Value Portfolio

Brocade Communications (Nasdaq: BRCD) continues to develop its portfolio of networking products to serve the needs of today’s data managers. Although total revenue for the company’s second quarter, reported on May 21st, was up only 2%, revenue from advanced IP networking products grew 19%. The overall revenue number was dragged down by a 2% decline in Storage Area Network (SAN) hardware which dropped 2%.

SAN products have been soft for some time now as this market matures. Management also noted a temporary issue with a distributor which weighed down SAN sales.  IP storage programs are currently a more attractive solution to network managers.  As enterprises are swamped with data, they are continually searching for the most effective ways to store, access, protect and manage critical data.  IP solutions are open standard and allow more flexibility when expanding storage and retrieval of data via wireless and mobile devices. Brocade’s recent purchases of SteelApp and Connectum will enhance its capabilities within IP storage products.

Brocade has been a huge winner for the Roadrunner Value portfolio, up 123% since its February 27, 2013 inclusion. Investors who can patiently wait for the company to work through the slowness in its SAN business should see continued gains.  Brocade generates significant free cash flow, the amount of cash left over after a company invests in the capital spending required to keep its business fresh.  Brocade used part of that cash in the most recent quarter to increase its dividend 29%. Although the SAN business will likely drag its feet for a few more quarters, this slowdown is included in estimates and should not surprise investors. 

Gentex board of directors approved a quarterly cash dividend of $0.085 per share, up 6.2% compared to its prior payout of $0.08 per share. The dividend will be paid on July 17, 2015 to shareholders of record at the close of business on July 7, 2015. At an annualized rate of $0.34, the new dividend equates to a yield of 1.96% at its current share price.

Gentex officials said in a statement:

The company is pleased to announce an increase in the dividend rate due to its ongoing growth and financial success. Our management and board of directors believe in the value placed on dividends by the shareholder.

In the first quarter, management also returned value to shareholders by repurchasing 1.4 million in shares worth $25 million. It said it will continue this policy as long as macroeconomic conditions and market trends allow.

For 2015, the company expects revenues growth as IHS Automotive forecasts light vehicle—which fits its dimmable windows and electronics—production will remain flat with 2014 at 50.7 million units. The company offered 2015 sales guidance of $1.47 billion to $1.54 billion, the mid-point of which is 8.6% higher than 2014.

Lattice Semiconductor (Nasdaq: LSCC) is the second-most likely semiconductor company to be acquired in 2015 with a probability “above 20%” — according to a FBR Capital Markets analyst on June 4th.  M&A fever in the chip space is the result of recent takeovers of Altera by Intel at 8.7 times revenue andBroadcom by Avago at 4.35 times revenue. If Lattice were to be acquired at the lower of these revenue multiples (4.35 times revenue), it would be worth $13.33 per share — more than double its current price of $6.35.  Lattice CEO Darin Billerbeck responded to the FBR report by stating that the Lattice Board of Directors would seriously consider selling the company if an acquirer offered a “high premium.” 

After the Intel-Altera deal, Lattice and Xilinx are the only reasonably-large standalone companies left in the programmable chip industry. CEO Billerbeck said he did not think Lattice was an immediate takeover target, given the chip industry’s current focus on large acquisitions. “However, that can change rapidly,” Billerbeck said. A Lattice spokesperson later clarified that the company was “not for sale” at the current time (i.e., the company is not actively seeking buyers), but that Billerbeck was simply stating the obvious when he said that it would be management’s fiduciary duty to shareholders to consider a buyout offer.

NMI Holdings reported a first-quarter net loss of $7.8 million, or $0.13 per share, compared to a $15.1 million or $0.26 per share loss in the prior year’s quarter. Despite a typically weak season, total NIW came in at $1.7 billion, up $354 million compared to 2014.

Primary flow new insurance written (NIW) increased 23% to $1.15 billion. Management was also optimistic about the release of final PMIERs (Private Mortgage Insurer Eligibility Requirements), which should improve the private mortgage insurance market.

Analysts at BTIG Research reaffirmed its “buy” rating with a $10 price target. According to Zacks Investment Research, NMI has a consensus rating of “strong buy” from the three brokers that cover the stock, with a consensus price target of $11.83, an upside of 47% to its current price.

Sanderson Farms reported second-quarter earnings jumped 41.6% to $3.13 per share, but missed Zack’s estimates of $3.50 EPS. Revenues for the period rose 8.5% to $716.6 million. Operating margins improved 340 basis points to 15.3% as the company benefited from lower feed and grain costs. Feed costs for its flocks processed fell 11.8% during the quarter.

Market prices for chicken parts have been mixed. While jumbo wings were 40.3% higher than in 2014 the average market price for bulk leg quarters fell 20.3% during the same period.

Overall, demand for Sanderson’s chicken remained strong and it was able to see growth in its food service segment for the first time since 2008 driven by lower gasoline prices and improving economy. Management believes the summer season will bring higher demand for chicken which will support its revenue and margin growth.

Momentum Portfolio

Chase Corp. (NYSE: CCF) continues to refine its product line to ensure profitability going forward.  On February 2, 2015, the specialty chemical maker purchased two product lines from Henkel for $33 million.  One of these products is Dualite, a microsphere product used in automobile coatings to reduce emissions and enhance fuel efficiency.  Both new chemical lines are considered green products as they are raw materials that that help reduce water consumption and produce less greenhouse emissions in their final products.  This purchase follows the company’s sale of its Insulfab aerospace product line in October 2013.

Second-quarter results, released April 7th included only one month of earnings from the newly acquired product lines.  Growth of 2% in revenue should accelerate as Chase includes revenue from the new products for the entire quarter in the third and fourth quarter of this year.  Although gasoline prices have dipped recently, automakers continue to be on the hunt for ways to improve the fuel efficiency, a trend that should benefit sales from the Dualite line. Debt remains low as the company used cash on hand to fund their new purchase.  Earnings for the first half of the fiscal year equalled $1.18.  Excluding acquisition charges earnings were $1.22.  

Chase family members continue to hold on to their shares, with roughly 27% of total shares under their wings (page 2).  This includes the large holding of the  Edward Chase Trust. As industrial firms search for new ingredients to lower costs and improve the functionality of their products Chase should continue to prosper.  The stock, which is part of the Roadrunner Momentum Portfolio, is up 13% year to date and up 23% since our inclusion to the portfolio on January 20, 2014.

China Biologics (Nasdaq: CBPO) continues to be a superstar in the Roadrunner Momentum Portfolio. Although the stock is up 72% since our inclusion on January 13, 2015, industry trends point to continued and even improving fundamentals.

The company has benefited from the stringent controls on plasma production put in place by the Chinese government.  As one of the few approved manufacturers of albumin and IVIG, critical blood transfusion and inoculation treatments, China Biologics is reaping huge profits.

First-quarter financials, reported May 10th, saw revenues of $70.4 million up 25% and earnings per share of $0.87 up 26% year-over-year. Cash from operations for the first six months of the year was up an astounding 43%. A new manufacturing approval gained last December has allowed the company to ramp up production of its products.  Revenue from IVIG products comprised 47% of revenue and grew 60%. Cash continues to pile up with quarter end balances of $158 million and $92 million net of debt owed.

Although China Biologics’ livelihood is at the mercy of the strictly controlled Chinese regulatory framework, recent changes point to higher profits.  A recent ruling to deregulate retail price ceilings of drugs will take effect June 1, 2015.  To date, China Biologics has prospered primarily due to volume increases of drug sold, with pricing remaining relatively flat. On the company’s first-quarter conference call, CEO David Gao commented on this recent change:

Although it is still early to speculate implementation details and timeline for different regions or to assess the impact of the price ceiling removal on our plasma products, we believe this deregulation move should be a favorable policy development for our industry and business in the long term.

Expectations of 30% earnings growth in 2015 and 20% in 2016 could be conservative if prices for IVIG and albumin are allowed to rise. In the meantime demand from distributors supports continued growth. The stock trades at a P/E of 26 times the 2016 estimate, a generous but deserved multiple for a company growing so quickly.

Gentherm (Nasdaq: THRM) was your best friend last winter if you live in the Northeastern U.S. The manufacturer of heated steering wheels and seats has extended its reach into more and more car models over the years. Unfortunately for investors, their ride with the stock has not been as comfortable as for those in a cozy sedan.

The stock, which was added to the Roadrunner Momentum portfolio on September 10, 2014, dropped 40% to a low of $33 mid-winter.  The selloff was due to a significant deceleration in Gentherm’s revenue growth.  This was a result of a completed launch of several car models.  As Gentherm adds a new model for a particular customer, revenue charges higher as a whole fleet is outfitted with its thermal control devices.  However, once that rollout is complete, growth retreats to mimic new car sales for that particular line. Gentherm enjoyed revenue growth as high as 31% in early 2014 as it worked through launches for Jeep’s Grand Cherokee and GM’s full size truck, the K2XX.  As those launches completed, revenue growth stumbled to 13% in the final quarter of 2014 and 7% in the most-recent first-quarter results.  First-quarter earnings growth remained robust, however, at 20%.

Gentherm’s stock has rebounded nicely.  It is up 62% from the December low and is now up 3% from our recommendation. Estimates for 2015 and 2016 now reflect a lower growth rate, helping to insulate the stock against any earnings misses. Inclusion in the S&P600 on March 31st also helped to support the stock price.

Gentherm is currently priced at 19x 2016 estimates, exactly in line with its expected 19% growth rate.  A new program for Ford’s newly designed Mustang could lift growth above that level.  Improved action in the Euro could also bolster growth.  More than half of Gentherm’s revenue comes from outside of the U.S. with the weaker Euro (a temporary factor) dampening results.

Hill-Rom reported second-quarter adjusted diluted EPS rose 6.6% to $0.64, compared to $0.57 last year. Revenues for the quarter rose 14% to$475 million compared to the prior year due to its acquisition of Trumpf Medical and strong international revenues growth. 

Domestic revenues rose 13% to $297 million while international revenues jumped 36% to $178 million with Triumph contributing to both regions.

Surgical and respiratory care revenues jumped 83% to $120 million driven by Trumpf’s contribution, but only posted 1% organic growth after six consecutive quarters of 5% or higher organic growth. The company noted the weakness was due to tougher comparisons resulting from new production introductions in 2014, specifically its Allen Advance Spine Table and MetaNeb.

Management raised its full-year adjusted EPS outlook to $2.50 to $2.54 from a prior range of $2.44 to $2.50. It lowered its revenue guidance growth between 10% and 11% from a prior guidance of 11% to 12% due to a 6% negative currency impact, compared to prior impact of 4%. Cash flow from operations for the full year to be approximately $250 million, unchanged from prior guidance.

OmniVision announced fourth-quarter earnings per share fell 62.5% to $0.10 but topped Zacks estimates of $0.06. Revenues for the fourth quarter slipped 2.2% to $285.9 million, but also came in ahead of Zacks estimates of $279 million.

For the full year, revenues came in at $1.4 billion, compared to $1.5 billion in fiscal 2014. Fiscal 2015 GAAP Net income was $93.4 million, or $1.57 per diluted share, compared to $95 million, or $1.70 per diluted share in 2014.

The company expects first-quarter fiscal 2016 revenues of $310 million to $340 million and GAAP new income per share of between $0.17 and $0.33 per diluted share. Analysts at Wedbush raised their buy target from $27 to $29 while maintaining a “neutral” rating. 

In early May, OmniVision entered into an agreement to be acquired by a consortium of Chinese investment firms led by Hua Capital Management for $1.9 billion.  The transaction is still subject to approval by OTVI shareholders and regulatory approvals in both the US and China.  The deal is expected to close in the third or fourth quarter of fiscal 2016.

Taro Pharmaceuticals (Nasdaq: TARO)  reported quite impressive fourth-quarter results. The generic drug manufacturer generated a 30% jump in revenue and a rip-roaring 69% increase in earnings per share.  For the year ending March, growth was slightly less robust but remarkable none the less.  Revenue grew 14% and earnings per share increased 39%.  The stock, however, is down 4% year to date and up only 2.5% since our December 15, 2014 addition to the Roadrunner Momentum Portfolio.

Taro is valued with a PE of 11 times 2016 earnings, a conservative valuation for a company that has reported such powerful growth.  The reason for such a low valuation is the uncertainty attached to Taro’s product portfolio due to management’s conservatism. A shift in industry forces may also limit growth going forward.

Generic drug companies as a rule are quite secretive about their product portfolios.  The drugs for which they have submitted applications to the FDA for approval are by nature off patent.  As generic drug companies have little intellectual property to protect them against other competitors in the market, they like to remain quiet about which drugs will be hitting the market in the near future. In addition Taro has not been very investor friendly in the past.  The company hosted its first ever investor conference call back in November 2014 but has been hesitant to provide much detail on growth expectations.  As management slowly migrates to a more open dialogue with investors, the stock may get a lift.

In addition to not knowing the value of the products Taro has in its pipeline, investors are also worried about how sustainable Taro’s revenue growth is going forward. All of Taro’s revenue growth has been generated by price increases on current drugs sold.  Volume of drug sold decreased slightly for the year ending March.  Management clearly notes this is a risk going forward.  In the fourth-quarter press release, Taro CEO Kal Sundaram calls out increased competition and price pressures from customer consolidations as issues that are already impacting earnings.

He is referring to the overwhelming trend of mergers in the prescription benefit manager (PBM) space.  United Health’s March 2015 purchase of Catamaran, a national PBM, was the latest in a wave of mergers that started in 2007 when CVS acquired Caremark.  In the face of escalating drug prices, insurers and PBMs have been banning together to gain pricing leverage over drug manufacturers. While most of this clout will be directed at controlling the skyrocketing prices of specialty drugs, there will certainly be some price pressure on generic drug manufacturers. It may take some time for Taro’s stock to reflect its growth potential, but its low valuation reduces the risk of holding it until the smoke clears.