PSB Monthly Issue November 2011
November 2011
CAN LEAD THE WAY TO BIG PROFITS
How can you tell when the economy is getting better?
There are many statistics to look at… and most investors have their personal favorites. Some metrics are forward looking (leading indicators) such as initial jobless claims. Others are backwards looking, like GDP.
Here’s one we like… industrial metals.
Base metals, like copper and aluminum, are considered good leading indicators of economic activity.
It makes sense if you think about it.
Industrial metals are key components in construction, electronics, automobiles… just about everything making the economy tick.
So, rising demand for industrial metals should precede an increase in production in those important industries.
Here’s the thing…
There’s an essential industrial metal you’ve probably never considered… zinc.
Believe it or not, zinc is more than just an ingredient in your daily multi-vitamin. Zinc is also an important ingredient in steel.
You see, 50% of zinc supplies are used for galvanizing steel to prevent rusting. And since steel is a vital component of so many things, it makes zinc a very important commodity.
So what does it mean to you?
The thing is, zinc is often ignored by the media. Other base metals, particularly copper, usually grab the headlines. When economic conditions improve, you’ll sometimes see recommendations to buy copper companies.
But zinc rarely, if ever, gets mentioned.
Most investors don’t ever know zinc producers exist. And that’s a shame. With the global economy on the mend, there could be significant upside potential in unnoticed zinc companies.
That’s why we’re recommending Horsehead Holding (NASDAQ: ZINC).
Name: Horsehead Holding Ticker Symbol: ZINC Market Cap: $366 million Recent Price: $8.68 PSB Rating System 4.7 Stars Raging Revenue: (4.5 stars) Last quarter’s revenues dropped a bit due to hedging activities. However, minus hedging, quarterly revenues grew 12.7% year over year. Annual revenues are projected to grow over 8% in 2012. Beautiful Books: (4.9 stars) The balance sheet is strong with $130 million in cash and very little debt. Management is using the strong cash position to expand. A cutting edge $350 million plant will come online sometime in 2013. Stellar Structure: (4.7 stars) Insiders and institutions own a whopping 96% of outstanding shares. Clearly, the smart money has faith in the company’s future. Valuation Verification: (4.7 stars) ZINC is significantly undervalued. Based on our valuation analysis, we think the stock is worth at least $17.98 a share. That’s upside potential of 107%. Meaningful Milestones: (4.5 stars) The company gets 73% of their raw materials from recycled zinc. Because of this, they’re able to market themselves as a “green” company. |
THE INDUSTRIAL METALS BUSINESS
ZINC is a leading producer of specialty zinc and zinc-based products. The company is one of the largest – if not the largest – zinc producer in North America. Their products are used in the galvanizing of fabricated steel products and as components in rubber tires, alkaline batteries, paint, chemicals, and pharmaceuticals.
One of the interesting points about ZINC is their intensive use of recycled zinc. In a nutshell, the company extracts metal from dust created in the steel manufacturing process. This extracted metal accounts for a whopping 73% of ZINC’s raw materials.
So what’s so great about recycled zinc?
For one, it’s cheaper than purchasing fresh raw materials. And it’s considerably better for the environment. (This allows manage-ment to market ZINC as a “green” company.)
Moreover, the company’s expanding on their low cost, environmentally friendly business model. They’re building a $350 million state-of-the-art zinc production facility which should be ready sometime in 2013. The new plant should lower variable costs while allowing the company to expand production. Of course, lower costs and greater production means greater profitability.
In fact, the facility is expected to generate$90 to $110 million per year in EBITDA. That’s exactly the sort of capital investment a growing company should be making.
But that’s not all…
ZINC management is actively hedging their zinc exposure. This is important for a couple of reasons.
First, it’s a sign of a savvy management team. Smart companies shouldn’t be gambling on the cost of raw materials… they should be focusing on developing and selling their products. By hedging, management is reducing uncertainty and emphasizing their strengths.
What’s more, ZINC’s hedging activity has led to the shares being undervalued.We’ll get into more detail later, but basically, hedging activity is masking revenue and income growth.
And finally…
Not only is the company growing, but the zinc market is set for a significant surge in demand as the economy improves. For instance, China’s soft landing means the country is going to need boatloads of zinc in the coming months for their massive construction needs.
All in all, the future looks very promising for ZINC.
Now let’s take a closer look at the financials…
THE NUMBERS
ZINC’s financials are solid across the board, although it may not appear so at first glance.
In the most recent quarter, revenues came in at $95.8 million, a small 2.8% year over year decline. Meanwhile, net income dropped into negative territory. However, we’re not worried.
As I mentioned above, hedging activities actually masked the company’s growth. In fact, both revenue and income dropped year over year due to hedging. Take out the hedging and revenues grew 12.7% year over year and income climbed 10.5%.
That’s not too shabby in a struggling global economy!
More importantly, the “negative” quarterly results mean ZINC shares weren’t attractive to investors, who took the numbers at face value. And that’s great news for us. (Not to mention, the company’s hedging is mostly taken care of until 2012 and 2013.) It gives us a chance to get into ZINC at bargain prices.
Even better, the company’s balance sheet is in great shape.
ZINC is sitting on nearly $130 million in cash. And they have virtually no debt. Plus, their current assets are a robust 3.5x current liabilities. Clearly, management is maintaining a financially sound company.
Let’s take a look at a few investment risks…
INVESTMENT RISKS
As with any investment, ZINC has a few risks.
A severe global economic slowdown could reduce overall demand for ZINC’s products. Lower demand could lead to lower revenues.
Another risk is a big drop in the price of zinc. While ZINC’s raw material exposure is mostly hedged, there is still some risk from a steep decline in zinc prices.
Finally, a jump in interest rates could impact the company’s bottom line. Higher interest rates could make the company’s borrowing costs more expensive.
POTENTIAL RETURN OF 107% OR MORE
Despite the company’s promising future, ZINC is trading at a nice discount.
As of this writing, the shares are priced at just 1.07x book value. In other words, the market is barely pricing in any future growth. Meanwhile, analysts expect ZINC’s earnings to grow by 59% next year and 10% per year over the next five years.
Clearly, there’s a huge disconnect.
Not to mention, the industry’s average price to book ratio is a much higher 2.75x. That means if ZINC trades up to the industry average level, the shares will have surged a whopping 157%.
At the minimum, we expect ZINC to climb back up to the 52-week high of $17.98… an impressive 107% increase from the current price.
Based on our analysis, we see the stock trading up to at least $17.98. Grab your shares of ZINC now for potential gains of 107%!
ACTION RECOMMENDATION
BUY Horsehead Holding (NASDAQ: ZINC) up to $9.50 per share.
Recent price is $8.68.
Use a stop-loss of $7.00 on this position.
Don’t forget your position sizing and stop-loss rules.
We’re living in volatile and uncertain times. The EU is grappling with a sovereign debt crisis that threatens to destroy it and throw Europe into economic recession. And here in the US, we have our own debt crisis to deal with as our economy struggles to avoid slipping into recession.
These events certainly make it a challenge to invest successfully.
But the way I look at it… uncertainty breeds opportunity. Surprisingly, the opportunity is not in blue chip stocks or mega cap stocks. In fact, the opportunity is in low priced growth stocks.
Here’s the thing…
In today’s uncertain times, companies that continue to be innovative are best positioned to excel at the expense of their competitors. Small innovative companies have the opportunity to shine even in the eye of an economic hurricane.
However, during periods of economic uncertainty, one school of thought is to scale back on investment in research and development (R&D). The idea is to conserve cash until market conditions improve.
But there’s another way of looking at adversity… as a growth opportunity. You see, a few smart companies use times like this to invest in their business. They continue investing in R&D and innovating while others are being defensive.
One small company investing heavily in R&D right now is Kopin (NASDAQ: KOPN). And for good reason. This pint-sized technology firm has just invented a revolutionary product that could change the landscape of the entire computer industry.
Let’s take a closer look at this fascinating company now.
Name: Kopin Ticker Symbol: KOPN Market Cap: $260 million Recent Price: $4.05 PSB Rating System 4.7 Stars Raging Revenue: (4.5 stars) Revenues are expected to grow 8% in 2011. But then they’re expected to surge 19% in 2012 to $154 million. Beautiful Books: (5.0 stars) The balance sheet is rock solid with $111 million in cash and no debt. Manage-ment is using the strong cash position to create new innovative products. Stellar Structure: (4.6 stars) Insiders own a reasonable 5.65% of shares outstanding. But institutional ownership is an impressive 58%. Institutions are clearly confident in the company’s military contracts and innovative products. Valuation Verification: (4.7 stars) KOPN is significantly undervalued. Based on our valuation analysis, we think the stock is worth at least $8 a share. That’s upside potential of 98%. Meaningful Milestones: (5.0 stars) The company’s Golden-i won the “Best In Show” award at the World Future Society conference. |
THE CYBER DISPLAY BUSINESS
Kopin produces lightweight, power-efficient, ultra-small liquid crystal displays. More than 20 million of them are shipped yearly for a variety of consumer and military applications including digital cameras, personal video eyewear, camcorders, thermal weapon sights, and night vision systems.
In addition, Kopin makes a variety of unique semiconductor products. These products help to enhance battery life, talk time, and signal clarity. And they’re being integrated into billions of wireless handsets and other WiFi products.
Now, here’s the best part… Kopin just invented a product that will blow your mind!
But before I say more… let’s zero in on the military division… the company’s major source of revenue. You see, this critical revenue funds Kopin’s large R&D budget for other products.
Here’s the deal…
Kopin’s LCDs are the display of choice for advanced night vision goggles and thermal weapon sights. As such, sales of these LCDs to the US military account for 20% of the company’s annual revenue.
And business continues to roll in.
Just this past June, the military awarded Kopin a new $23 million contract. It’s a follow-on order for display systems used in the US Army’s thermal weapon sight bridge program.
Not bad for a small company!
But here’s where the story gets exciting. Kopin recently developed a true game changing product… The Golden-i!
The Golden-i is a technical marvel. This amazing device is a wireless, voice-activated, hands-free headset used for mobile computing. It’s a power-efficient product revolutionizing the way people around the world use computers.
Here’s how it works…
The Golden-i is a headset computer straight out of a science fiction movie. The device fits over your head like a pair of goggles. It then allows you to virtually control your desktop or laptop computer with simple hand and eye movements.
Can you imagine the possibilities? No more lugging around a laptop. And no more being tied to your desktop computer.
Make no mistake, Kopin could be on the verge of fundamentally changing how we use computers. And in the process, changing the very foundation of the computer industry.
Now, let’s take a look at the company’s financials…
THE NUMBERS
Kopin has been growing steadily over the last four years. Revenue is up from $71 million in 2006 to $120 million as of December 2010. That’s a hefty 41% increase in short order.
Net income declined from $19 million in 2009 to $9 million in 2010. But a little short term pain is a small price to pay for the potential long-term gain. You see, the income drop was due to an increase in spending on R&D.
And the heavy spending in R&D is continuing this year. As a result, we’re looking at a mixed forecast for 2011. Revenues are expected to jump 8% to over $130 million. But earnings are projected to drop to $0.05 from $0.10 a year ago.
The good news is this sets Kopin up for huge growth in 2012… which is right around the corner. Analysts are forecasting revenue growth of 19% to $154 million. And they’re expecting a whopping 320% surge in earnings to $0.21 per share.
What’s more, Kopin sports a rock solid balance sheet.
The company’s sitting on a cash hoard of $111 million. They have zero debt and current assets are 8x current liabilities.
KOPN is clearly in sound financial shape.
And let’s not overlook an important fact. Kopin’s best quarter historically is still yet to come. If they can beat estimates, it would provide a nice tail wind going into 2012.
Now, let’s look at some risks…
INVESTMENT RISKS
Unlike many investments, Kopin has only a few real concerns.
One concern is more severe global slowdown could spark cuts in military spending. And a drop in military spending could hurt Kopin’s revenue growth.
Another risk is the new Golden-i fails to generate significant demand. Low demand could impact Kopin’s business.
Lastly, a competitor could develop a product similar to the Golden-i. However, at this point, we don’t see any other competitors in the market.
POTENTIAL RETURNS OF 98%
Kopin is nicely undervalued.
At a recent price of $4.05, KOPN is trading about 24% below the recent 52-week high of $5.22. But the shares are 32% from their 52-week low of $3.07. Kopin is clearly on the upswing.
Nevertheless, this stock is still cheap.
Right now, the company has a book value of $2.61 per share. That puts the stock’s price to book ratio at a low 1.55x. That’s well below the tech sector average price to book of 4.2x.
No question about it, Kopin is cheap on a price to book basis.
If the company’s price to book ratio moves up to just the industry average, we should see the stock trade up to $8 a share. That’s a potential gain of 98%!
And that’s not all…
Kopin is a juicy takeover target…
The company has been working closely with several tech giants on perfecting the Golden-i. Companies like Microsoft (MSFT), Motorola (MSI), and Texas Instruments (TXN) just to name a few.
Given the huge profit potential of the Golden-i, we wouldn’t be surprised if one or more of these blue chip tech companies offered to buy Kopin. Let’s face it, with $56 billion in cash, Microsoft could just write a check.
Of course, a takeover would likely send Kopin shares skyrocketing. And if a bidding war breaks out, shareholders could cash in big time.
Based on our analysis, we can see the stock trading up to at least $8.00 per share. Grab your shares of KOPN now for a potential gain of 98%.
ACTION RECOMMENDATION
BUY Kopin (NASDAQ: KOPN) up to $5.00 per share.
Recent price is $4.05.
Use a stop-loss of $2.00 on this position.
Don’t forget your position sizing and stop-loss rules.
- Despite a challenging month for stocks, Web.com (WWWW) is on the rise. In fact, our position is up a solid 19% in just under two months. With the recent climb, the shares have moved out of our buy range and we’re moving WWWW to a hold. Hang on for bigger gains ahead.
Category: PSB Monthly Issues
