Description

Kadant Inc. is a small capitalization stock with a market cap of only 170 million. The company formerly known as Thermo Fibertek was spun off from its parent company, Thermo Electron, on August 8, 2001 as a dividend to Thermo Electron shareholders. The company competes in the unglamorous business of paper-recycling equipment. The machines that they make products for are used to convert wastepaper into graded quality recycled paper. Their core business includes products that are primarily used for stock preparation such as de-inking, screening, and cleaning systems. They also make the blades that are used to cut the paper rolls prior to distribution. These blades are particularly important for their recurring sales due to the continuous nature of the replacement process. All of Kadant’s products in the recycling equipment area are known by the industry as first rate. Their low cost relative to total equipment expenses of the paper companies prevents them from being hurt in a down cycle of reduced capital expenditures. For example, a paper machine that costs 200 million would only require roughly 4-6 million in Kadant products. Thus paper companies tend to go with the known leader rather than skimp on such a small relative expense.
Within the recycled paper equipment market, Kadant is the number two player with about 30-35% market share. Its main competitors in the space are Metso (#1) and J.M. Voith AG (#3). About half of their paper revenues come from stock preparation. 35% comes from accessories such as the blades. And the final 15% comes from recycling water from pulp slurry to produce fiber. In addition, no Kadant customer accounts for more than 3-4% of revenue.
While the paper recycling business is extremely consistent and profitable, the real upside for the company comes from their fiber-based composite building product subsidiary. Within this subsidiary, Kadant converts byproducts from papermaking into building products for such uses as decks, fencing, and roofing. The material is extremely tough and durable and replaces other building materials such as tile and wood that are currently used. Kadant has been investing in this area pretty heavily for the past few years, and the rewards from their investment are not far off. They are starting to receive orders for the building product, however, it only accounted for 7-8 million in revenue for the past year. Higher than expected expenses in this area have led to reduced earnings in the short term, but the future is extremely bright.
By virtually every valuation or growth measure this company looks attractive. With a price/earnings ratio of only 15 and long term growth rate of 20%, the company is cheap. They have no short-term debt and more cash than long-term debt. With 2001E EBITDA of 29.2 million and a TEV of 175 million, their TEV/EBITDA is equal to 6. And at $13.90/share, the stock trades at less than its book value of $14.23/share.
KADANT
VALUATION

KAI

Stock Price $13.75
52 week High 25.00
52 week Low 13.51
% off high -45%
% off low 2%

Shares Outstanding 12.3

Market Capitalization 169
Float 12
Short Interest 0.00
Short/Float 0.02%
Avg. Daily volume (in 000s) 3

Dividend 0.00
Yield 0.0%

Book Value 14.23
Price/Book 1.0
Tangible Book Value
Price/Tangible Book

Fiscal Year

I. P/E VALUATION
Earnings Per Share (CY)
1999 1.15
2000 1.20
2001E 0.82
2002E 0.93

Price/Earnings 1999 12.0
2000 11.5
2001E 16.9
2002E 14.8

Goodwill on Balance Sheet 118
Annual Goodwill amortization/share 3.0
per share $0.17

Cash EPS 2002E $1.10

Price/Goodwill adjusted Earnings 2002E 12.5

Earnings Growth
1999 to 2000 4%
2000 to 2001 -32%
2001 to 2002 14%
3 year growth rate -7%
2001 PE/3 year growth rate (2.47)
FC LT Growth 20.00%
2001 PE/FC Ltgrowth 0.84

II. ENTERPRISE VALUATION
7-Jul-01
Cash/ST Investments 166.7
ST Debt
LT Debt convt 2004 154.1
Preferred/Other 0.3
Net Debt 4.7
Market Cap 168.8
Total Ent. Value 173.5
net
EBITDA(MM) 1999 33.5
2000 33.9
2001E 29.2
2002E 32.2

TEV/EBITDA 1999 5.2
2000 5.1
2001E 5.9
2002E 5.4

Catalyst

The recent events with this stock make it particularly attractive. Prior to its spin off from parent company Thermo Electron, only a little over a million of its shares were being traded publicly. Now that Thermo Electron has spun off its 90% ownership to its shareholders as a stock dividend, the float has been increased to 12.3 million shares. It is possible for the stock to have some short-term weakness as many Thermo Electron shareholders choose to sell their stock of the small cap stock once they realize that they have received it as a dividend. However, the increased float should make the stock much more attractive to institutional investors in the long term. And while this spin-off will act as a short-term catalyst, the long term is almost limitless with the potential success of the new composite building product business.