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Ampco-Pittsburg: A Safe Undervalued Small Cap

December 01, 2011 | About:
Chandan Dubey

Chandan Dubey

97 followers
Ampco-Pittsburgh, with its subsidiaries manufactures and sells custom engineered equipment. It has two main segments, Forged and Cast Rolls, and Air and Liquid Processing. The Forged and Cast Roll segment produces forged hardened steel rolls used in cold rolling steel, aluminum, copper and other metals. The cast iron and steel rolls for hot and cold strip mills, medium/heavy section mills and plate mills also come under this segment. The Air and Liquid Processing segment manufactures finned tube and plate finned heat exchange coiled for commercial and industrial construction.

All of Ampco-Pittsburgh’s products are custom made. The company builds on orders and on custom specifications. This means they are not exposed to the risk of keeping inventory and it also means that from the order backlog one can get a pretty decent overview of its business at any given time.

Moat

The company holds a niche in this market. From the following margin table we see that it has satisfactory pricing power:

2001200220032004200520062007200820092010
Gross Profit49.33M47.62M38.49M33.04M52.02M79.90M103.03M114.42M96.41M97.36M
divided by
Revenue219.17M212.38M180.23M202.86M247.00M301.78M346.83M394.51M299.18M326.89M
Gross Margin22.51%22.42%21.36%16.29%21.06%26.48%29.70%29.00%32.22%29.78%


Family owned

AP is very much a family business. Founder Louis Berkman (age 102) is chairman emeritus. The CEO, Robert Paul (age 73), is his son-in-law and has been on the company’s board for over 40 years. Two of his sons (Laurence and Stephen) are also on the board. The family owns 15.29% of the shares outstanding.

China connection

The major growth in the steel production over the past few years has come from China. AP has been working to cash in on the growth. The company has started a joint venture with the fifth-largest Chinese steel producer to begin producing rolls in China. The plant was started in 2007 and should start manufacturing this year.

Risks

A discussion of risks is necessary for such a small company.
  • Asbestos litigation: There have been numerous claims of asbestos-related injuries against AP and its subsidies. So far, the insurance has covered a substantial part of the claims and the management does not see any liquidity problems in the next 10 years. But there is no guarantee that significant additional claims will not be made.
  • Cyclical industry: This is an obvious risk. AP has significant liquidity at the moment to handle a few bad years though.
  • Executive compensation: It seems out of line for such a small company. In 2010 the income of the company was $15 million and the executives got $4 million with Robert Paul getting $1.8 million!


Balance sheet

From the third-quarter report of 2011, we dig up the following figures:

(in $ million)09.201112.2010
Cash80.970
Total current assets232.9217.2
Total assets531.9526.9
Current liabilities93,389.7
Total liabilities318,6330,1
Equity213.2196.7


The company has a very good balance sheet with manageable amount of debt.

Shareholder return

AP has been a consistent dividend payer. The dividend has increased from 4 to 72 cents per share. At the current price of $18 per share the yield is 4%. It has not missed any payment in the last decade and the payment has never gone down.

2001200220032004200520062007200820092010
Dividend Paid3.84M3.85M3.85M3.88M3.93M3.93M5.51M7.02M7.34M7.38M
divided by
Shares Outstanding9.61M9.63M9.64M9.71M9.82M9.97M10.11M10.18M10.20M10.29M
Dividend Paid Per Share0.400.400.400.400.40.40.550.690.720.72
Price at Year End10.7512.1613.6714.6014.5133.4838.1321.7031.5328.05
Dividend Yield3.72%3.29%2.93%2.74%2.8%1.18%1.43%3.18%2.28%2.56%


Management

In the last decade, the company had one down year in FCF. For such a small company AP is fabulously well managed.

2001200220032004200520062007200820092010
Free Cash Flow470K15.73M-4.42M2.26M6.12M18.88M15.40M23.86M426K7.95M
RoIC-0.531.47-1.44-1.5110.110.822.13715.787.68


I do not like the management compensation policy though. The executives as a group of four individuals made $3.9 million in salary, out of which $969,000 was in stock options (strike price $25.77). For such a small company $178 million in market cap and $10 million in net income (for 2010), $3.9 million of compensation for the management is a gross overpayment in my opinion. This is 39% of the net income reported by the company, which is quite high.

Valuation

Valuing such a small company is like trying to hit a moving target. But let us try our hand anyway. The TTM FCF is $24 million, which means that at the price of $18 per share the market expects a growth of -0.2%. The P/CF is 4.3 and P/S=0.5. It seems cheap on all these metrics.

Conclusion

AP is a company with solid balance sheet, greater than 17% insider holding with strong FCF. I am a buyer under $18. I am long on AP, and hold $800 worth of shares at an average price of $23.

About the author:

Chandan Dubey
I invest because I want to be free by the time I reach 40 years of age i.e., 2025. My investment style is to find a small number of bets with large margins of safety. I pay a lot of attention to management and their incentive. Ideally, I like to buy owner operator businesses. I am fortunate to have a strong inclination towards studying. I aid my financial understanding by extensive reading in psychology, economic, social sciences etc.

Rating: 4.0/5 (14 votes)

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