SHILOH INDUSTRIES INC SHLO
November 28, 2012 - 11:05pm EST by
funkycold87
2012 2013
Price: 11.32 EPS $0.85 $1.30
Shares Out. (in M): 17 P/E 13.3x 8.7x
Market Cap (in $M): 191 P/FCF 12.3x 8.7x
Net Debt (in $M): 27 EBIT 24 35
TEV ($): 218 TEV/EBIT 9.1x 6.2x

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  • Manufacturer
  • Metal
  • Insider Ownership
  • Special Dividend
  • Auto Supplier

Description

Business Description

SHLO manufactures metal products principally for North American automobile OEM’s and Tier I suppliers. 

Engineered welded blanks (~45% revenue) are two or more metal sheets of the same or different grade, thickness or coating welded together.  Precision blanks (~20% revenue) are 2D shapes cut from flat-rolled metal.  Blanking products are typically used for exterior components such as fenders, hoods, doors, and floor panels.  Modular assemblies & complex stampings (~33% revenue) products are seats, sunroofs, and power train components (engine & transmission).

Opportunity

This is an asymmetric opportunity — (i) significant growth potential, (ii) margin potential, (iii) a low risk investment, (iv) a realistic catalyst – none of which are discounted in the market price.


(i) Growth Potential

New platform launches

SHLO invests in customer tooling for new product launches.  Once successfully trialed and approved, these expenses are reimbursed by the customer.  Rising tooling inventory indicates new program launches (backlog).  Tooling is converted to cash within one to two quarters after successful trial. 

Management cited tooling growth corresponding with several new platforms most notably their positioning on the Nissan Altima and Honda Accord.  North American production for the 2013 Nissan Altima and 2013 Honda Accord began in May 2012 and August 2012, respectively.  Both vehicles are high volume platforms with both OEMs targeting ~400K in annual unit sales.  These are important platforms as SHLO historically had limited exposure to Japanese transplants (Big 3 is 50+% revenue).

Secular growth

Automakers are targeting to strip 250 to 750 lbs from each car (~15% total weight) to achieve the 2016 CAFE standards.  SHLO’s engineered welded blanks provide OEMs the ability to reduce weight, improve fuel efficiency, and maintain structural support by engineering products that optimize the best material grades, thicknesses and coatings.  Without acquisitions or international exposure, sales are near pre-recession levels despite US auto SAAR lower by ~2.5m.    

Cyclical growth

i) US automobile SAAR is ~2.5m vehicles below pre-recession levels ii) the average age of registered vehicles is at all-time highs (10.8 years) iii) scrappage rates are near all-time lows iv) the production forecasts for the North American OEMs is positive — it seems likely that North American auto production will continue growing, which will benefit SHLO.  

As of October, IHS forecasts Big 3 North American auto production growth of 2.9% in CY2013.  Consensus revenue growth for SHLO is 4%.  Given the consistent industry outperformance plus record tooling business, it seems that consensus is certainly achievable.   SHLO increased headcount by more than 10% (~200 employees) since November 2011 in anticipation of continued growth (costs with no revenue offset). 

 

(ii) Margin Potential

Cost Cutting Program

SHLO consolidated 13 manufacturing facilities in 2006 to 9 in 2012.  At the same level of sales 10 years ago, they had 3,000 employees versus 1,400 today.    Since 2007, SHLO restructured their manufacturing footprint and streamlined costs, now is the time to harvest those initiatives. 

Historical Margins

Management’s goals are for 10 to 12% gross margins and SG&A 5% of sales.  Both appear realistic based on historical performance.

 

Plants are currently operating at 56% utilization.  As a manufacturer with a large fixed cost component, sales growth will result in operating leverage leading to higher operating margins.  Consensus EPS growth is 5% on 4% top-line implying minimal operating leverage.  Needless to say, the bet is that 4% revenue is too light but even in that scenario, operating leverage will magnify EPS growth. 


(iii) Low Risk

Valuation

SHLO trades at a low relative and absolute valuation. 

Acquisition multiples in the automobile industry have been around ~7.0x EBITDA implying a share price of $15.80.

 

SHLO is an LBO-able asset.  Over the last 10 years, SHLO generated $290m in cash, which is 154% of the market cap — all done on an organic basis.  Furthermore, SHLO owns all of their facilities (9 manufacturing + 1 sales/technical center) and they are a full tax-rate payer.


 

It is unlikely, in my opinion, that SHLO is an acquisition or LBO candidate but it is a useful analysis for valuation purposes.

Valuation: I think they will do @ least $55m in EBITDA and the stock is worth at least $18. 

Low Business Risk

  • Long history: established in 1950
  • Survived worst case scenario: pre-recession General Motors was a 40+% customer and combined with Chrysler, composed 50+% of revenue (and A/R) 
  • In 2009, over 260 suppliers went bankrupt. 
  • Vast majority of suppliers that went BK were much larger, better capitalized, had international exposure and had less exposure to GM and Chrysler
  • No raw material exposure: steel is purchased through customer steel buying programs and the customer is responsible for steel price fluctuations
  • Exposure to North American OEMs only: Big 3, Japanese transplants and German luxury nameplates
  • Poised to benefit as OEMs consolidate their supplier base
  • Management is solid (top tier in comparison to small companies in general)
  • High insider ownership (66%)
  • No empire building: no acquisitions since 1999; comfortable performing in niche; disciplined capital allocation and more than willing to return cash if no opportunities are available
  • Fair compensation
  • Cyclical industry strength:  North American auto is a bright spot in a no growth environment. 

Low Financial Risk

SHLO has low absolute ($27m) and relative debt levels.


 

 

SHLO’s pension/OPEB liabilities are low ($24m) unlike many peers


 

(iv) A Realistic Catalyst

Special Dividend

SHLO has a history of paying a special dividend. 

 

The auto industry is growing, SHLO is posting strong profits and cash flow, and they are near all-time low debt levels, it is likely they pay a special dividend by year end. 

MTD Holdings, an Ohio-based manufacturer of outdoor power equipment, owns 50% of the shares.  Dividend tax rates are slated to increase in 2013.  A 50c dividend paid in CY2012 versus CY 2013, would save MTD over $1m in taxes (gross dividend payable of $4.2m).  MTD has 4 of 9 board seats.     

SHLO amended their credit agreement in January 2012 to exclude the 50c special dividend from the fixed charge ratio covenant.  Without an amendment this year, SHLO could pay ~$13m (75c) dividend.  In my opinion, if they distribute more than last year’s 50-cent, they will seek another amendment.

Risks

  1. Operational issues: this is a high volume, low margin business with execution risk on new product launches; any operational issues will show up in the P&L
  2. New CEO: he might want to establish dominance and go all out on an acquisition
  3. Illiquid stock: if you can’t take short term price volatility, don’t invest here
  4. North American auto production collapses
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.

Catalyst

  • Special Dividend
  • Crushing consensus earnings expectations
 
 
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