NGA

[David Randolph]

The last four stocks I bought for the Main Portfolio, TZOO, NTES, JAKK and VPHM are showing a loss, but I believe that is just temporary. Anyway, I could use buying a stock that goes up not just over the medium/long term, but also over the short term. I believe NGA is that stock:



I know the stock is already up a lot, but the fundamental improvement the company just had tells me there's at least another 50% in the pipe over the short term. NGA also looks like an extremely attractive long term holding for the Main Portfolio.

Q1 2007 results were out on that big gap up day:

• North American Galvanizing & Coatings Reports Record First Quarter 2007
PR Newswire (Mon, Apr 30)

Q1 EPS on a fully diluted basis was $0.28. If we multiply this by four quarters (but there has been growth), we get a full year EPS of $1.12. Since the stock closed yesterday at $11.7 it is trading at 10.4 times conservatively estimated 2007 earnings, which is very attractive, considering the 52% revenue and 115% EPS growth the company is experiencing from 2006 levels.

NGA is still just a $96 M market cap, and it has a good chance of reaching $100 M in revenues and $10 M in net income in 2007, since the net profit margin in Q1 was 10%.

Let me compute those 4 variables so we can get a more clear picture of a legitimate expectation for the long term:

1) Dilution factor

The balance sheet is weak, but it has been that way for many years and they didn't dilute shareholder's value. There has been some dilution lately but that is due to a 2004 stock option compensation plan that granted employees the right to buy 1,250,000 shares at around $2, so they're exercising the right to buy these shares, therefore increasing the share count. Those 1,250,000 options were already exercised, so I don't expect more than 2% dilution factor going forward, since there wasn't any historical dilution prior to 2006.

2) Revenue CAGR

Revenues were $35 M in 2004, $47 M in 2005, $74 M in 2006 and we already got $23.5 M in Q1, so I guess the company has a good shot at $100 M plus revenues in 2007.  Revenue growth was 34% in 2005 and 57% in 2006. I'm estimating just 34% for 2007, but revenue growth in Q1 2007 when compared to Q1 2006 was 52%. I believe I'm being conservative enough if I estimate revenue will grow at an average annual pace of 30% over the next three years, so my revenue CAGR estimate is 1.3.

3) Net profit margin estimate

Net profit margin was 10% in Q1 2007, I'll use this as my estimate for the future, but it can get better, if the zinc price declines, as we'll discuss next.

4) EPS multiple estimate

The Industrial Equipment & Components industry average earnings multiple is 18.36, but NGA is growing about three times more than the industry average. Nevertheless, to be conservative, I'll assume an EPS multiple estimate equal to the industry average of 18.36.

The valuation model results are:



There are two things that I especially enjoy about this stock. The first is its capacity to pass along higher costs to even higher prices to its clients. This means that if zinc (its main input) goes down, the company will increase its net profit margin, because probably it won't lower the end prices as much as the commodity may decline. It is apparent to me that this company has a lot of pricing power.

The second issue that really attracts me to it, given the current difficulty of the Main Portfolio to push to new highs, is that this stock is not just undervalued, it is obvious to anyone that takes 5 minutes to look at it that it is undervalued. You don't have to dig much to see it, it's all over the Q1 results. That's why I expect NGA to quickly correct this undervaluation, at least partially, by rising another 50% over the next couple of months.

The Trading Plan is:

Buy NGA, 6.66% of capital as always.

[Garoh]

Another great pick David

It's really attractive fundemantly and technically ...

keep the good work 

[yukiii]

David, I don't believe they will do over $1.00 in 2007 but more like .75.
Looks like a strong first quarter due to 54% increase in zinc.

(The company's ability to increase average selling prices above zinc cost increases had a favorable impact on operating income. The London Metals Exchange (LME) market price for zinc for the first quarter of 2007 averaged $1.57 per pound, compared to $1.02 per pound in the first quarter of 2006, representing a 54% increase. In the three-months ended March 31, 2007, average selling prices for galvanizing and related coating services were 55% higher than the prior year first quarter. Forward purchases of zinc at prices lower than current market during the first three months of 2006 contributed $915,000 to that period's operating income.)

Puts value at $13.50 will pullback when volume leaves.

[David Randolph]

Zinc is an expense for the company, if zinc price didn't go up, profits would be even higher:

«The Company conducts a service, galvanizing and coating operations, through its
NAG subsidiary. NAG is principally engaged in hot dip galvanizing of metal
products and components fabricated and owned by its customers. All of NAG's
revenue is generated from the value-added galvanizing and coating of
customer-owned products. NAG galvanizes iron and steel products by immersing
them in molten zinc. This bonding process produces an alloyed metal surface that
provides an effective barrier ("cathodic protection") against oxidation and
corrosion from exposure to the elements, for up to 50 years. Additional coating
services provided by NAG include sandblasting, quenching, metalizing (flame
sprayed), centrifuge spinner galvanizing, Corrocote Classic II painting and
INFRASHIELDsm Coating.»

[David Randolph]

NGA made $0.28 EPS per diluted share in Q1 2007. There's no seasonality here, just very strong growth. In Q1 2006 NGA made $0.13, and then $0.58 for the full year, more than the "natural" $0.52 (which is $0.13 multiplied by 4).

So we can realistically expect EPS of $1.10 to $1.20 for the full year 2007. NGA Friday's close was $12.36, so the stock is trading at a forward earnings multiple of about 10.75. I say this rally should take it at least to a 15 forward earnings multiple, and that would mean a $17.25 stock.

There will be pullbacks along the way, but I see this stock at $17.25 in a couple of months and I'll keep on holding it.   

[jos]

N.A. Galvanizing Director Sells Shares
Monday May 7, 3:14 pm ET 
North American Galvanizing & Coatings Director John H. Sununu Sells 96,266 Shares.

[David Randolph]

N.A. Galvanizing Director Sells Shares
Monday May 7, 3:14 pm ET 
North American Galvanizing & Coatings Director John H. Sununu Sells 96,266 Shares.

The SEC form 4 with that information was out on May 4 and it didn't prevent the stock from rising. Maybe he wanted to buy a new house, or give one to a child of his as a marriage present, who knows? Many times insiders sell shares just because they want the money, not because of any fundamental problem with the company. They're always receiving new shares anyway, because of the options compensation/motivation plans.

For example, another director, Joseph Morrow, owns 1.72 million shares of NGA (there are just 8.17 million shares issued and outstanding).

Today is going to be interesting, the candlestick theory says the stock will probably head down, because the candle on the chart below is really bearish, but fundamental analysis says that, despite the huge bull run, the stock is still undervalued, so it should continue to rise. Which theory is going to win this short term battle?

I don't know, but over the longer term, fundamental analysis always wins. As I wrote previously NGA will probably earn something between $1.10 and $1.20 EPS in full year 2007, so it is trading at a forward earnings multiple of just about 11.1. That's too cheap. I say it will trade at 15 times forward earnings over the next few months. That translates into $17.25 price per share. That's where I plan to take profits on NGA and I'll ignore all short term gyrations.

I'll continue holding NGA.

[David Randolph]

Wow, NGA's behavior yesterday was truly amazing. Look what I wrote over the previous update:

Today is going to be interesting, the candlestick theory says the stock will probably head down, because the candle on the chart below is really bearish, but fundamental analysis says that, despite the huge bull run, the stock is still undervalued, so it should continue to rise. Which theory is going to win this short term battle?

I don't know, but over the longer term, fundamental analysis always wins.

Short term traders started selling this stock because it ran up so much so it was "due for a pullback", disregarding fundamentals, but they were wrong, because when the stock started going down fundamental players saw great value and bid the stock up.

I have nothing to add or change to what I said yesterday:

As I wrote previously NGA will probably earn something between $1.10 and $1.20 EPS in full year 2007, so it is trading at a forward earnings multiple of just about 11.1. That's too cheap. I say it will trade at 15 times forward earnings over the next few months. That translates into $17.25 price per share. That's where I plan to take profits on NGA and I'll ignore all short term gyrations.

I'll continue holding NGA.

[kpunarc]

Since your analysis is based on a 3-yr growth rate...isn't it safe to assume that $17 is optimal or i guess considered 'fair market value' in the 3rd year? in other words, why would you expect the $17 to happen anytime soon? just only trying to understand why it's valued at $17 now rather than later...

[David Randolph]

Since your analysis is based on a 3-yr growth rate...isn't it safe to assume that $17 is optimal or i guess considered 'fair market value' in the 3rd year?

No, the "fair market value" in the third year given by my valuation model for NGA is $33.57, which is the final estimated share price.

in other words, why would you expect the $17 to happen anytime soon?

Because, as I've been writing on this thread, the stock is so obviously undervalued at the current market price, when compared to its industry peers. It is a somewhat different reasoning of the usual "follow the model" strategy, that's why I called it "performance boost", not just over the long term, but right here, right now (you can check this over the initial analysis and first updates on this thread).

just only trying to understand why it's valued at $17 now rather than later...

Because Q1 2007 EPS was $0.28 compared to $0.13 in the year ago period, which leads to a reasonable and safe estimate of about $1.15 EPS for the full year of 2007. At $14.6 the stock is trading with a forward earnings multiple of $14.6/$1.15 = 12.7, and that is outrageously cheap for a company that is growing earnings by 100% or more, don't you think?

I say the stock should trade at an earnings multiple of at least 15, immediately. The only thing that makes it so hard to understand is the speed at which the stock price is rising, without any stop for a breather. But, seriously, why should it stop if the fundamental value is obviously superior?

I'll maintain my trading plan of taking profits at $17.25.

[yukiii]

NGA has a history of going for a few days after earningss come out and is run up. It always goes down after till the next earnings release. I am out at $13.50

[David Randolph]

NGA has a history of going for a few days after earningss come out and is run up. It always goes down after till the next earnings release. I am out at $13.50

How come you're out at $13.5? You said the stock was no good when I initially recommended it. If you're going to post the trades you make, do it timely and accurately, or not at all. Thank you.

With the general market breaking down as severely as it did, people holding fat profits in NGA bailed for the exit door, thinking "at least here I'm going to make good money to offset the losses I had elsewhere". I know this course of action, I've done it myself in the past, when I traded less intelligently.

NGA's fundamental value is superior, everybody that makes a few calculus sees that, or else the stock wouldn't have come up so much and so fast as it did. Now there's some profit and loss taking to make, the inevitable consolidation phase, but then NGA will move towards its fundamental value, which I currently calculate at $17.25 (more over the longer term).

I'll keep holding NGA.

[yukiii]

Never said i didn't like it, just that your value was off. I said value was $13.50 not $21.00
Good call on the buy and timing, but not a stock to hold.........

[David Randolph]

Never said i didn't like it, just that your value was off. I said value was $13.50 not $21.00
Good call on the buy and timing, but not a stock to hold.........

Ok, I didn't thought you would buy stocks at $12 plus thinking the fair value is $13.5, but it looks like you do. Congrats on the nice short term trade

In 2006 NGA had EPS of $0.58. In Q1 2007, EPS was already $0.28 on a fully diluted basis, more than doubling from the Q1 2006 EPS of $0.13. Therefore I expect something like $1.1 to $1.2 EPS for the full year 2007.

I believe the Street is in awe with this company because of its immense pricing power. The main raw material it uses (zinc) was up 57% over the last 12 months, but the company raised the prices of its services even more than that without any cooling of demand. This tells me NGA will be even more profitable if $zinc declines, because I'm sure they won't be so fast cutting prices as they were about raising them.

At $14.4, NGA is still trading at 12.5 times estimated 2007 earnings. I say that without a doubt NGA will trade at least at 15 times 2007 EPS, that is, at $17.25, but in fact it should trade a lot higher, because a company that is growing earnings by more than 100% a year can't be valued at just 15 times earnings.

I'm not very interested in owning a galvanizing company for the long term, and that's why I plan to take profits when the stock reaches a more acceptable valuation of 15 times forward earnings. The trading plan remains: take profits at $17.25 if you get the chance, or else keep holding and waiting. 

[Se7en]

David, any idea around which date earnings will be announced?