Description

Noble is a tier one automotive supplier that deals primarily in supplying laser-welded blanks.  This technology involves using advanced welding technology to piece together different thicknesses of steel, so that a structural element or body panel is as light as possible while still maintaining its engineering integrity.  In an age of increased focus on fuel efficiency, this technology is being adopted at an ever-increasing level, and Noble is the dominant global player.

Noble was formed by the merger of its core domestic laser welding business, Pullman Industries, and Arcelor Mittal’s European laser-welding operations.  Please see Majic06’s writeup from 9/5/07 (self-rated a 10, so it’s got to be good!) for a more thorough background.  Arcelor took cash and stock in the transaction, with the stock portion equal to roughly 40% of the company at roughly $18 a share.  The chairman, as part of the transaction, had a put agreement in place so that he could sell his 10% of the company to Arcelor if they grew to dominate the strategic direction of the company.

While the company is not highly leveraged, it had some restrictive covenants in its bank debt.  In order to buy itself some breathing room, the company decided to secure some financing to pay down its bank borrowings, and so recently it obtained a $50 million convertible note from Arcelor with a 6% coupon and a $15.75 strike price.  This action was enough to give Arcelor de facto control of the company, and so the chairman exercised his put to sell his shares at $14.

Arcelor has now invested $220m in stock and $65m in subordinated debt in the company, which we believe shows their commitment.  Conversations with upper-level Arcelor management have confirmed this, if there were any lingering doubt.  For a company that sells a lot of steel to automotive manufacturers, technologies that make steel more competitive with substitute products (such as aluminum) are vital.  Arcelor’s average investment price has been roughly $16, and yet the stock trades at around $6 a share.  While there are certainly disadvantages to being minority shareholders, the global access that Arcelor, as the world’s largest steel company, offers Noble to its automotive customers, is a distinct advantage.  In addition, while Arcelor has maintained many minority investments in companies throughout the world, frequently this is the result of local regulatory requirements, and the number of majority-, but not wholly-, owned subsidiaries is de minimus.  Thus, we believe that Arcelor could easily purchase the rest of Noble at the appropriate juncture.  There is of course the possibility of a take-under, but this is not Arcelor’s standard practice, and would only save $30-50 million for a $165 billion enterprise.

The global, and especially North American, automotive environment is weak and weakening.  Nonetheless, in November, Noble gave free cashflow guidance of $2.50 a share.  This was revised to $1.50/share of operating free cashflow and $.50 from working capital last month.  We believe that the original level of free cashflow is highly achievable assuming a normalization of automotive markets in the next three years, further gains in expense rationalization and rapid sales growth in China and India.  As such, we believe that the equity is dramatically underpriced at 4x FCF, as it could trade to 10x FCF, or $25, at some point in the next three years, for a potential 300% return.  Our downside is protected by the fact that senior debt/EBITDA is a manageable 2x, the company’s expense structure will allow it to remain free cashflow positive in all but the most drastic downturns, and Arcelor has shown its ability and desire to support the company should further support be required. 

Catalyst