Description

Stoneridge is a leading independent designer and manufacturer of highly engineered electrical and electrical components, modules and systems principally for the automotive, medium and heavy duty truck, agricultural, and off-highway vehicle markets. They’re the wires and controls to the dashboard.

Clearly automotive suppliers are now under siege for a variety of reasons. The auto industry is currently in a period of production declines. Unions and managements are coming to blows, resulting in a difficult operating environment for car manufacturers and auto suppliers. GM and Ford, most notably, are facing extreme difficulties to say the least, and are doing their best to make their problems their suppliers’ problems.

Just weeks ago we saw the largest bankruptcy in the history of the automotive industry. That’s when you look for babies being thrown out with the bathwater. We believe we have one in Stoneridge.

Stoneridge is scaring investors in the wake of the Delphi bankruptcy and general mayhem surrounding General Motors, amidst a meltdown in small cap stocks that disappoint. Stoneridge reported a quarter yesterday that was free cash flow neutral, which was all we as investors were hoping for. But it disappointed somebody and the stock dropped hard. It is now back near the lows it hit in June on technical selling after being taken out of an index.

On the previous (2nd) quarter conference call management stated frankly that they considered the stock too undervalued – at 10 – to use as an acquisition currency. We would agree. We think its worth at least 12. At least.

At the current price of 7, the market capitalization is $162 million. Free cash flow over the last five years has averaged in the neighborhood of $40 million a year. Lets take out some stuff and be conservative and say $25 million a year. That’s our number. Cash flow has been fairly consistent, considering the industry.

This year is going to be in the range of break-even for a variety of factors, some internal and some macro, but most short-term and fixable.

They have $200 million of debt and $45 million of cash on the September 30th balance sheet. Not ideal, but not threatening either.

What makes Stoneridge different from your next auto parts bankruptcy?
1) They’re non-union. No UAW.
2) Pension obligation is $20 million, slightly underfunded. That’s not an issue for Stoneridge though it is what killed Delphi.
3) Stoneridge has heavy insider ownership – 42% of the common shares.
4) Electrical systems and components are not commodity components. Manufacturers rely on Stoneridge to produce electrical systems from the initial stage of development and are usually retained for the life of the model. Furthermore, it’s the electrical system, not something you necessarily want to take the low-bid on.
5) They’re not overly weighted to big 3 domestic auto. GM accounts for somewhere between 10 – 17% of sales. (The numbers are not clear due to the relationship with Delphi.) Heavy and medium commercial trucks makes up the majority of Stoneridge’s business. Stoneridge isn’t as exposed to GM or F as other suppliers are.

We are not arguing by any means that this is the greatest business in the world. But it just might be among the cheapest.

Catalyst: Industry consolidation. We think the stock either goes up 50%+ by itself or it gets taken over.

Catalyst