 2.33 18.9 18.19 1.8
Price to Cash Flow 6.79 7.12 7.12 11.7

Source: Reuters, S&P Capital IQ

Clearly, GLW seems underpriced across these measures. To determine the extent of undervaluation, start by considering Corning's average price multiples for the past ten years. Next, adjust each multiple to levels that are more conservative but still reasonable for a company of Corning's quality. Last, use next year's average EPS estimate, and assume that sales, book value, and cash flow (fundamentals) remain flat. The products of those figures yield an average current fair value estimate of $22.77, shown in Figure 5.

Figure 5

Measure 10 Yr Avg Adjusted Fundamental Fair Value
P/E 15.8 13 $1.53 $19.89
P/B 2.29 1.5 $15.67 $23.51
P/S 4.38 4 $6.63 $26.52
P/CF 11 10 $2.33 $20.96

Source: Morningstar, Yahoo Finance

Even with the lower adjusted multiples and conservative growth assumptions, GLW appears to be about 32% undervalued at current prices.

Summing up with risks in mind

Despite a positive long-term outlook, Corning faces a fair share of near-term risks. Corning's business is cyclical and sensitive to economic conditions. Items like flat-screen TVs and smartphones (the indirect bread and butter for Corning) are clearly discretionary purchases.

An apparent slowdown in global growth has hurt the short-term prospects for consumer demand and is likely the primary factor weighing on GLW's price. A wide-spread slowdown may be especially acute for Corning because it derives about 60% of its glass panel revenue from three customers. A simultaneous reduction in demand from these buyers would obviously be very detrimental for Corning.

In addition, Corning earns much of its revenue in foreign dollars -particularly from Asian countries. Exchange rate fluctuations can have a large impact on results. For example, for the six months ended June 30, 2015 Corning's net sales decreased by $163 million compared to the same period in 2014. Much of that was attributable to a $319 million decrease due to the depreciation in the Japanese Yen. Though Corning actively attempts to hedge it's exchange rate risk, the company isn't always successful.

All things considered, Corning remains an attractive long-term buy. Despite the cyclical nature of it's business, Corning has profitably navigated ups and downs for over 160 years. During that time, Corning has also successfully reinvented itself several times over, became an undisputed industry leader, and has consistently grown shareholder value.

Whether GLW faces further near-term price weakness or not, there's little reason to expect that Corning will not continue to perform well in the long run. As such, it's also reasonable to expect that GLW will trade back up to values commensurate with industry averages and it's own underlying fundamental quality. At about $18 or better, GLW looks undervalued and should be an attractive long-term buy.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Additional disclosure: This article solely represents the personal opinions of Victor Lai. Victor Lai is not compensated to write about any particular stock, investment, or topic. None of this information represents advice. Investing is inherently risky and involves the potential loss of principal. You should conduct your own due diligence and/or consult with relevant professional advisors before making any investment decisions.