I’ve ended up with a portfolio that’s pretty heavily weighted in “growth” companies in recent years, but I always find myself a little more intrigued by “value investing” ideas — companies with real fundamental earnings power or undervalued assets that trade at a discount to their growth-ier peers.
So when some readers sent in questions about a way to maybe find some “Value” stocks that are also exposed to what is clearly a high-growth sector, my ears perked up. This all comes from some Stansberry Digest articles that essentially tease their Extreme Value newsletter to try to get subscribers to upgrade — sometimes these kinds of pitches turn into broader promo campaigns to recruit new subscribers, sometimes they stay small, but I often come across some interesting ideas when Dan Ferris and Mike Barrett tease a stock or two. Including earlier this year, when I was probably wrong about my guess but still ended up finding a company that I really like.
So what’s the promise this time? Well, the “secret” bit is that the recent issues of Extreme Value recommended a couple stocks that are tied in to the surge in electric vehicles. I imagine the world will open up and swallow me whole before a stubborn value investor like Dan Ferris buys Tesla (TSLA), and much of the article (from Mike Barrett, Ferris’ partner at Extreme Value) is about the rising level of competition Tesla will face in the future, as conventional automakers begin to get their act together with electric cars, with the general idea being that Tesla’s wild overvaluation relative to other automakers will eventually become a glaring problem for investors. I agree with that, but I also thought Tesla was overvalued at $200… so you probably don’t want to listen to me about that one.
But then we get to the tease:
“… my colleague Dan Ferris and I recently found two great ways to ‘ride the EV wave’…
“Specifically, we’ve identified two little-known companies that are providing key components and equipment to multiple automakers across the EV space.”
OK, so that sounds interesting. We’ve seen plenty of picks and shovels ideas teased as EV-related plays over the years, with auto suppliers and assemblers who have some electrification exposure, like Delphi (now part of BorgWarner (BWA)) or Magna International (MGA) occasionally teased, and I do find those companies relatively interesting… so which ones do Barrett and Ferris like? Might we find some new gems?
These are the clues they drop for the first one:
“… in May, Dan and I introduced subscribers to a supplier with a long history of excellence. It was founded 125 years ago….
“Since at least 2016, for instance, both Honda and Toyota have been major customers. Other key automotive customers of this company include Stellantis (STLA), Ford, General Motors, Nissan (NSANY), and Volkswagen.”
And Barrett says part of the appeal is that most of their parts can be used by either EVs or conventional cars… which is true of a lot of auto part makers, of course, a lot of the parts of a car don’t have anything to do with the engine.
And he drops one further hint about what I guess must have been their May recommendation…
“One of its largest customers (which isn’t an automaker, by the way) just doubled its 2021 sales-growth forecast. The last time this occurred, it translated into two years of accelerating sales growth for our recommendation.”
That’s not a great list of clues when it comes to the auto parts supplier business, sadly — a bunch of automakers were formed in the mid-1890s, a decade after the first Daimler gas engines were built and Karl Benz got his patent for the first vehicle propelled by a gas engine, including Ford, Peugeot, Humber, Duryea, Winton, Olds, Opel, Stanley, Pierce, Rover, De Dion, and probably hundreds of others lost to time, using lots of different kinds of engines and technologies… and most of the major auto parts suppliers were spun out of those automakers or have otherwise been intertwined with them, often having names that go back to that time as well, like Bosch and Morse and Borg. Thomas Edison even patented some electric powertrain ideas back then.
And most automotive suppliers work try to work with most of the large automakers, so although Visteon was spun out of Ford ages ago and Ford remains its most important customer, it also works with almost everyone else in the business. Visteon, Valeo, BorgWarner
BorgWarner (BWA) often pops to mind for me when I’m thinking of auto suppliers, and their oldest predecessor company is Morse Chain, which was founded as Morse Spring back in 1880, building buggy suspensions and chains before moving on to automotive chains (and briefly even airplanes for the army), and was acquired by Borg-Warner in 1928 (that’s interesting to me mostly because I remember the old Morse Chain plant, a landmark in my hometown and by then owned by BorgWarner, changing hands in the early 1980s… but that doesn’t make it a particularly likely match).
But what I think is being teased here by Ferris and Barrett is a more diversified supplier to a lot of industries… Thinkolator’s best match here is CTS Corp (CTS), which was founded exactly 125 years ago and gets more than half of its revenue from the transportation world, mostly by selling parts and components to automotive companies.
So no, I can’t claim any great certainty on this one — the less helpful the clues, the harder it is to be 100% sure — but this is an interesting company, with slow growth right now in earnings and revenue but a strong cash operating profile that’s better than it looks in the headline numbers, leading to buybacks and dividends, and solid exposure to electric vehicles as well as to some other high-growth areas (RF Filters, high-end ceramic components, etc.). It’s also tough to analyze and predict, it’s a serial acquirer of little technology suppliers and has hundreds of very large customers, and that makes it esoteric enough for some value investing guys like this to probably enjoy digging their teeth into the story.
My initial response on this one is “tempted,” mostly because I think they’re lowballing their forecasts because of challenges in the global supply chains for a lot of their products, and because they seem to be very rational capital allocation folks — keeping debt quite low and manageable (less than 2.5X EBITDA), using about 60% of their free cash flow to make more acquisitions to grow the company, and then using most of the rest for buybacks and dividends. The dividend has not grown in the past five years, so that’s clearly not a priority, but it has been steady (it’s only 0.5% or so, not really a major attraction), but they have reduced the outstanding share count gradually over the years.
No nosebleed growth here, but they’re in good sectors, they have good customers and a long-term plan that includes moving pretty intentionally into components that will be in demand for electric vehicles as well as supplying other high-growth areas like 5G infrastructure, medical devices, industrial automation, and defense electronics. Their customer list includes not just all those major automotive manufacturers, but also big names like Nokia, Thermofisher Scientific, Honeywell, ABB, Siemens, Lockheed Martin… you get the idea.
And as our final clue match, which gets me up to that “95% certain” neighborhood that makes me willing to write it up for you…. Their biggest single customer, as of 2019 at least, was Cummins, and Cummins did recently “double its forecast” thanks to improved demand (their biggest business is engines for heavy duty trucks), and they raised their 2021 revenue growth target from 8-12% to 20-24%. Presumably that would help CTS to at least some degree (CTS listed Cummins as providing about 15% of their revenue in 2019), but we’re not talking about a wild impact — that difference alone would account for about a 2% shift upward in CTS revenues.
Add to that the fact that CTS shares did pop higher by about 10% from May 14 to 17, with a volume spike on May 17, and combine it with the knowledge that Extreme Value publishes on the second Friday each month, and that’s further reinforcement for this match. This is probably not a huge newsletter in terms of readership, since the cost is fairly high, so a recommendation wouldn’t necessarily cause a 10% move every time they pick a stock… but when they’ve picked small stocks in the past it has certainly had some impact, and this is a pretty small and sleepy company, with a $1.2 billion market cap, so a newsletter recommendation could certainly cause trading volume to double and the price to pop. CTS also approved a new buyback program on the day before that, so that probably helped as well.
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So color me intrigued, but I don’t know much about CTS yet. I’ll put them on my watchlist. If you’re interested, I’d recommend starting with their June Investor Presentation slides and the transcript from their last quarterly conference call.
But we get a two-fer tease today, there’s also some hinting about Extreme Value’s June recommendation, which apparently was released last Friday… and it’s got a Tesla connection…
“This company got in the door early with Tesla, creating critical solutions for its production of motors, steering columns, and other applications. Now, the company is leveraging this expertise to capture additional opportunities…”
OK. Production volume at Tesla is still not particularly high, so that’s not enough to really drive results for an auto parts supplier… but it’s certainly a growth company, and growth is good.
What other clues do we get?
“During the first-quarter call with analysts in May, the CEO noted that the business is receiving ‘robust’ orders from other EV makers. And on the third-quarter-2020 call back in November, he highlighted EV orders from a ‘large domestic automotive manufacturer’ and the company’s first order from an EV truck startup. Later this year, the company will also launch a marketing campaign targeted at 300 EV contacts to increase awareness.”
That’s clearly inTEST (INTT), those clues come right from their first quarter conference call… and this is a MUCH smaller company, with a market cap of $185 million, so it seems likely that Extreme Value’s attention had much more of an impact, the shares jumped 20% on Monday morning, adding to an extremely strong run the shares have had over the past year as revenue began to grow dramatically out of the downturn they had in 2019 and 2020.
I hadn’t heard of this company before, so here’s how they describe themselves:
“inTEST Corporation is a global supplier of precision-engineered solutions for use in manufacturing and testing across a wide range of markets including automotive, defense/aerospace, energy, industrial, semiconductor and telecommunications. Backed by decades of engineering expertise and a culture of operational excellence, we solve difficult thermal, mechanical and electronic challenges for customers worldwide.
“Our products are used by semiconductor manufacturers to perform development, qualifying and final testing of integrated circuits (ICs) & wafers, front end wafer manufacturing, and for other electronic test across a range of industries including: automotive, defense/aerospace, energy, industrial, and telecommunications markets. We offer induction heating products for joining and forming metals in a variety of industrial markets, including automotive, aerospace, machinery, wire & fasteners, medical, semiconductor, food & beverage, and packaging. Specific products include temperature management systems, induction heating products, manipulator & docking hardware products, and customized interface solutions. We have established strong relationships with our customers globally, which we support through a network of local offices.”
In some ways inTEST is a much smaller competitor for a company that’s in my portfolio, Keysight Technologies (KEYS), another provider of testing equipment and services, and is the kind of company Keysight has been buying up to consolidate the industry over the past decade. That’s not an intent to set a rumor stirring, to be clear, there are lots of small companies in this space and I don’t know which ones might be bought or sold next, it just came to mind as interesting because I was reading some Keysight materials a few days ago.
How do things look now? Well, the big driver of optimism is their growing bookings and backlog numbers that should support pretty solid revenue growth — their customers started revving up early in 2021, it appears, and bookings were up 43% and backlog grew 49% just from December 31 to March 31, after a similarly nice bump up in the previous quarter. That’s encouraging.
Most of their revenue comes from the semiconductor market, which is booming and moving like crazy to meet increased demand right now (sales for that segment last quarter grew 74% year over year). And they are pushing their marketing plan to get more EV-related business, that quote from the investor presentation is that they’re “preparing to launch targeted 3D marketing campaign at 300 identified contacts in EV space to continue driving awareness of inTEST solutions and drive lead generation.” (In case you’re curious about other “hot” sectors, they said something similar about trying to goose the demand for their products in cannabis processing — mostly thermal products and chillers that are used for extraction processes.)
2020 was a down year on the revenue and earnings front, but inTEST seems to think they’ll bounce back well and the first quarter was a nice start. Analysts now expect them to earn about 60 cents a share in 2021 and 99 cents in 2022, with revenue bouncing back with 50% growth this year and then probably settling in at a much lower level. I don’t know what the competition looks like, other than Keysight, but they’re small and pretty nicely levered to a chip industry that’s spending wildly to expand and increase production right now, so that’s a nice backdrop. At $17, then, you’d be paying almost 30X forward earnings for INTT, and that’s a little bit of a leap of faith compared to their historical valuations… but if they can get back to those 2018-2019 numbers and resume their growth trajectory, it may well work out fine.
I find CTS a little more appealing than inTEST, mostly just because of the stability and the better cash flow numbers, but it’s also 10X larger and therefore probably won’t be as exciting. Both are somewhat exposed to the growth in electric vehicles, but don’t have the wild valuations of the direct-play battery and EV companies, so that’s also perhaps a way to get involved with that growth story without paying silly prices. Not bad as a couple ideas to consider, and I’ll do that in the future… for right now, I’ll just watch.
That’s just me, though, and with your money it’s your thinkin’ that matters — interested in a couple somewhat obscure suppliers to the technology and automotive industries? Think the valuation looks appealing here, or would you rather wait until they’re a little less popular? Let us know with a comment below… thanks for reading!
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