Description

Ameron International Corporation is a multinational manufacturer of products and materials for the chemical, industrial, energy, transportation and infrastructure markets. Among the products that Ameron develops and markets are protective coatings and finishes for oil and gas equipment as well as pipelines and fittings for the transmission of water, petroleum and petrochemicals. The company also supplies ready-mix concrete and other aggregates as well as producing concrete and steel traffic lighting poles.

Ameron has 4 operating segments:
1) Performance Coatings & Finishes Group which manufactures and markets high-performance industrial and marine coatings
2) Fiberglass-Composite Pipe Group which manufactures and markets filament-wound and molded composite fiberglass pipe, tubing, fittings and well screens
3) Water Transmission Group which manufactures and supplies concrete and steel pressure pipe, concrete non-pressure pipe, protective linings for pipe, and fabricated products (serves primarily the western US)
4) Infrastructure Products Group which manufactures and sells ready-mix concrete, sand and aggregates, concrete pipe and culverts, and concrete and steel lighting and traffic poles (operates exclusively in Hawaii and the continental US).

Each of these segments has a dedicated management team and is managed separately, primarily due to product differences.

Ameron also produces significant equity income from its 5 joint venture companies:
1) TAMCO – operates the largest steel mini-mill for the production of steel rebar in California (50% owned by Ameron)
2) Bondstrand – manufactures fiberglass pipe and fittings in Saudi Arabia (40% owned by Ameron)
3) Oasis-Ameron – manufactures high-performance protective coatings in Saudi Arabia (40% owned by Ameron)
4) Ameron-Saudi Arabia – manufactures concrete pipe in Saudi Arabia (30% owned by Ameron)
5) Amercoat Mexicana – manufactures protective coatings in Mexico (25% owned by Ameron – accounted for on the cost basis)

The company also generates income from providing technical services and receives fees, royalties and other income from several of its joint ventures and licensees which is categorized as other income.

The following table summarizes sales, EBIT, equity income for the 4 segments as well as other income (all in US$ millions) and fully-diluted EPS:

Coatings Fiberglass Water Infrastructure Other Elim Total
2001
Sales $188.8 $106.9 $143.2 $113.8 - ($1.3) $551.4
EBIT $9.8 $12.1 $29.0 $13.1 ($15.3) - $48.8
Eq Inc $0.3 $2.1 $3.3 - $2.3 - $8.0
Oth Inc $4.6
F.D. EPS $6.89

2000
Sales $186.8 $103.1 $149.4 $112.1 - ($0.7) $550.7
EBIT $7.1 $15.1 $23.9 $17.4 ($17.4) - $46.0
Eq Inc $0.5 $2.7 $3.5 - $6.0 - $12.7
Oth Inc $7.4
F.D. EPS $6.41

1999
Sales $199.4 $95.5 $142.5 $108.6 - ($0.8) $545.1
EBIT $9.2 $12.1 $23.0 $17.2 ($15.7) - $45.7
Eq Inc $0.2 $1.2 $1.2 - $5.9 - $8.5
Oth Inc $7.4
F.D. EPS $5.54

The following table (in US$ millions) summarizes the geographic distribution of external sales:

US Europe Asia Other Total
2001 $413.1 $80.3 $28.5 $29.6 $551.4
2000 $387.5 $79.9 $36.1 $47.2 $550.7
1999 $374.5 $88.8 $38.4 $43.3 $545.1

The following table (in US$ millions, except F.D. EPS) summarizes the latest 9 months’ results as of Aug. 31:

Sales 2002 2001
Coatings $134.3 $143.9
Fiberglass $63.9 $83.2
Water $108.2 $98.7
Infrastruc $91.9 $85.0
Elimin ($0.7) ($0.6)
Total $397.6 $410.1

EBIT
Coatings $5.1 $7.8
Fiberglass $7.4 $9.8
Water $21.3 $14.9
Infrastruc $11.3 $8.8
Corp&Unall ($12.1) ($9.2)
Total $33.0 $32.0

Equity Income $9.0 $5.0
Other Income $2.1 $3.2
EPS $4.36 $4.30

Capital Expenditures
In general, capital expenditures have approximated depreciation charges over the last few years (basically maintenance capex) and are expected to do so in the near future:

Capex Depreciation
2002 E$16.0 $17.8 (9-month annualized)
2001 $19.3 $17.8
2000 $21.1 $17.2
1999 $18.0 $18.0

Latest Results and Events
Ameron’s share price has come under pressure since July amid growing concerns over an economic recovery in US industrial spending and perceived political risk associated with some of the company’s operations (joint ventures) that operate in the Middle East. In addition, Ameron must refinance its principal $150 million revolving credit facility of which $51 million was utilized as of August 31, 2002. This facility expires in April 2003. The company is currently negotiating with its banks to obtain a new credit facility to replace its principal facility.

Despite an overall revenue decline (revenues are down 3% over the first 9 months of the year), EPS increased by just over 1% over the same time period. This EPS increase was due in large part to a 112 basis point increase in gross margin (slight change in product mix), a 32% decrease in interest expense (due to lower interest rates) and an 80% increase in equity earnings from joint ventures (due to a $3.3 million increase in the Saudi Arabian concrete-pipe JV).

Outlook
Despite a cautious outlook for the manufacturing and energy sectors, there have been some positive developments for Ameron, which should help to offset declining sales in these markets. In May 2002, the Water Transmission Group was awarded a $57 million contract to supply steel pilings to repair the eastern foundation of the San Francisco/Oakland Bay Bridge that was damaged during the 1989 earthquake. Production began during Q3, however material levels of sales will be recognized in Q4 and beyond. Furthermore, the Infrastructure Group had higher year-over-year sales in Q3 due to the continued strength of housing construction in the US and military and road construction in Hawaii. This trend should continue as housing starts and new home sales in the US remain strong while military spending remains firm given the current geopolitical environment and recent Republican victory in the US mid-term elections.

Valuation
Ameron’s share price has declined from a peak price of $78 reached in May 2002. EPS in 2002 and 2003 should approximate $7 per share (which approximates cash flow per share after capex and before working capital changes). At a $54 share price, Ameron trades at less than 8x earnings per share. Furthermore, the company trades at less than book value of $57 per share and at tangible book value of $54.

Ameron shares pay a dividend of $1.28 and currently yield over 2%. The dividend should be secure given the firm’s low debt level and high cash flow generation. At August 31, 2002, net debt was approximately $115 million. EBITDA (9 months annualized and excluding joint venture dividends) was $49 million. This calculation understates EBITDA as there is seasonality to Ameron’s earnings with Q4 being very strong and Q1 being weak. However, using this EBITDA, Debt/EBITDA is 2.4x and EBITDA/interest is over 6x. Given these strong ratios, Ameron should not have a problem refinancing its principal credit facility with its bankers.

In addition, not one US analyst officially covers Ameron and therefore its story is not well known. Ameron could also be a takeover target given that management owns less than 1% of the shares.

Once the macroeconomic, political and refinancing risks associated with Ameron subside, the Company’s multiple should return to its historical average of between 10 and 12 times earnings. Multiple expansion combined with nominal earnings growth presents compelling upside potential for Ameron’s shares. Assuming EPS of $7 per share, Ameron could trade between $70 and $84 (using 10 and 12x EPS multiples).

Looking at the downside, assume that $54 represents 10 to 12 earnings. Therefore, the market is assuming earnings drop to $4.50 to $5.50 per share. Even if the multiple stays at $8 and the EPS falls to the $5 midpoint (midpoint of $4.50 to $5.50), Ameron shares would trade at $40, so downside risk is limited.

Catalyst

-Completion of refinancing, reduced political uncertainty in the Middle East, stock buyback