Methode Electronics, Inc. (MEI, Financial) traded at $47/share before Q4’15 earnings release on 6/25/15. Today, the stock is at ~$27/share, a drop of over 42%. Revenues for FY’15 were $881M. Market Cap is $1.04B. Gurus that have positions include Jim Simons, Paul Tudor Jones, and Joel Greenblatt You can see their purchase prices here.
Company
MEI, incorporated in 1946, sells components found in industries such as aerospace, appliance, automotive, battery storage, construction, consumer and industrial equipment, communications (including information processing and storage, medical device, networking equipment, wireless and terrestrial voice/data systems) and transportation. The company has four segments: Automotive, Interface, Power Products and Other
The Automotive segment supplies electronic and electro-mechanical devices and related products to automobile original equipment manufacturers (“OEMs”). Products include electrical power and signal control switches, electrical device connectors, integrated control components, torque sensing, switches and monitoring sensors.
The Interface segment sells copper and fiber-optic interface solutions. The Power Products segment sells items such as flexible cables, laminated bus devices, custom power-product assemblies, high-current low voltage flexible power cabling systems and powder coated bus bars. The Other segment includes medical devices, inverters and battery systems and insulated gate bipolar transistor solutions.
Looking at each segment’s revenue percentage, we can see that automotive has become increasingly important to the company’s success. From the 10-K,
FY 2015, Gross Profit was $218.8M. Here’s how much each segment contributed.
- Automotive: ~72%
- Interface: ~18%
- Power Products: ~13%
- Other: -3%
The company’s revenue grew 14% last year and was fueled by a 20.3% increase in the Automotive segment. The GM center console stack was the main driver for improved revenue. Example of MEI’s center console stack which includes a touchscreen.
Financial trends and ratios per GuruFocus
- The revenue trend shows a company that grew rapidly in the last five years.
- The Net Income trend mirrored revenue.
- TTM PE Ratio of 10.60
- TTM EV / EBIT of 7.83
- Strong Balance Sheet where Net Current Asset Value is $7.60/share
Why has the stock fallen?
MEI’s Q4’15 earnings were in line with estimates and revenue slightly missed. The company also gave FY16 guidance. Earnings estimates were between $2.07 and $2.22 per share. Revenue forecast for FY 16 is $865M. Presumably, investors were hoping that this company would continue its growth trajectory and when guidance didn’t confirm that view, they bailed.
Bearish arguments
MEI has high customer concentration risk. Over 70% of the company’s revenues come from the Automotive segment and the car industry is dominated by a few players. From the 10-K, “During the year ended May 2, 2015, shipments to GM and Ford, or their tiered suppliers, represented 44.8% and 12.8%, respectively, of our consolidated net sales.” As a result, customers like General Motors (GM, Financial) and Ford (F, Financial) have significant negotiating leverage over MEI. On their most recent earnings call, the company revealed two hits to 2016 revenue. First is a roll off of a Ford Center Console Program that will affect sales by $30M. Second is a big data customer shifting $20M to 2015 instead of 2016. Taxes will also increase in the years to come.
Bullish arguments
There are high switching costs for car companies to change suppliers. It takes time to adjust designs and manufacturing processes so incumbents have a huge advantage provided they execute satisfactorily. On the earnings call, management said “in late 2016, we’re launching two more Center Console programs for GM with average annual revenue of $30 million.” The company is targeting gross margins in the Automotive segment to be in the mid twenty percent range next year. The company’s gross margin percent for FY 2015 was 24.83%.
Cars are being manufactured with much more electronic devices than ever before. MEI’s center console system contains touchscreens which will become more of a standard in the future.
Conclusion
MEI is a company with a strong balance sheet with the potential to buy back shares per the last earnings call. It’s trading at a reasonable forward PE range of 12 to 13. If the company can resume growth in the years ahead, this would turn out to be a cheap stock. As it stands, I don’t see evidence that MEI has a durable competitive advantage due to its lack of pricing power. On the other hand, the recent price decline makes this stock worthy of consideration for some investors as the risk / reward ratio appears to be to the upside.
