C&D Technologies Inc. CHP
October 26, 2007 - 4:12pm EST by
glg919
2007 2008
Price: 4.52 EPS
Shares Out. (in M): 0 P/E
Market Cap (in $M): 116 P/FCF
Net Debt (in $M): 0 EBIT 0 0
TEV ($): 0 TEV/EBIT

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Description

Summary

C&D Technologies (CHP) is a small-cap industrial battery manufacturer in the process of divesting assets, de-leveraging its balance sheet, cutting costs and recovering (hopefully) from astronomic increases in the price of its main input, lead.  Much of the asset sales and de-leveraging already has occurred; the company is still in the midst of the cost cutting and addressing the lead increases.  Earlier this week, the company announced the sale of its Motive Battery business unit, the second divestiture this year; this removes a money losing division and allows management to focus on the sole remaining division, Standby Power, which is profitable and growing.

 

When management completes the cost-cutting initiatives by the end of the next year, the company should be producing EBITDA of at least $45MM in calendar 2008 compared to a current adjusted EV of $160MM (adjusted for exercised convertible debt) or 3.6X.  As the company’s financials begin to reflect the cost cuts, I believe the company will be selling at 8X EV/EBITDA or at least $8.90 per share versus a recent price of $4.50 (this include $42MM in cash recently received from the sale proceed of the Power Electronics division earlier this year).

 

Background

CHP is a 100+ year old company whose sales recently had peaked at over $500MM.  This principally was due to 2 acquisitions in 2004 for over $125MM which were consolidated into its Power Electronics division.  That division ultimately was sold earlier this year.  Severely increasing lead prices, expensive and increasing debt loads and a botched acquisition integration sent the share price down to nearly $4 per share from a recent high of $20 per share in 2003.  A new CEO from electronic components manufacturer Kemet and CFO from competitor Exide came in 2005 and began upgrading the senior team and turning things around.

 

New management refinanced expensive debt with less expensive convertible debt, consolidated facilities, sold off 1 of its 3 divisions for $85MM in cash and paid down all non-convertible debt leaving $42MM of cash.  They are now in the process of slashing operating expenses by an incremental $30MM to be completed over 2 years.   Finally, as mentioned above, they just announced they sold off the smaller of the 2 remaining businesses, Motive Power, that has been losing money since 2001 in spite of having revenues of $58.7MM in FY 2007.  Terms were not disclosed and warranty liabilities, which has been a historic problem for that business unit, has been retained by CHP.  For analysis purpose and conservatism’s sake, I assume it is a wash though it is likely to be over $10MM of cash proceeds (a rough approximation after speaking with management).

 

With this backdrop, management is firmly focused on its remaining segment, Standby Power, completing the cost-cutting initiative and stabilizing the business.

 

Standby Power

This business manufactures and distributes lead acid batteries and associated electronics and systems; these products monitor and regulate electricity and provide backup power if the power is interrupted.  End markets include UPS systems (uninterruptible power supply) used for data center rooms which house servers and network hubs, telecommunications equipment, cable TV systems and utilities.  Telecom is their largest market.

 

Their equipment is OEM’ed into equipment made by companies such as Emerson, GE and Mitsubishi.  About 60% of the business is for new projects and 40% is replacement.  Management believes the market for Standby Power should grow 5-6% per year.  The product serves as an insurance policy of sorts for important data servers and vital networks.  While price is an issue, reliability and reputation are very important to purchase behavior.  C&D has an excellent reputation and has been a long time player in the market.

 

Competition

CHP has a leading market share of 26% in Standby Power in the United States.  Enersys (ENS) has 21% market share followed by Exide (XIDE) with 16%.  There are a few smaller players as well.  Strategically, CHP and ENS focus on the upper end of the market and are well known for product development while XIDE is the low cost provider.  XIDE is the only vertically integrated player.  They own their own smelters which gives them a distinct cost advantage.  In spite of this advantage, XIDE has experienced difficulty since emerging from bankruptcy in 2004 and remains heavily levered.  Soaring lead prices aside, pricing has been rational, competitively speaking.

 

Lead

Lead, like many commodities in recent times, has experienced an astronomic increase in price.  Lead started 2004 at roughly 34 cents per pound and currently is quoted around $1.70 per pound.  Three quarters of all lead world-wide is used for batteries.  Consumption in India and China, heavy speculation and a few mine disruptions in Australia and Peru are fueling the boom.  In Standby Power, lead is roughly 35% of COGS which made addressing the increase in lead prices central to the company’s turnaround plan.

 

One part of the plan in reaction to this issue was to get rid of any fixed price contracts.  This move was in response to agreements where the company was not contractually able to tack on increases to reflect price changes in lead.  With the ability to raise prices as the price of lead increases, management believes that price increases will now recoup losses due to lead price increases; however, there is a time lag between cost increases they experience and prices increases they put through to the customer which harm margins in the short term.  There has been very little push back in raising prices in reaction to lead increases, though this was not a common practice in the industry until present management started doing it in 2005.  Everyone in the industry generally has followed suit.  Removing fixed price contracts also has diminished the need for hedges. 

 

The other part of the plan has been to acquire recycled lead and use a third party to smelt it thereby moving up the value chain to gain cheaper finished lead (this creates an all-in price of 70-80 cents per pound versus $1.70).  Currently, they are satisfying ~30% of their lead needs with a goal to get to 50%. 

 

Analysts are expecting a modest supply surplus in 2008 and they anticipate prices will return to the $1 per pound range.

 

Cost Cuts

Management put forth a plan earlier in the year to cut $30MM of costs (it was $25MM-$30MM at first though they recently affirmed a $30MM target).  The plan is expected to take all of calendar 2007 and 2008 to implement.  Approximately $7MM of the cuts come from sourcing cheaper lead via the acquisition of recycled lead as described above.  Improvement of product design is expected to create ~$12MM of savings through more efficient design.  Finally, manufacturing improvements should be worth ~$11MM.  This includes consolidating facilities as well as the opening of a new plant in China.  Incidentally, over 1/3 of sales occur outside the United States and this plant should help grow sales in Asia.

 

Financials and Valuation

The capital structure:

 

Basic Shares

25.7 MM

Shares from Convert. Debt

19.4

Total Diluted Shares

45.1

Recent Price

$4.50

Market Cap

$200 MM

Cash

$42 MM

EV

$158 MM

 

Note:  This assumes full conversion of $54.5 MM of 5.5% debt at $4.84 and $75MM of 5.25% debt at $8.46 per share.

 

Financials for Standby Power Division  (FY Jan 31 YE, in thousands)

 

FY 2003

FY 2004

FY 2005

FY 2006

FY 2007

Revs

   234,361

   232,687

   245,794

   256,272

   279,126

OM

     38,994

     30,280

       9,211

     12,640

       3,763

OM%

16.6%

13.0%

3.7%

4.9%

1.3%

Approx. Avg. Lead Price / lbs

$0.20

$0.25

$0.41

$0.45

$0.60

 

 

You can see that increase in lead costs, among other things, diminished operating margins severely while the division grew revenues at around 3.5% per year.  Management did not disclose gross margins by division until 2005.  For the last 3 years, Standby Power GM% has been:

 

 

FY2005

FY2006

FY2007

GM%

15.2%

16.8%

12.5%

Approx. Avg. Lead Price / lbs

0.41

0.45

0.60

 

Management believes they will be able to get GM% back to the 25% range, where they had been in the past prior to the large lead price increases.

 

My estimates for the Standby Power division (which essentially is the company now) are below.  Given this previously was one of three business segments, I have had to cobble together financials for this division from conversations with management, an 8-K put out to show the affect of the Power Electronics division divestiture and my estimates.

 

FY Ended Jan 31—Standby Power Division

 

 

FY 2007

6 Mos 7/31/06

FY 2008 Mos 7/31/07

 

FY2007A

FY2008E

FY2009E

Revenue

 

$135.9MM

$156.6MM

 

$279.1MM

$307MM

$328.3MM

COGS

 

111.9

133.0

 

       244.3

257.9

       259.5

GM

 

24.0

$23.6

 

         34.9

49.1

         65.7

GM%

 

17.7%

15.1%

 

12.5%

16.0%

20.0%

S,G&A

 

22.0

19.1

 

         31.1

37.5

         34.0

EBIT

 

5.0

4.6

 

         3.8

11.6

         31.7

EBIT%

 

3.7%

2.9%

 

1.3%

3.5%

9.4%

Est. D&A

 

5.3

5.4

 

         11.0

12.0

         13.0

EBITDA

 

10.3

9.9

 

         14.8

23.6

         44.7

EBITDA%

 

7.6%

6.4%

 

5.3%

7.7%

13.6%

Approx. Avg. Lead Price / lbs

 

$0.52

$1.01

 

$0.60

 

 

Note 1:  6 Month 2007 EBIT adjusted for $15.2 sale of Chinese plant gain

Note 2:  I assume most of lead cost increases get passed through in FY’08 and FY’09

Note 3:  Increased S,G&A in FY2008 from FY2007 is the result of increased corporate overhead burden attributed to Standby due to the sale of the Power Electronics and Motive divisions.  FY2007 as shown above is the actual Standby Power segment financials, not the entire company. FY2008 and FY2009 represent the entire remaining company including estimated corporate overhead that remained with the company post sale of the two divisions.

 

Management has stated that they are taking $30MM of costs out of the business, 85% of which are in the COGS of Standby Power.  The rest was slated to be used to get the Motive Power segment to break even; I assume the difference will still be used to remove overhead burden that did not go with the sale of the Motive division.  In addition, the Standby Power business grew 8.9% in FY 2007 and has posted revenue growth in the first 2 quarters of FY2008 13.4% and 17%, respectively.  The 17% increase in Q2 was comprised of half from price increases and half from volume increases.

 

I conservatively assume 10% revenue growth in FY 2008 and 7% growth FY 2009 and that management achieves most of the targeted $30MM in cuts (I did not give them full benefit of the cuts to reflect the fact that margins may not catch up to price increases by FY2009).  Remember, revenues are currently rising faster than volume of sales due to the implementation of price increases;  the steady state growth rate is expected to be more in the 5-6% growth range. 

 

If one were to use the pro-forma financials the company released earlier this year in an 8-K to reflect the sale of the first division sold off (Power Electronics division), and after the $30MM of expected operating cost reductions, operating margins would be closer to 13%.  If that were to occur, then EBITDA should be closer to $50MM in FY 2009 (which ends in January of 2009).

 

Competitor Xide trades at 8.2X LTM EV/EBITDA and ENS at 8.6X.  Using 8X creates a $360MM EV or $7.98.  Cash of $42MM is worth $0.93 / share, or $8.91 per share total.  Even if the cash is required to fund losses due to increasing lead costs and/or any shut down costs, then the stock still should trade at over $7.80 per share on a more steady state.  Management has not yet disclosed what the NOL tax shield will be per year, but with a book value of $60MM, it should be worth at least 50 cents per share of incremental value.  With the cash, the NOL and the proceeds from the Motive division sale, the stock could be worth over $9 per share within 2 years. 

 

Risks

  1. Lead prices could continue to spiral out of control (it has increased 5-fold since 2004, but it could continue further), creating a operating losses that need to be funded
  2. Management fails to achieve the $30MM in cost cuts
  3. Irrational pricing breaks out in the industry
  4. Growth slows down due to economic slowdown

Catalyst

1. Release of an 8-K showing the pro forma financials for the sale of the Motive division (expected next week)
2. Continued sales growth
3. Achievement of the cost cuts
    sort by   Expand   New

    Description

    Summary

    C&D Technologies (CHP) is a small-cap industrial battery manufacturer in the process of divesting assets, de-leveraging its balance sheet, cutting costs and recovering (hopefully) from astronomic increases in the price of its main input, lead.  Much of the asset sales and de-leveraging already has occurred; the company is still in the midst of the cost cutting and addressing the lead increases.  Earlier this week, the company announced the sale of its Motive Battery business unit, the second divestiture this year; this removes a money losing division and allows management to focus on the sole remaining division, Standby Power, which is profitable and growing.

     

    When management completes the cost-cutting initiatives by the end of the next year, the company should be producing EBITDA of at least $45MM in calendar 2008 compared to a current adjusted EV of $160MM (adjusted for exercised convertible debt) or 3.6X.  As the company’s financials begin to reflect the cost cuts, I believe the company will be selling at 8X EV/EBITDA or at least $8.90 per share versus a recent price of $4.50 (this include $42MM in cash recently received from the sale proceed of the Power Electronics division earlier this year).

     

    Background

    CHP is a 100+ year old company whose sales recently had peaked at over $500MM.  This principally was due to 2 acquisitions in 2004 for over $125MM which were consolidated into its Power Electronics division.  That division ultimately was sold earlier this year.  Severely increasing lead prices, expensive and increasing debt loads and a botched acquisition integration sent the share price down to nearly $4 per share from a recent high of $20 per share in 2003.  A new CEO from electronic components manufacturer Kemet and CFO from competitor Exide came in 2005 and began upgrading the senior team and turning things around.

     

    New management refinanced expensive debt with less expensive convertible debt, consolidated facilities, sold off 1 of its 3 divisions for $85MM in cash and paid down all non-convertible debt leaving $42MM of cash.  They are now in the process of slashing operating expenses by an incremental $30MM to be completed over 2 years.   Finally, as mentioned above, they just announced they sold off the smaller of the 2 remaining businesses, Motive Power, that has been losing money since 2001 in spite of having revenues of $58.7MM in FY 2007.  Terms were not disclosed and warranty liabilities, which has been a historic problem for that business unit, has been retained by CHP.  For analysis purpose and conservatism’s sake, I assume it is a wash though it is likely to be over $10MM of cash proceeds (a rough approximation after speaking with management).

     

    With this backdrop, management is firmly focused on its remaining segment, Standby Power, completing the cost-cutting initiative and stabilizing the business.

     

    Standby Power

    This business manufactures and distributes lead acid batteries and associated electronics and systems; these products monitor and regulate electricity and provide backup power if the power is interrupted.  End markets include UPS systems (uninterruptible power supply) used for data center rooms which house servers and network hubs, telecommunications equipment, cable TV systems and utilities.  Telecom is their largest market.

     

    Their equipment is OEM’ed into equipment made by companies such as Emerson, GE and Mitsubishi.  About 60% of the business is for new projects and 40% is replacement.  Management believes the market for Standby Power should grow 5-6% per year.  The product serves as an insurance policy of sorts for important data servers and vital networks.  While price is an issue, reliability and reputation are very important to purchase behavior.  C&D has an excellent reputation and has been a long time player in the market.

     

    Competition

    CHP has a leading market share of 26% in Standby Power in the United States.  Enersys (ENS) has 21% market share followed by Exide (XIDE) with 16%.  There are a few smaller players as well.  Strategically, CHP and ENS focus on the upper end of the market and are well known for product development while XIDE is the low cost provider.  XIDE is the only vertically integrated player.  They own their own smelters which gives them a distinct cost advantage.  In spite of this advantage, XIDE has experienced difficulty since emerging from bankruptcy in 2004 and remains heavily levered.  Soaring lead prices aside, pricing has been rational, competitively speaking.

     

    Lead

    Lead, like many commodities in recent times, has experienced an astronomic increase in price.  Lead started 2004 at roughly 34 cents per pound and currently is quoted around $1.70 per pound.  Three quarters of all lead world-wide is used for batteries.  Consumption in India and China, heavy speculation and a few mine disruptions in Australia and Peru are fueling the boom.  In Standby Power, lead is roughly 35% of COGS which made addressing the increase in lead prices central to the company’s turnaround plan.

     

    One part of the plan in reaction to this issue was to get rid of any fixed price contracts.  This move was in response to agreements where the company was not contractually able to tack on increases to reflect price changes in lead.  With the ability to raise prices as the price of lead increases, management believes that price increases will now recoup losses due to lead price increases; however, there is a time lag between cost increases they experience and prices increases they put through to the customer which harm margins in the short term.  There has been very little push back in raising prices in reaction to lead increases, though this was not a common practice in the industry until present management started doing it in 2005.  Everyone in the industry generally has followed suit.  Removing fixed price contracts also has diminished the need for hedges. 

     

    The other part of the plan has been to acquire recycled lead and use a third party to smelt it thereby moving up the value chain to gain cheaper finished lead (this creates an all-in price of 70-80 cents per pound versus $1.70).  Currently, they are satisfying ~30% of their lead needs with a goal to get to 50%. 

     

    Analysts are expecting a modest supply surplus in 2008 and they anticipate prices will return to the $1 per pound range.

     

    Cost Cuts

    Management put forth a plan earlier in the year to cut $30MM of costs (it was $25MM-$30MM at first though they recently affirmed a $30MM target).  The plan is expected to take all of calendar 2007 and 2008 to implement.  Approximately $7MM of the cuts come from sourcing cheaper lead via the acquisition of recycled lead as described above.  Improvement of product design is expected to create ~$12MM of savings through more efficient design.  Finally, manufacturing improvements should be worth ~$11MM.  This includes consolidating facilities as well as the opening of a new plant in China.  Incidentally, over 1/3 of sales occur outside the United States and this plant should help grow sales in Asia.

     

    Financials and Valuation

    The capital structure:

     

    Basic Shares

    25.7 MM

    Shares from Convert. Debt

    19.4

    Total Diluted Shares

    45.1

    Recent Price

    $4.50

    Market Cap

    $200 MM

    Cash

    $42 MM

    EV

    $158 MM

     

    Note:  This assumes full conversion of $54.5 MM of 5.5% debt at $4.84 and $75MM of 5.25% debt at $8.46 per share.

     

    Financials for Standby Power Division  (FY Jan 31 YE, in thousands)

     

    FY 2003

    FY 2004

    FY 2005

    FY 2006

    FY 2007

    Revs

       234,361

       232,687

       245,794

       256,272

       279,126

    OM

         38,994

         30,280

           9,211

         12,640

           3,763

    OM%

    16.6%

    13.0%

    3.7%

    4.9%

    1.3%

    Approx. Avg. Lead Price / lbs

    $0.20

    $0.25

    $0.41

    $0.45

    $0.60

     

     

    You can see that increase in lead costs, among other things, diminished operating margins severely while the division grew revenues at around 3.5% per year.  Management did not disclose gross margins by division until 2005.  For the last 3 years, Standby Power GM% has been:

     

     

    FY2005

    FY2006

    FY2007

    GM%

    15.2%

    16.8%

    12.5%

    Approx. Avg. Lead Price / lbs

    0.41

    0.45

    0.60

     

    Management believes they will be able to get GM% back to the 25% range, where they had been in the past prior to the large lead price increases.

     

    My estimates for the Standby Power division (which essentially is the company now) are below.  Given this previously was one of three business segments, I have had to cobble together financials for this division from conversations with management, an 8-K put out to show the affect of the Power Electronics division divestiture and my estimates.

     

    FY Ended Jan 31—Standby Power Division

     

     

    FY 2007

    6 Mos 7/31/06

    FY 2008 Mos 7/31/07

     

    FY2007A

    FY2008E

    FY2009E

    Revenue

     

    $135.9MM

    $156.6MM

     

    $279.1MM

    $307MM

    $328.3MM

    COGS

     

    111.9

    133.0

     

           244.3

    257.9

           259.5

    GM

     

    24.0

    $23.6

     

             34.9

    49.1

             65.7

    GM%

     

    17.7%

    15.1%

     

    12.5%

    16.0%

    20.0%

    S,G&A

     

    22.0

    19.1

     

             31.1

    37.5

             34.0

    EBIT

     

    5.0

    4.6

     

             3.8

    11.6

             31.7

    EBIT%

     

    3.7%

    2.9%

     

    1.3%

    3.5%

    9.4%

    Est. D&A

     

    5.3

    5.4

     

             11.0

    12.0

             13.0

    EBITDA

     

    10.3

    9.9

     

             14.8

    23.6

             44.7

    EBITDA%

     

    7.6%

    6.4%

     

    5.3%

    7.7%

    13.6%

    Approx. Avg. Lead Price / lbs

     

    $0.52

    $1.01

     

    $0.60

     

     

    Note 1:  6 Month 2007 EBIT adjusted for $15.2 sale of Chinese plant gain

    Note 2:  I assume most of lead cost increases get passed through in FY’08 and FY’09

    Note 3:  Increased S,G&A in FY2008 from FY2007 is the result of increased corporate overhead burden attributed to Standby due to the sale of the Power Electronics and Motive divisions.  FY2007 as shown above is the actual Standby Power segment financials, not the entire company. FY2008 and FY2009 represent the entire remaining company including estimated corporate overhead that remained with the company post sale of the two divisions.

     

    Management has stated that they are taking $30MM of costs out of the business, 85% of which are in the COGS of Standby Power.  The rest was slated to be used to get the Motive Power segment to break even; I assume the difference will still be used to remove overhead burden that did not go with the sale of the Motive division.  In addition, the Standby Power business grew 8.9% in FY 2007 and has posted revenue growth in the first 2 quarters of FY2008 13.4% and 17%, respectively.  The 17% increase in Q2 was comprised of half from price increases and half from volume increases.

     

    I conservatively assume 10% revenue growth in FY 2008 and 7% growth FY 2009 and that management achieves most of the targeted $30MM in cuts (I did not give them full benefit of the cuts to reflect the fact that margins may not catch up to price increases by FY2009).  Remember, revenues are currently rising faster than volume of sales due to the implementation of price increases;  the steady state growth rate is expected to be more in the 5-6% growth range. 

     

    If one were to use the pro-forma financials the company released earlier this year in an 8-K to reflect the sale of the first division sold off (Power Electronics division), and after the $30MM of expected operating cost reductions, operating margins would be closer to 13%.  If that were to occur, then EBITDA should be closer to $50MM in FY 2009 (which ends in January of 2009).

     

    Competitor Xide trades at 8.2X LTM EV/EBITDA and ENS at 8.6X.  Using 8X creates a $360MM EV or $7.98.  Cash of $42MM is worth $0.93 / share, or $8.91 per share total.  Even if the cash is required to fund losses due to increasing lead costs and/or any shut down costs, then the stock still should trade at over $7.80 per share on a more steady state.  Management has not yet disclosed what the NOL tax shield will be per year, but with a book value of $60MM, it should be worth at least 50 cents per share of incremental value.  With the cash, the NOL and the proceeds from the Motive division sale, the stock could be worth over $9 per share within 2 years. 

     

    Risks

    1. Lead prices could continue to spiral out of control (it has increased 5-fold since 2004, but it could continue further), creating a operating losses that need to be funded
    2. Management fails to achieve the $30MM in cost cuts
    3. Irrational pricing breaks out in the industry
    4. Growth slows down due to economic slowdown

    Catalyst

    1. Release of an 8-K showing the pro forma financials for the sale of the Motive division (expected next week)
    2. Continued sales growth
    3. Achievement of the cost cuts

    Messages


    SubjectNew Writeup
    Entry10/26/2007 04:12 PM
    Memberglg919
    Description:

    Summary

    C&D Technologies (CHP) is a small-cap industrial battery manufacturer in the process of divesting assets, de-leveraging its balance sheet, cutting costs and recovering (hopefully) from astronomic increases in the price of its main input, lead.  Much of the asset sales and de-leveraging already has occurred; the company is still in the midst of the cost cutting and addressing the lead increases.  Earlier this week, the company announced the sale of its Motive Battery business unit, the second divestiture this year; this removes a money losing division and allows management to focus on the sole remaining division, Standby Power, which is profitable and growing.

     

    When management completes the cost-cutting initiatives by the end of the next year, the company should be producing EBITDA of at least $45MM in calendar 2008 compared to a current adjusted EV of $160MM (adjusted for exercised convertible debt) or 3.6X.  As the company’s financials begin to reflect the cost cuts, I believe the company will be selling at 8X EV/EBITDA or at least $8.90 per share versus a recent price of $4.50 (this include $42MM in cash recently received from the sale proceed of the Power Electronics division earlier this year).

     

    Background

    CHP is a 100+ year old company whose sales recently had peaked at over $500MM.  This principally was due to 2 acquisitions in 2004 for over $125MM which were consolidated into its Power Electronics division.  That division ultimately was sold earlier this year.  Severely increasing lead prices, expensive and increasing debt loads and a botched acquisition integration sent the share price down to nearly $4 per share from a recent high of $20 per share in 2003.  A new CEO from electronic components manufacturer Kemet and CFO from competitor Exide came in 2005 and began upgrading the senior team and turning things around.

     

    New management refinanced expensive debt with less expensive convertible debt, consolidated facilities, sold off 1 of its 3 divisions for $85MM in cash and paid down all non-convertible debt leaving $42MM of cash.  They are now in the process of slashing operating expenses by an incremental $30MM to be completed over 2 years.   Finally, as mentioned above, they just announced they sold off the smaller of the 2 remaining businesses, Motive Power, that has been losing money since 2001 in spite of having revenues of $58.7MM in FY 2007.  Terms were not disclosed and warranty liabilities, which has been a historic problem for that business unit, has been retained by CHP.  For analysis purpose and conservatism’s sake, I assume it is a wash though it is likely to be over $10MM of cash proceeds (a rough approximation after speaking with management).

     

    With this backdrop, management is firmly focused on its remaining segment, Standby Power, completing the cost-cutting initiative and stabilizing the business.

     

    Standby Power

    This business manufactures and distributes lead acid batteries and associated electronics and systems; these products monitor and regulate electricity and provide backup power if the power is interrupted.  End markets include UPS systems (uninterruptible power supply) used for data center rooms which house servers and network hubs, telecommunications equipment, cable TV systems and utilities.  Telecom is their largest market.

     

    Their equipment is OEM’ed into equipment made by companies such as Emerson, GE and Mitsubishi.  About 60% of the business is for new projects and 40% is replacement.  Management believes the market for Standby Power should grow 5-6% per year.  The product serves as an insurance policy of sorts for important data servers and vital networks.  While price is an issue, reliability and reputation are very important to purchase behavior.  C&D has an excellent reputation and has been a long time player in the market.

     

    Competition

    CHP has a leading market share of 26% in Standby Power in the United States.  Enersys (ENS) has 21% market share followed by Exide (XIDE) with 16%.  There are a few smaller players as well.  Strategically, CHP and ENS focus on the upper end of the market and are well known for product development while XIDE is the low cost provider.  XIDE is the only vertically integrated player.  They own their own smelters which gives them a distinct cost advantage.  In spite of this advantage, XIDE has experienced difficulty since emerging from bankruptcy in 2004 and remains heavily levered.  Soaring lead prices aside, pricing has been rational, competitively speaking.

     

    Lead

    Lead, like many commodities in recent times, has experienced an astronomic increase in price.  Lead started 2004 at roughly 34 cents per pound and currently is quoted around $1.70 per pound.  Three quarters of all lead world-wide is used for batteries.  Consumption in India and China, heavy speculation and a few mine disruptions in Catalyst: 1. Release of an 8-K showing the pro forma financials for


    SubjectNew Write Up
    Entry10/26/2007 04:15 PM
    Memberglg919
    Please disregard the new write up in the posted messages. I hit the submit button twice and the second one landed there.

    GLG

    SubjectQs
    Entry10/29/2007 02:39 PM
    Membercompass868
    Nice idea.
    1. is there a risk of substitute battery types gaining share due to lead-driven price increases?
    2. are the comp multiples based upon similarly depressed profitability and therefore not the right multiples to use?

    Thanks.

    Subjectquestions
    Entry10/29/2007 04:08 PM
    Memberwill579
    nice write-up.

    my only real questions are an elaboration on the one abra399 asked on the competitive environment.

    (1) you allude to a cost advantage that XIDE has which is concerning. Are they taking share with this cost advantage, especially with overall prices rising? Does their advantage grow with higher lead costs? Any sign that they specifically have changed their pricing strategy recently?
    (2) How are you comfortable giving full credit for the $30m cost saves in the margin in such a competitive industry? For example, I would be surprised if other players were not also trying to lower costs by using more recycled lead, suggesting that the cost-cutting may be competed away.

    Thanks again. Seems very interesting if there was some structural improvement in the competitive environment going forward.

    SubjectAnswers
    Entry10/29/2007 06:18 PM
    Memberglg919
    Thanks for the questions. Here my responses:

    To Abra399:
    The thesis does hinge on costs cuts (given that the divestitures have already occurred). I feel fairly certain about management getting the job done in that the cuts are over two years, we are 6 months of reporting through the first year and they have stuck to their word so far (plus their actions up until now give me confidence). My assumptions don't hinge on taking share and, in speaking to the competition, everyone is pleased at rational pricing and generally happy with the industry growth. So I don’t see anyone going on the rampage pricing-wise and I am not expecting CHP to be any different which is consistent with what they have said.


    To Compass868:
    Lead, even at these crazy prices, is still the cheapest option for producing industrial batteries. Nickel is 3-4X in pricing and Lithium is 5-10X. Both these types of batteries are used for specific types of applications where lead underperforms, but not due to price. Lithium is expected to grow in use but it minuscule in comparison.

    Regarding multiples, ENS has pretty consistently been trading in the 8-9X range. If the multiples are depressed due to lead fears then I guess I am being conservative. In an absolute sense, I don’t believe 8X is too rich.

    To Will579:
    Xide, even with this cost advantage, is still a mess. Looking at their poor margins and factoring in the cost advantage is very telling. I fear them more for potential irrational pricing but from what I understand, they are much more about cost cutting than taking share. ENS is much more stable and more of a threat. However, they trail in market share and are more focused on other markets. Again, markets are stable and in speaking with ENS, they expect it to remain that way.

    Your question regarding cost saving is a good one. It is a competitive market and they all have experienced astronomical lead prices. In a steady state where all players are relatively equal, you would expect them all to be moving in lock step in cost cutting so no advantage would stick. But, CHP has transformed itself radically with the asset sales so this is more about taking out the excess capacity, making process improvements and fixing poor decisions of past management. This is really just putting them more on equal footing for their remaining market. They are focusing on one niche where they have leading market share. The others focus on other more than one area. Xide has a ton of cutting and fixing to do and ENS has a huge cost cutting culture and is already pretty lean. I think the risk to which you referring would more of a concern in a pure commodity type of product.

    Thanks,
    Glg919
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