Tuesday, 29 December 2015

The "FANG" economy vs. the real economy, and why I bought Hyster-Yale today

A quick post on "FANG" vs. a real nuts and bolts out of favour business.  This is a rant, so I'm going to apologize in advance.

First off, let me say that I think FANG" is a joke.  I think it's a joke that "FANG" is an acronym that actually exists.  I think the various components comprising "FANG" are a joke, and I think that it's an ever bigger joke that Wall Street pushes that buying a "FANG" basket is emblematic of investing.  In my opinion, it isn't, and it will never be. Buying "FANG" is no different than buying any of the Nifty-Fifty stocks back in the 1970's.  It will be an interesting exercise to check back on "FANG" at the end of 2016 to see whether Amazon added another +50% (+$160B in market cap) by next year's end.

Were it not for the performance of "FANG" in 2015, SPY's YTD performance would be materially worse than it currently is.  But this is the game we play, and our job as (hopefully) intelligent investors, is to ignore fluff.  And "FANG" is the epitome of fluff.

Here's "FANG" today, on the second last trading day of the year.  Although I don't particularly like to comment on day to day moves (I'm certainly not qualified to do so), I believe what we're seeing today is the stampede effect of performance based managers chasing all of the "FANG" names up to all time historical highs in a concerted effort to show either on-par performance with SPY or out-performance relative to SPY for the year on their books.  Compounding this effect on the lowest volume days of the year? Everyone in market looney-land who's a trend follower / breakout chaser jumps on the "perceived" movement and a breakout becomes a self-fulfilling prophecy.

Now, onto Hyster-Yale (HY):

I stumbled across HY as it hit my new 52 week low list a # of times in the past couple of months. The company makes forklifts / lift-trucks.  It was a spin-off from Nacco Industries in 2012.

Here's the chart (it ain't pretty).  I've superimposed the price performance of FDN (First Trust Dow Jones Internet ETF, proxy for "FANG") vs. Hyster-Yale over the last two years.  While "FANG" is up close to 30%, Hyster-Yale is down close to 50% over the same period.  "FANG" is the new economy.  Hyster is the old economy.  The old economy is industrial equipment.  The new economy are the disruptors in the "FANG" basket, worth whatever the next greater fool will pay today for borrowed future growth.

So what are the problems with Hyster-Yale?  You name it:

  • Industrial equipment manufacturing
  • Highly cyclical
  • Significant exposure to currency swings
  • Limited market for lift trucks
  • Longevity of lift-trucks in service (these things last a loooong time)
  • Limited to low growth
  • Low overall margins (both gross & op margins)
  • Nothing to do with the internet, so not "FANG", therefore pretty much ignored or sold in favour of "FANG"
  • Recent spin-off from Nacco Industries (2012)
  • Piddly market-cap (just under $1B), so too small to matter

Here's what appealed to me:

  • The company trades at 10x ttm, and 11x fwd earnings, although they recently warned about softness in the lift truck market going forward.
  • Minimal debt vs. cash on hand of $115M, equivalent to about $9.30 per share
  • Current assets less "total" liabilities were $205M, equivalent to about $16.55 per share.  If the stock got down to $17 from here, you'd be buying the business for free.  Let's say liquidation value is $16.55.  Current price less liquidation value for going concern business is $36.45.
  • Buried in the most recent investor presentation (link here) was a summary of an interesting sounding business development.  The company purchased and has been further developing a Hydrogen Fuel Cell business aimed at powering lift trucks (among other applications).  The development costs have been eating into operating income, so my job is to attempt to stratify what each business piece is worth.  
  • As per 2014 10K, the company expected to spend between $40M & $50M developing and commercializing the fuel cell business over the next 2-3 yrs.  This is a use of free cash flow that would otherwise be retained &/or distributed to shareholders.

For me, this becomes a question of attempting to value what I know, not what I do not know.

First, I know that ttm op cash flows were $90M.  $90M includes the spend on Nuvera.  I'm going to add back the total 2015 as-guided loss on Nuvera of $17M (after tax), to get estimated op cash flows of $107M.  Less capx of $46M gives me estimated free cash flows of $61M.  Over the last few years, free cash flow has dropped from $116M down to $50M.  I'd hazard a guess that a good chunk of the use of free cash flow relates to Nuvera.  The company has also upgraded it's IT systems over the same period.  Let's say average free cash flow over the last 3 years is $92M.

Assuming zero growth in lift trucks, and a 12% required return, FCF's = $92 / .12 = $766M, compared to current EV of $797M.

So, at a high enough discount rate, I'm basically buying perpetual free lift truck cash flows at current EV pricing in zero growth, and I get any future Nuvera growth for free.  Put another way, the market is pricing zero growth for Nuvera, and I'm willing to allocate capital into this situation.

Concluding Thoughts

It's funny how the business of selling the "sex-appeal" of investing differs entirely from the act of investing.  The market really is a looney-bin.  On the one hand, you have performance chasing short term group-think piling into "FANG" at ridiculously unsustainable valuations.  Does anyone with half a brain actually think that paying 43x EV/EBITDA for Facebook, 45x EV/EBITDA for Amazon, 20x EV/EBITDA for Google, and 134x EV/EBITDA for Netflix will actually result in sustainable alpha beyond the short term?

The entire approach to capital allocation is backwards.  The market bids anything and everything in favour up to unsustainable valuations, while dumping anything out of favour with no regard for attempting to uncover value.  There is a theoretical valuation limit to the pendulum of insanity and it's swung to the extreme upper limit in terms of favouring "FANG".  In the case of Hyster-Yale, I believe the pendulum of pessimism has swung the other way, although this is not to say it won't get cheaper in the short term.

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