Stimulus: “In the Path of Washington’s Billions”

By Travis Johnson, Stock Gumshoe, March 12, 2009

Tiny Carolina Water Main Company Gets D.C. Check for $18,000,000,000

“Listen up and listen good.

“There’s been so much yakking about the Stimulus it makes my poor head hurt. Why oh why doesn’t somebody just figure out how we can make some real money out of the damn thing?”

That’s how we start the new teaser ad from Nancy Zambell … who probably needs some introduction, since I’ve never mentioned her before. She’s one of the editors over at the Money Show (and, I assume), which is kind of like a traveling roadshow of investment pundits. I see on her profile there that she edits something called UnTapped Opportunities, but its website doesn’t exist and it may be defunct, I dunno.

What she’s selling us today is a “charter subscription” to a new service called Buried Treasure Under $10, and it looks like it’s published by the folks at InvestorPlace, who brought us Louis Navellier, Robert Hsu, and Tobin Smith, among other folks who are perhaps, shall we say, “overexposed” in each of our email boxes. So we may be hearing more from her soon, though her service is not listed on InvestorPlace’s website or anywhere else that I’ve found yet.

Many folks have sent this one in to me, in large part because of the headline high up in the ad: “Gumshoe Investing Works

So of course, this I love. What she’s talking about, unfortunately, is not my favorite kind of Gumshoe Investing, where I get to type away from the happy confines of Gumshoe Headquarters and tell you all about the ideas that folks are touting as their brilliant investing secrets without straying too far from my coffee cup. Instead, she says she’s an “old fashioned” investor … she doesn’t go quite so far as to recycle the cliched claim that she’s got her “boots on the ground” investigating her companies, but gets pretty close …

“What’s gumshoe investing?

“Take Hormel. Lots of analysts, and tons more amateur pundits have an opinion about the maker of Spam. They wield charts, they quote each other, they can even tell you the price of hogs. But until you step inside a Hormel plant, with a hairnet on and boots and walk around and listen to the people on the floor and ask dumb and awkward questions YOUR OPINION IS WORTHLESS TO INVESTORS.

“And probably worse than worthless. Most gurus who talk about Hormel talk baloney!

“I snagged a 45% profit for my subscribers in Hormel recently because I could see that their new home-cooked dinners were going to be a smash.

“But it’s not just that gumshoe investing gets it right on a company like Hormel. It gets it right on a whole WAY to invest.”

She goes on to say on the order form that “my gumshoe investing approach has beaten the market by over 5-to-1 for 25 years.”

Now that we can’t just let fly by — let’s just pause for a small bit of math.

That’s quite a remarkable boast — for the last 25 years (ending on December 31, just to be tidy) the S&P 500 has returned an average of about 8% a year (it was a lot higher than that before last year, of course) — if she’s been pulling in 40% annual returns for 25 years I certainly don’t know why she’s bothering to launch a newsletter right now. If you started 25 years ago with $10,000 and earned 40% a year you’d have something like $45 million right now … of course, inflation means that $45 million won’t be worth as much as it would have been 25 years ago, but boo hoo, it’s $45 million.

And even 30% would have been perfectly lovely — 25 years of compounding 30% returns gets you about $7 million from a $10,000 investment.

So we’ll take that claim with a small grain of salt, shall we? Maybe she has some great investment ideas, I hadn’t heard of her before today and I don’t know … all I know is that she works at the MoneyShow, has some other newsletters, and apparently is also a real estate agent. And she did tout Hormel at least once, about seven years ago when it was around $22, so that has been profitable (it’s around $30 now) … not a millionaire maker, perhaps, but a profitable stock pick.

But I can investigate her water company, and I know there are, well, buckets of folks who are urging us to invest in water-related firms … so she’s certainly not out on a limb here, if I might mix a metaphor.

Here’s our little pile of clues:

“A tiny South Carolina company, unknown, unfollowed and under Wall Street’s radar, is right in the path of Washington’s billions here.

“This company’s stock has bounced around under $4 for a while, but this is a $16 stock that has the fundamentals to sustain an even higher price than that!

“And that’s BEFORE factoring in the effect the Stimulus will have on water infrastructure.

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“I’ve crawled all over this company. I like the Forward P/E near 3, I like the 53% growth over the last 5 years, I love its unassailable niche business model and I’m passionate about insiders grabbing big chunks of stock for their personal portfolios.

“I’ll put this quite simply: you cannot afford to NOT load up on this tiny specialty water mains supplier.”

She also goes on to talk about how happy she is that “her style” of investing is back …

“Water and sewage pipes are boring and the move back to basics has brought such stocks into favor. I love it. No one ever used the phrase “paradigm shift” about a water pipe. Hallelujah!”

The $18 billion number that she throws out in her headline does have a connection to reality, too — that is the amount that the stimulus bill proposed to spend for “clean water, flood control, and environmental restoration” according to reports I’ve seen, and it’s also just about the amount of “infrastructure deficit” that I’ve seen reported in previous years — meaning, that’s how far behind people thought we were in investing in water infrastructure. Not necessarily any direct connection to this particular company, of course.

So what are we dealing with here? Well, despite all the hype the clues are pretty thin on the ground — under $4 at least at some point recently, Forward PE of 3, 53% growth over the past five years. Toss all that into the Thinkolator and we get one likely solution:

Synalloy (SYNL)

What is this company? Well, they’re not exactly a pure play water company — but they are certainly a supplier. They have two main businesses, one of which is primarily focused on stainless steel pipe (the other is specialty chemicals). Water, sewage and energy projects are all big customers for their piping business.

This is what they said about their outlook for 2009, including the stimulus:

“It is possible that the stimulus spending by the Federal Government will fund increased activity in the water and wastewater treatment area which is a significant part of our piping systems’ business. However, the impact from current economic conditions both domestically and worldwide makes it difficult to predict the performance of this Segment for 2009. In spite of this, management continues to be optimistic about the piping systems business over the long-term based on our current bidding activity for projects and our strong backlog, with over 80% of the backlog coming from energy and water and wastewater treatment projects. Management also believes we are the largest and most capable domestic producer of non-commodity stainless pipe and an effective producer of commodity stainless pipe which should serve the Company well in the long term.”

This one does have exactly 53% growth over the past five years, so that’s a nice tight match, and it is a South Carolina company, based in Spartanburg. It has been moving between $4 and $6 or so since late last Fall, and it has dipped briefly under four dollars … and you could reasonably say that the forward PE is “near 3” — at least that’s what it would have been a few weeks ago, according to the one analyst who covers the shares, before that analyst cut the estimate from over $2 to 79 cents a share for next year’s earnings. (That analyst apparently has a $7.50 target for these shares, just FYI).

The current share price is about $4.80 or so. Last year they earned 95 cents, this year they’re expected to earn 66 cents, and they do have a smallish dividend, ten cents a year (2% yield, give or take) — but don’t buy it for the dividend today, it’s paid annually and it’s already gone out for this year.

Last quarter they had their first loss in a while, but it also looks like the fourth quarter is generally their weakest, so I don’t know if that means anything going forward. The company reported that declining income last year (it had been about $1.60 in 2007) was primarily due to an inability to pass through higher costs for raw materials, both in chemicals and in piping.

They’re priced at about half of their book value, and that appears to be real book value (ie, no “goodwill”), most of which is made up of inventory, property, plant and equipment, so who knows what it might really be worth at any given moment, but it is actually real stuff. Unfortunately, that was also a substantial part of their problem last quarter — they were holding a lot of raw materials, particularly in the metals business, and they had to write down the value of that inventory due to the collapse in commodity prices.

And it is certainly indisputable that these guys are tiny — so tiny that it’s a little shocking that they have any analyst coverage at all. The market cap is only about $30 million and net debt is only a few million on top of that. The biggest investor in the company is Jeffrey Gendell, best known for his Tontine hedge funds that had a really awful go last year (I think a couple of them are closing — and as of his last 13F he had cleared a lot of positions out, though apparently he still holds his 7% or so of Synalloy).

So … this seems a likely match to me, though it’s hard to be 100% certain with the limited clues. And there has been a bit of insider buying lately, insiders own about 10% of the company — though the activity has not exactly been feverish, and most of the insider acquisitions have been “non open market” lately, which is another way of saying “pretty much meaningless.” Insiders did sell pretty heavily when the price peaked in the $40s back in 2007, and they were buying when it dipped to the teens, and I’ll go out on a limb and say that yes, the board and management probably think the shares are undervalued.

Synalloy is an interesting company, but also an incredibly small firm that operates in two very competitive global businesses. They got some good news in recent months as the government has backed their claims of unfair trade practices against Chinese stainless steel pipe exporters, which has helped to bring down the level of imports with some fairly stiff proposed tariffs and give them a little more pricing power, but I don’t think the final decision on that trade ruling has yet been made so it’s possible that the tariffs might not stick.

They’re tiny, they make pipe, and it’s true that infrastructure, particularly the decrepit urban water infrastructure in most cities, is likely to get at least a bit of a boost from increased federal spending. Will that mean bright days for Synalloy? That’s your guess to make, let us know what you think with a comment below.

And as always with microcap stocks, do be careful if you decide to buy these shares (after doing your careful research, of course). The bid/ask spread is very large for this one, and the average trading volume is only about $40,000 a day recently, so any one of us who got interested could easily swing the stock up or down.

Oh, and if you’re looking for more water-related stocks the list is endless, and the hype goes on forever — I’ve written about a few of these stocks over the years, from PICO Holdings to Flowserve (a few of those articles are here, FYI).

Many folks have suggested just investing in one of the water ETFs so you don’t have to choose a stock, or you can also mine those ETF portfolios for other good ideas if you’ve got a bit of a thirst. One of the main ones is PHO from Powershares, which seems to mostly be focused on industrial water equipment stocks and utilities (holdings here) and another is CGW from Claymore, which has more of an international focus (holdings here). Performance of those two ETFs has been highly correlated over the couple years that they’ve existed (meaning that they tend to move together, almost in lockstep, despite their slightly different portfolios), but PHO has done slightly better, perhaps because it doesn’t have as much international exposure.

Despite the stimulus excitement, most water equipment stocks are priced like value stocks … but then again, so is almost everything else these days.