Description

George Risk Industries (GRI) has $2.75 in cash per share, and is on pace to make $0.42 this year, giving RISKA an enterprise value of 3.6x EBIT.

GRI designs, manufactures, and sells security alarms, pool alarm products, and keyboard products. However, 92% of net revenues comes from the security burglar alarm products. They are a vertically integrated manufacturing company with in-house facilities for tool & die, injection molding, engineering, and production, and the company prides itself on its quality assurance. They have a growing water detection sensor product line, and among their switching and keyboard products is the air traffic control board used by the FAA in control towers.

In general, GRI’s product line and listing of new products, sensors, and switches seems to reflect a company that is investing in itself to maintain the competitiveness and quality of its products. Their expertise in custom design and product modifications, while accounting for a small percentage of their revenue, is evidence of their adaptability and quality assurance for their complete product line.

One question is can this business grow? In their filings, the company mentions continuing to search for a business that would complement existing operations, with the intent to utilize their existing equipment and customer base to increase sales and profits. As might be expected given their large cash balance, they plan to find a business that would require no outside financing. In addition, the company has new R&D projects including a wireless module for pool alarms, a smoke alarm box, temperature sensors, and glass break sensors. This company has been around since 1968, and its founder invented many of the standard burglar alarm switches sold today.

The other question is does it matter whether or not this business grows? Getting back to the valuation: RISKA has $2.75 in cash per share and has made between $0.27 and $0.42 each year for the last seven years, and has already earned $0.31 through the first three quarters of this year. This puts it on pace to earn $0.42 this year, matching last year’s results.

Being virtually debt free, using $2.64 as the Entreprise Value, this gives an EV/E of 6.3. Extrapolating last quarter’s results to complete this fiscal year, RISKA is trading at 7.3 times EV/E, or an enterprise value of 3.6x EBIT. Obviously, if there will be growth, it’s definitely not priced in to this cigar butt valuation.

On Friday, Hummingbird Management, whose principal is Paul Sonkin, announced that they had acquired five percent of RISKA. While Hummingbird mentioned its interest in the company in a Barron’s article last November, it appears that they have been steadily buying shares near its recent price, and is now required to file. The filing states that while the shares were acquired for investment purposes, Hummingbird may hold talks with various parties on a variety of possible subjects regarding ways to increase shareholder value.

Given the attractive EV/EBIT multiple of 3.6, what’s not to like? Well, the caveats are that although this stock has shown consistent earnings, it has no growth in revenues. Further, this stock has been cheaper in the past. From 1997 until mid-2003, the average monthly close was $2.33. Then, it more than doubled. Obviously, it was cheap before, but based on current valuation, it appears to be still quite cheap. Here are its earnings and revenues history:

Year EPS Sales
2004 $0.31 $9.6M (through three quarters)
2003 $0.42 $12.9M
2002 $0.33 $12.8M
2001 $0.38 $13.9M
2000 $0.36 $13.5M
1999 $0.34 $13.1M
1998 $0.30 $11.5M
1997 $0.27 $11.1M

In addition, one distributor accounts for 43% of the company’s sales of burglar alarm products. While loss of this distributor would be significant to the company, this customer has purchased from the company for many years and is expected to continue. As mentioned above, the burglar alarm segment accounts for 92% of revenues. RISKA states that they have five or six major competitors.

Furthermore, according to the latest 10K, that while “there are no known seasonal trends with any of GRI’s products, since GRI sells to distributors and OEM manufacturers, the products are tied to the housing industry and will fluctuate with building trends.”

This is definitely a family business. The CEO, Ken Risk, has been a director and officer since 1976, having operated his own company for about twelve years until taking over after the 1989 death of his father and company namesake, George Risk. Eileen Risk (85 years old) is secretary/treasurer. A new generation is represented by the current CFO.

I’m not unduly concerned about the related party transactions here—the CEO receives a salary of $180,000, and the CFO makes $35,000. The CEO’s mom is a board member, with a related party real estate dealing that provides $25,000 in rental income, mostly from a lease that is represented to be approximately $10/sq. ft., which seems appropriate enough. Plus, there are a few other small items of related party dealings.

All of this is completely outweighed by the fact that the CEO owns 55% of the outstanding stock. With nearly three million shares, it stands to reason that Ken Risk’s primary financial benefit from the company is through the appreciation of its share price.

Absent of obvious catalysts, other than an attractive valuation, what else is to like? I would make a suggestion that given this company’s aforementioned search for an acquisition, it might more sense to simply resume its stock repurchase program. Perhaps it is waiting for its historic valuations to reappear? It currently has 3.1 million treasury shares, and appears to have been quiet for the last two years after buying back 500k shares in 2002. From another angle, it would make sense that the company simply return some of the cash to shareholders. This would have the effect of making the stock appear more attractive to investors who focus on P/E rather then EV/E in determining their investments.

This stock belongs in a portfolio of businesses that would benefit from a management buyout or some other variation of going private, with the usual arguments of saving costs associated with Sarbanes-Oxley, etc. This business has steadily increased its cash and marketable securities as far back as the eye can see, and in the absence of an attractive acquisition, it makes little sense to maintain the current capital structure of the company.

A minor footnote is that the company recently made a small investment in a Colorado limited land partnership as a long term investment. At cost, it was $200,000. While I’ve got no problem with this, on its surface it would seem to be more appropriate as a personal investment rather than an investment for this business. Perhaps a large cash dividend would allow shareholders, including the CEO, to more appropriately fund these real estate investments within their own personal portfolios.

As an investment, I look at this as a fairly straightforward situation, given its low EV/EBIT. I really don’t need much more than 3.6 EV/EBIT, but rather than chanting that figure repeatedly, a good friend suggested an alternative way to evaluate the downside of owning RISKA. A year ago, the company was momentarily delinquent with its required SEC filings, and for three days, had its symbol changed from RISKA to RISKE before once again becoming RISKA. The point? Well, its obvious, the stock is no longer risk-ee.

Catalyst

Attractive valuation of 3.6x EV/EBIT,
Shareholder enhancing alternatives for capital structure.