L.S. Starrett and Company - Looking for Depth

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Apr 11, 2010
Apparently, while we were all sleeping, somebody, somewhere, decided that the recession was over. We hate to sleep through such major events but nobody told us what time this was going to happen and so, we failed to set our collective alarm clocks.


Evidence that the recession has ended can be found on the Time business blog, which is how we came to realize the end had happened while we slept. Never mind that the unemployment rate in February was 10.4% and that debt to GDP stood at 89.2%. Heck the recession is over. And that's that.


We bring this up because it occurs to us that what is needed in these situations is a way to obtain a fair and accurate measurement, one that is traceable to the National Institute of Standards or the International Organization for Standardization. It seems to us that if such a measurement means were in place, everyone would know if a recession was over on the very day it was actually over.


We did check, and the closest we came to finding a company in that business was The L.S. Starrett Company (NYSE: SCX).


Basis


Financial information related to The L.S. Starrett Company contained in this report, is based on the company's most recent SEC Form 10-K filing for fiscal year ending June 27, 2009, as filed with the Securities and Exchange Commission on September 10, 2009.


What They Do


The company was founded in 1880 by L.S. Starrett and incorporated in 1929, and manufactures over 5,000 different products for industrial, professional and consumer markets.


The company has had subsidiaries in Brazil since 1956, Scotland since 1958 and China since 1997, offering products to the market through multiple channels of distribution worldwide.


The company’s products include precision tools, electronic gages, gage blocks, optical and vision measuring equipment, custom engineered granite solutions, tape measures, levels, chalk products, squares, band saw blades, hole saws, hacksaw blades, jig saw blades, reciprocating saw blades, M1® lubricant and precision ground flat stock.


Short-Term Investment


The stock currently has an upside of 11% based on recent close of $10.55 and resistance at $11.75, and a 1% downside based on the same recent close and support at $10.44. The stock price has fallen from an overbought condition the first part of March and is currently heading back to oversold.


It is currently in a down trend attempting to find support.


For short-term investors, the largest single problem with this stock is that there are no real analysts that follow it, which limits momentum plays for short-term investors. The company is expected to announce earnings of $0.09 for its FY10 third quarter the first week of May.


Assuming the company is on track to match earnings, the best short-term play in our opinion is to start a position as the stock becomes oversold, probably sometime late next week, and hang on until earnings are announced.


After that, there really isn't any short-term reason to continue holding the stock.


Long-Term (5 Year Hold) Investment


We reviewed the company's latest annual financials which are for FY09, and for the first time in a very long time, actually found a stock with a net current asset value that was positive.


Intrigued, we looked a little further and found the company had free cash flow that was close to what we think is investment quality, and a current ration and quick ratio that we did consider investment quality.


The fault we find, as we seem to find so often is with management allowing the company to finance the company's supplies with what amount to interest free loans.


We say that because the company's receivables are outstanding an average of 49 days, while it's payables are outstanding an average of 28 days. To us, there is simply no reason for this. Either management needs to do a better job collecting its receivables, or it needs to take a bit longer paying its suppliers.


Final Thoughts


We believe a risk adjusted entry point for the stock is in the $9-$12 range, an entry point that the company's tangible book value of $21 and Graham number of $19, support, since we believe a reasonable value estimate for the stock based on a five year hold is in the $28-$32 range.


Considering what the company does for a living, we wondered why the OMB and the NBER just didn't hire the company to measure different things, like when the end of the recession had occurred?


It was then we that we realized the company doesn't do depth measurement, leaving only the government to really know how far they’ve shoved it in.


Wax


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