Description

Blount International is an overlooked gem of a small-cap industrial trading at less than 8.0x normalized pre-tax un-leveraged earnings and 11x free cash flow, which we think is due to lack of Wall Street coverage and a technical overhang from a major shareholder.  We think this is a cheap price for a company with strong EBIT margins (~15%), good pre-tax ROIC (north of 35%), consistent (and strong) free cash flow generation and a decent outlook for growth.

BUSINESS:

• Blount manufactures and markets cutting chain, guide bars, sprockets and accessories for chainsaw use, concrete cutting equipment and accessories, and lawnmower blades. 
• The industry structure is an oligopoly with BLT enjoying the number one market share with a 50-60% market share worldwide in cutting chain and guidebars and Stihl running a close second. 
• Approximately 20% of the company's sales are to chainsaw manufacturers and about 80% of sales are for replacement chains and guidebars for existing chainsaws; in general, professional loggers need to replace their chains every 5-10 days. 
• BLT has broad geographic diversification with almost 70% of sale outside the United States. 
• Importantly, the number of chainsaws worldwide continues to grow each year and historically the company has enjoyed good pricing power given it's strong market share and brand names.  So, we think the outlook for both units and pricing are solid for this business over time.

DISLOCATION: Recently, there has been some dislocation in BLT's shareholder base.  Lehman Brothers, which as you probably know is in bankruptcy, owned approximately 8.9mm shares (or ~18% of BLT) in a old merchant banking partnership.  Lehman recently sold over 4mm shares in a private placement to a number of accounts through Barclays, which we believe is more related to the Lehman bankruptcy and age of the investment in the merchant banking partnership than due to company fundamentals.  The remaining 4.7mm shares may very well be for sale and seems to be creating an overhang on the stock, which we believe is a short-term issue that is largely technical.

NEW MANAGEMENT:  Also noteworthy is that a new CEO was recently appointed after the existing CEO decided to retire.  The new CEO is Josh Collins, who previously worked at Lehman Brothers and has a long history with the company.  Josh seems very focused on shareholder value and will likely make some bolt-on acquisition with the BLT's free cash flow.  Given his deal-making background, I doubt that he would hesitate to sell the company if a strategic buyer was to offer a fancy price.  In the meantime, we think that he has laid out earnings estimates that he can meet or exceed this year with very easy comps in the first-half of 2010.

VALUATION: We think that BLT's normalized EBITDA is $115mm, which is about $15mm higher than management guidance for 2010 but $5mm less than BLT's 2009 second-half run rate of about $120mm (the business is not that seasonal).  We think that maint capex is $20mm (management says it's $15mm), so we think that EBITDA - capex is around $95-100mm.   With a TEV of $750, the business is trading for less than 8x our normalized pre-tax earnings.  We think the company is worth at least 10x pretax earnings or around $16/share today and could be worth around $20/share in a couple years with some reasonably good operating performance and capital allocation.  At $10.75, we think this entry point offers a reasonable margin of safety.

We own a position in BLT and reserve the right to change our opinion and position in the company without updating the market to that effect.

Catalyst

Lehman overhang gets cleaned up

Guidance seems conservative to us

Little Wall Street coverage