Following up on yesterday’s post on Starett (SCX), a “hidden” net-net with an activist shareholder in Gabelli, I thought I’d post on another Gabelli controlled net-net today.
The company is LGL Group (LGL), and they are pretty interesting. Gabelli is the Chairman of the Board and owns 16% of the company, and another activist (John Winfield, the chair of Intergroup (INTG)) owns another 5%. ***Update- as I mentioned here, it’s actually Gabelli’s son Marc who is the chairman****
On a quantitative basis, the company looks pretty good. I have NCAV coming in at $6.35 per share and book value at over $9.50 per share (no goodwill here, so book value = tangible book) versus a current stock price of $5.35 per share. The company has an incredibly liquid balance sheet, with $10m+ in net cash. Against their current market cap of $14m, that’s quite a bit!!! And w/ TTM Revenue coming in at almost $35m, a potential acquirer could pay a pretty significant premium and still acquire LGL at a very low EV / Sales.
Finally, the company has been EBITDA positive (albeit barely) for the past year, and if their Q1 results presentation is to be believed, they are predicting solid growth in the back half of 2012 and into 2013. Given their earnings announcement specifically highlights their operating leverage, growth should deliver some pretty strong profits!
However, for me, the positives are somewhat outweighed by the negatives. Basically, despite being in a pretty simple sounding business and trying to compete in a niche (read the 10-K for more info), LGL’s results are ridiculously cyclical. Check out this clip from their 10-K
I’m also a bit concerned about the quality of the net-net here. My friend Geoff (from gannononinvesting) used to have a simple rule about net-net quality- it was better to be a net-net that had a large retained earnings balance than be a net-net with an accumulated deficit but big paid in capital balance.
Why does that matter?
Having a large retained earnings balance is a sign of a business built up on past profits. Being a net-net with an accumulated deficit is a sign of a business with a lot of past losses but good timing with issuing shares at a high price.
So, which is LGL? Here’s there most recent balance sheet.
And that drives with my observation- LGL has been very successful in issuing shares when the market gets excited about their business. For example, in early 2011, the stock had a big run up (well above $20 per share), so LGL increased their share count by 15% and issued shares at $20 per share.
Is that great timing? Yes. And when you add the fact they announced a share buyback six months later (at much lower prices), it also shows great capital allocation.
But it’s also not sustainable.
For comparisons sake, let’s compare that to ADDvantage Tech (AEY), one of my favorite net-nets right now. Here’s their most recent balance sheet:
That’s the sign of a business w/ a lot of past profits!!!!
Does that make AEY a better net-net than LGL? Not necessarily. I think LGL probably has more upside if it catches an up-cycle like they seem to be hinting at in their investor presentations.
But I think it does make AEY a safer net-net. Not to mention AEY has also shown an ability to consistently deliver operating profits and strong ROIC in more normal economic times.
So I couldn’t fault you for an investment in LGL. But I personally think there are safer net-nets out there!
Disclosure- Long AEY
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I hate to be critical but I’m lost when I read this post. What is LGL, what do they do? You also mention some negatives outweigh the positives but you never mention the actual negatives. This post is just sort of barfing numbers out, context would be helpful.
Just looking at what you posted I see a company with lumpy earnings and two shareholders who want to realize value. How can they do that and what’s to stop them? If the company has a large negative retained earnings I don’t think that has any bearing on their operations going forward especially if something changed that made them profitable.
Nate – they make timing devices and precision niche electronics stuff that goes into high tech gear like satellites and communications devices.
I also disagree with the paid-in-capital vs. retained earnings point. Past is not a great indicator of the future, and I would rather they allocated capital well than had a glorious history that has faded.
This company is expecting their sales to pick up due to devices such as the iPhone 5 requiring 4G widgets, which they make.
The way I see it is that they have already been hit hard by decreased spending in Mil/ Aero due to government cutbacks and in regular communications gear due to general demand being soft.
Now, I think a good question is: Priced at about 9% below NCAV, what is the upside/downside?
Downside – say they get hit by a continued slump in semicon, government fiscal cliff, yada yada.
Well, that would take their NCAV down a few percent for each of a few quarters.
But, looking at the last cycle, the stock bottomed around $1.50/sh in Q1’09. ’09 NCAV was c. $5M, with c. 2.2M s/o, so just over two bucks a share – i.e. the bottom was around 70% of NCAV.
And, 1. the stock bottomed out way before earnings, which bottomed out in Q3’09, 2. the late ’08 to ’09 situation was, as everyone knows, just terrible compared to now.
So for your downside you probably want to slice a bit off the NCAV, and then assume the mkt will discount it a bit further, although probably -30% is too much.
Upside – if the bad stuff (govt spending down, semicon recession) reverts to mean and the G4 story (plus new demand in Mil such as unmaned drones) plays out like they expect, then they will make good money again, and the upside to the stock price should be, considering the last cycle, many multiples of NCAV.
Marc Gabelli is the chairman, not Mario Gabelli.
Good catch. That’s Mario’s son. Probably doesn’t change any of the conclusions on the stock, though.
I kept wondering Mario Gabelli was bothering with a microcap… I wonder who started this “meme”, I’ve been seeing it a lot on value investor tweets…
[...] Another Gabelli company- $LGL [...]