Can I interest you in a well-known, widely covered company already full of takeout speculation, trading at a rich multiple that seems utterly inconsistent with its fundamental operating metrics? No?
Then how about a cheap, misunderstood, underfollowed, poorly covered “semi-cap” company in the early and not-yet-appreciated stages of transforming itself into a new animal with compelling growth opportunities? I offer up Brooks Automation to those looking for superior risk-reward situations, cheap optionality, downside protection in the form of a very healthy balance sheet, talented and shareholder friendly management teams, and a juicy dividend, to boot.
A Tale of Two Companies –
Brooks consists of two businesses. The larger of the two operates in the semi-capital equipment space and comprises 90% of the company’s revenue. This business is subject to the vagaries of the semi-cycle and will likely grow at a high single digit CAGR over time. The smaller of the two businesses operates in the life sciences industry and is growing quickly. Mr. Market is currently offering investors a chance to buy BRKS at a multiple appropriate for the semi business alone. He is giving away the life sciences business for free.
Semi Business –
Brooks has developed a leading market position supplying automation tools used in fabs around the world. These tools and robotic components move wafers from point A to points B, C, and D in the process. Brooks’s only competitors in this business are limited to the in-house operations of larger semi-cap firms. No other pure-play company serves this niche of the “subsystem” semi-cap space, and the cost of capital of a new entrant is almost certain to exceed the ROIC available from such an effort. More important, fab managers are so driven to increase their yield that they are extremely reluctant to make changes to a process that runs smoothly. In short, despite some fears that the semi industry is no longer a growth industry, BRKS semi biz is a stable and consistent generator of cash, for which BRKS management has found a very productive use in their life sciences business.
Life Sciences –
Recognizing the diminishing growth opportunities in the semi space, in 2011 Brooks began leveraging its expertise in cryogenics and entered the bio sample storage space. They sell “stores” that allow biobanks, research institutions, universities, and pharmaceutical companies to store and handle biological samples at temperatures well below freezing. Whereas biobanks have historically required the frequent manual handling of samples and opening/closing of storage facilities, Brooks’s stores virtually eliminate the need for manual intervention, as everything is automated. This results in higher sample integrity and fewer sample errors. This industry is quite fragmented, and Brooks is the mkt leader with approximately 15% share.
Capital Allocation –
Priorities for use of cash are as follows:
1) Reinvesting in the business
2) Dividend – Brooks pays a healthy dividend, currently yielding 3.75%
3) Buyback – management currently has no program in place to repurchase shares, which I view as a good thing, as buying back stock would only reduce liquidity
Analyst coverage –
Brooks is currently covered by a few semi analysts, none of whom in my view fully appreciates the power of the life sciences story. I believe management is working to get coverage from a life sciences analyst, which would put the company on the radar of life sciences investors.
The life sciences business is expected to breakeven this quarter and, once it does, I believe investors will begin to look at Brooks on a SOTP basis, which is how I recommend thinking about valuation.
There is no good comp for BRKS’s semi business. Perhaps the best comp is MKSI, which also operates in the subsystems space of the semi market. While MKSI’s margins are a bit higher, I believe the market values MKSI’s large cash balance at significantly less than 100 cents on the dollar on account of their poorly communicated capital allocation strategy. There is no reason BRKS’s semi business shouldn’t fetch a MKSI multiple, but some investors likely apply a slight discount to MKSI’s multiple.
Pro-forma for an acquisition and a divestiture Brooks did during 2014, I estimate the semi business will do roughly $430m in sales in FY14. Apply a 25% discount to MKSI’s multiple and assume all of Brooks’s net debt goes to the semi business and you have a semi business worth a little under $11/share.
Life Sciences –
Management has identified their TAM as ~$1bn by 2018. Make the conservative assumption that they are unable to increase their current market share and that would get them to $150m in revenue.
For multiple guidance, investors will naturally look to ATMI’s recent sale to ENTG. Also in the life sciences space, ATMI was bought for 4x revs less than a year ago. It was also similarly sized and breaking even at the time, but it did not have the market leading position that BRKS’s life sciences business enjoys. For reference, other fast growing life sciences companies trade at 7-9x revs (RGEN and CPHD, for example).
Applying ATMI’s transaction multiple to the 2018 estimate of $150m in revenue and discounting back gets you roughly $6/share for the life sciences business.
Natural buyers for this business include Thermo Fisher, Danaher, and Agilent, though I do not expect management to sell this quickly appreciating asset at this point in its growth trajectory.
Adding it all up gives you a stock worth something in the mid-to-high-teens vs its current price at less than $11/share.
As the life sciences business becomes a more meaningful part of BRKS’s overall sales, I believe investors will begin to pay more attention to its value. Growth of the life sciences business, increased analyst coverage, and positive news flow should serve as relatively near-term catalysts for the stock.
Disclaimer: The views expressed in this note are only the opinion of the author. This report is not a recommendation to purchase or sell any securities mentioned. The data contained herein are prepared by the author from publicly available sources and the author's independent research and estimates. No representation or warranty is made as to the accuracy of the data or opinions contained herein. Readers should conduct their own verification of any information or analyses contained in this report. The author undertakes no obligation to update this report based on any future events or information. Please do your own work.
I do not hold a position of employment, directorship, or consultancy with the issuer. Neither I nor others I advise hold a material investment in the issuer's securities.
Continued growth in the life sciences business (either organic or via M&A)