Richardson Electronics, Ltd. (RELL, Financial) appears to be a traditional deep value stock. This is a business that has been on my radar for some time, but it has never really made enough progress to convince me.
Just because a stock looks cheap, it does not mean that it will be a good investment. Many cheap shares are cheap because they deserve to be. Buying a cheap stock that's only going to get cheaper is not a way to create wealth. However, Richardson seems to have changed direction over the past 12 months, prompting a closer look.
Company background
Richardson produces power and microwave technologies, customized display solutions and healthcare equipment for businesses in the North America, Asia/Pacific, Europe and Latin America regions. It produces specialist parts for these industries. For example, Richardson's healthcare division refurbishes and distributes diagnostic imaging replacement parts for CT and MRI systems, among others.
This is a slow and steady business. For example, if we go back to 2009, the company reported sales of $142 million in that year. For the fiscal year ending May 2020, sales came in at $156 million.
For much of the past decade, the company has been treading water. Sales haven't increased, and it has moved in and out of profitability. Positive cash flows have helped keep the balance sheet strong and fund a regular dividend.
At the time of writing, the annual dividend payout of $0.24 per share is equivalent to a dividend yield of 3.5%. Cash and investments at the end of the second quarter of fiscal 2021 were $46.0 million compared to $42.5 million at the end of the first quarter. Free cash flow was $3.9 million for the second quarter of fiscal 2021 compared to $0.1 million in the prior-year period.
Based on these figures, at the end of the second quarter of fiscal 2021, Richardson had a total current asset value of $129.4 million and total liabilities of $33 million. That suggests a net net value of $96.4 million, while its current market value is $91.4 million.
Where's the growth?
So, Richardson is cheap, but where could the growth come from? It appears there are two different avenues of growth the enterprise is currently chasing.
According to its latest quarterly results, PMT sales increased by 11.2% from last year's second quarter due to higher sales of semiconductor wafer fab equipment specialty products and power conversion and RF and microwave components. Meanwhile, Richardson Healthcare sales increased by $0.6 million, or 28.2%, primarily due to a significant increase in demand for the ALTA750 tubes (Replacement CT Tubes). On its conference call, the company noted that it could not build these tubes fast enough to meet customer demand, and it sees this as a growth market going forward.
Another growth market is 5G connectivity. Revenues connected to this market grew by a double-digit percentage in the second quarter. Management noted that as the world is becoming more connected, they are seeing an increase in demand for products that help consumers and businesses connect to each other. This trend is unlikely to be short-lived. Products manufactured today will need regular maintenance and updating.
The two factors outlined above could help drive the company's top-line growth and operating cash flow. Following the ending of a large capital spending plan, free cash flow should also increase.
On the fiscal second-quarter earnings conference call, CEO Edward Richardson noted that capital spending at the company's health care division had been around $25 million in recent years, giving it what he believed was the "most modern CT manufacturing operation in the world right now." Following this spending, the CEO believes that the healthcare business can become cash flow positive within two to three years.
This does not guarantee the company will return to growth, but it does provide a timeframe. The potential for free cash flow, profit growth at the other businesses, a strong cash balance and a 3.5% dividend yield are all attractive qualities that limit risk with this deep value opportunity.
Disclosure: This author owns no share mentioned.
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