Description
PREAMBLE
Pardon me if I Zeke (newer members, that's hip, in-group slang for "Re-VIC"), but I can't resist sharing my enthusiasm for Reinhold at these prices.
RNHDA has been written up twice before, once by tim321 and again by me. Here are the links:
Tim: http://www.valueinvestorsclub.com/value2/Members/view-thread.asp?id=1374&view-idea=t
Me: http://www.valueinvestorsclub.com/value2/Members/view-thread.asp?id=1532&view-idea=t
Reviewing the prior submissions and discussion wouldn't hurt, although it's not necessary. To quote from my writeup (sorry, Tim!):
"Briefly, Reinhold ( http://www.reinhold-ind.com/ ) is a micro-cap mini-conglomerate composed of of nano-cap companies that have something to do with composite materials. It currently makes money from a long-term contract to help keep the MinuteMan III operational, and from a sub in the UK that makes personal and vehicular armor. It's effectively controlled by HKW, a private equity firm ( http://www.hkwinc.com )."
Since then, the company divested a money losing subsidiary, instituted a $2 regular dividend and paid an $11.75 special dividend funded in part by taking on ~$28MM in debt.
The stock has tanked hard over the last month (which I attribute to pressure from shareholders who bought after the announcement of the regular dividend and were waiting for long-term capital gains status) and _real_ hard over the last couple of days on news that they're selling NP Aerospace, the "sub in the UK that makes personal and vehicular armor" for $54MM. The most recent tankage is extremely silly, and I think you should take advantage of it, even if only in your personal account.
The remaining subs are: Aerospace, which makes ablative and other composite structures for the defence industry; CompositAir, which makes seatbacks for commercial airplanes; and Commercial, which makes lighting fixtures among other things.
NUMBERS, PLEASE?
I'm going to steal Grant387's estimate that net proceeds from the sale will be $47MM. After retiring the debt issued to fund the special dividend, we see:
Market Cap: $63MM
Cash: $24MM
EV: $39MM
Pro-forma 6 month EBIT, annualized: $3.7MM
EV/EBIT: 10.5x
Well, 10.5x EBIT doesn't sound like a bargain, which is maybe why people are dumping the stock. But let's exhale and make some adjustments:
1: There's $3.2MM of "unallocated corporate" expense in here (I imagine but haven't confirmed that this includes interest expense). But the whole company or any part is up for sale. On a sum-of-the-parts basis, we could exclude this. If you're not comfortable with that, some chunk of this will go away after the NP Aerospace sale -- having foreign subs in a Sarb-Ox world must cost _something_. On a break-up basis, we've got $5.3MM in EBIT.
2: We're counting $900k in losses from CompositAir, the seat-back sub. If the company could, I don't know, figure out how to give this division away, breakup EBIT would be $6.2MM.
3: This is a micro-cap with lumpy earnings. Three year average segment EBT is $7.6MM. If you deduct $1MM for corporate overhead, we get $6.6MM pre-tax earnings on an ongoing basis.
I'm just going to make up a number -- call it $6MM in run-rate EBIT. All of this is coming from Aerospace, which has gross margins approaching 50%. I think 6.5x EBIT is a darned good price for a company with those kinds of margins.
THE OPPORTUNITY
In the 2004 shareholder letter, CEO Furry said:
"The prospects for sales and earnings for Reinhold Industries, Inc. over the next decade are more promising than any I have seen since I joined the company in 1986."
For context, here's the last 5 years revenues and operating income from continuing operations including Aerospace:
Year___________2004____2003____2002____2001___2000
Revenues_______$57,739_$50,295_$41,950_$29,786_$30,971
Op. Income_____$10,679_$10,148_$7,435__$3,030__$4,627
Going back further:
Year___________1999____1998____1997
Revenues_______$39,140_$25,996_$16,232
Op. Income_____$10,783_$6,503__$4,699
There's M&A noise in here that I'm not going to clear up, but it's safe to say that the company has seen some pretty good years.
Given the multiple that it sold for, it's clear that Furry wasn't thinking about NP Aerospace when he said that the view forward is the brightest it's been over the last 20 years. Where else could these promising prospects for sales and earnings come from?
(WARNING! The company does not give out any numbers. Everything you are about to read is a guess.)
Commercial -- This division is a very modest contributor. Furry's talking about using its excess capacity to sell SMC compound on the West Coast. If anything happens here, that'd be nice.
Aerospace -- Furry spends a great deal of time in the last shareholder letter discussing Aerospace. Unfortunately, it's all pretty garbled. But you definitely get the sense that more business is coming, and judging from the top line for the first 6 months of this year, none of it has hit yet. Let me mention one program, the SM-1 refurbishment project. I've gotten confirmation (sorry, I'm not going to source this) that Aerospace will be participating in this, providing aft closures and exit cones for 200 missiles annually over the next 7-8 years. I'm guessing that revenue will be between $2MM and $8MM -- that's unit revenue 8%-33% of what they're getting from the Minute Man III refurbishment. $4MM at 30% pre-tax margins would add $1.2MM.
CompositAir -- This division is currently unprofitable. They make composite seatbacks for the commercial aviation industry. The appeal of composites is that they're lighter and cheaper than aluminum.
Pardon me will I go all Kramer-Mad-Money on you: CompositAir is in absolutely the right place at the right time. We're seeing a resurgence in commercial airplane sales, and the price of jet fuel is going through the roof. Boeing and Airbus are insisting on the use of composites. Here's the two year chart for B/E Aerospace, CompositAir's biggest customer:
http://finance.yahoo.com/q/bc?s=BEAV&t=2y&l=on&z=m&q=l&c=
We're all familiar with the oil story. CompositAir is selling a money-saving product into a booming market. They're definitely going to be doing at least OK for the next few years.
How OK? Well, last peak saw $16MM in revenues and $2MM pre-tax earnings. I'm guessing the potential annual market is at least $50MM. Boeing ( http://www.boeing.com/commercial/cmo/index.shtml ) is calling for 25k planes to delivered over the next 20 years -- at 200 seats/plane, that's 250k seats/year. Historically, the business has been 50% new, 50% replacement. It looks to me like CompositAir was charging about $100/seatback in '99. Multiply and you get $50MM. As a reality check, Reinhold tells us that, "The estimated worldwide market for new and retrofit seatbacks is 300,000 for the year 2000".
There's additional upside if CompositAir can move up the food chain. Again from the '04 shareholder letter:
"One solution that does comport is to make the entire seat structure - legs, frame, beam, and back - of composites. In collaboration with [B/E Aerospace], we have built such a structure. It will be unveiled at the Aircraft Interiors Show in Hamburg, Germany April 5, 6, and 7. We will soon be entering phase one FAA certification testing and expect this program to launch late in 2005. "
I have no way to quantify this opportunity. But high-end airplane seats can sell for $30k.
A final potential bit of upside over the short term is that there's got to be significant backlog of replacement work, and the high price of jet fuel gives airlines (or their bondholders) an incentive to clear this up.
WRAPUP
So going forward, starting with $3.7MM pro-forma EBIT Reinhold could hit $8MM if:
1: A single Aerospace contract works out the way I hope, and
2: CompositAir can return to its last peak.
Obviously things could be a lot better than that, but let's stick with $8MM. If they get there, they'll have doubled earnings from continuing operations. Let's say that's worth an 8x multiple. 8 x $8MM + $24MM = $88MM / 3.25MM shares = $27/share, or 38% from here. If you want to assume that they dividend the excess cash and treat the share-price ex-dividend as your basis, we get $19.69/$13 = 51%. I imagine that they will continue to pay a lower level of regular dividends along the way.
RISKS
1: The CEO and the board might enjoy playing mind-games with shareholders even though there's no finacial incentive.
2: They might decide to shut things down in a price and tax-insensitive manner.
3: The commercial airplane recovery might abort.
4: The stock could trade anywhere between here and the promised land. I have no idea how much they're going to make this quarter -- say, $0.20. The market might ignore the cash and the prospects and put a 10x multiple on those earnings and we'd have an $8 stock.
CATALYSTS
1: Rapid earnings growth over the next few years.
2: Possible large dividend.
Catalyst
1: Rapid earnings growth over the next few years.
2: Possible large dividend.