1 Attractive Small Cap Worth a Look

Arturo is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

The doldrums seem to be over for agriculture machinery and infrastructure equipment as indicated by the May 15 surge of Alamo (NYSE: ALG) to a new one-year high of $44.13. Experiencing steady demand for its agricultural and right-of-way maintenance equipment in the 2013 first quarter, Alamo posted record results for the period. Its net sales rose year over year by 2% to $158.4 million and net income was similarly up 2% to $6.9 million, or $0.57 per diluted share, from $6.8 million, or $0.56 per diluted share.

A Titan justifies its name

Revenue was also up at Titan Machinery (NASDAQ: TITN), which is reputedly the largest retail dealer worldwide for the agriculture equipment manufactured by CNH Global (NYSE: CNH). Titan is also said to be the largest dealer of CNH construction equipment in North America and a major retail dealer of CNH agriculture and construction equipment in the U.S.

Expanding such dealerships to other capital equipment, too, is a possibility. CNH is merging with Fiat Industrial, which will, in effect, create the world’s third-largest capital goods manufacturer valued at around $13 billion. With this merger, Titan stands to have a pipeline to the trucks, commercial vehicles, buses, and special vehicles that Fiat Industrial brings into the merger.

Lingering issues chop profits

For its fiscal 2014 first quarter ended this April, all four of Titan’s business segments -- equipment, parts, service, and rental/others -- posted revenue gains that resulted in a 4.7% increase in sales to $441.7 million from a year earlier.

Titan’s sales for the first quarter, however, were about $50 million short of the company’s expectation as it bore the brunt of some of the issues hounding the industry. These headwinds include abnormally delayed spring weather, cautionary sentiment of some agriculture customers, and continuing challenges in the construction sector.

How farms show the way

The company had a $73.9 million gross profit in the first quarter, up from $70.4 million a year earlier. Hobbled by a $6.5-million pre-tax loss in its construction segment, Titan incurred a pre-tax loss of $1 million in FY 2014 first quarter. Its agriculture segment generated pre-tax income of $8 million.

Moving forward, it is the agricultural machinery sector which can provide the immediate tailwinds not only for Titan, but also for Alamo and CNH. Increased farm capital expenditures can be expected from rising U.S. farm incomes which, as per the Dept. of Agriculture reading, will reach a record of $128.2 billion in 2013, the highest in 40 years. As encouraging, the USDA projects that the country’s agriculture exports will hit a new record of $139.5 billion for FY 2013. Federal analysts expect that farm production increases will more than offset any hike in costs and declines in price.

Looking at figures best remembered

Given these positive factors, CNH is a likely choice for value investors looking for a big cap option in the farm machinery sector. It currently trades at just about eight times its earnings. Nevertheless, its negative levered cash flow as shown in the table below can be a turnoff.

<table> <thead> <tr><th> </th><th> <p><strong>CNH</strong></p> </th><th> <p><strong>Alamo Group</strong></p> </th><th> <p><strong>Titan</strong></p> </th></tr> </thead> <tbody> <tr> <td> <p>Market Cap</p> </td> <td> <p>$10 billion</p> </td> <td> <p>$485 million</p> </td> <td> <p>$404 million</p> </td> </tr> <tr> <td> <p>P/E (ttm)</p> </td> <td> <p>8.32</p> </td> <td> <p>16.28</p> </td> <td> <p>11.90</p> </td> </tr> <tr> <td> <p>Total Cash (mrq)</p> </td> <td> <p>$4.98 billion</p> </td> <td> <p>$33.49 million</p> </td> <td> <p>$114.25 million</p> </td> </tr> <tr> <td> <p>Total Debt (mrq)</p> </td> <td> <p>$18.67 billion</p> </td> <td> <p>$10.62 million</p> </td> <td> <p>$957.05 million</p> </td> </tr> <tr> <td> <p>Operating Cash Flow (ttm)</p> </td> <td> <p>$1.24 billion</p> </td> <td> <p>$48.67 million</p> </td> <td> <p>−$96.79 million</p> </td> </tr> <tr> <td> <p>Levered Free Cash Flow (ttm)</p> </td> <td> <p>−$2.15 billion</p> </td> <td> <p>$44.59 million</p> </td> <td> <p>−$172,30 million</p> </td> </tr> </tbody> </table>

ttm: trailing twelve-month; mrq: most recent quarter

A summation for the small caps

Using the same metrics drawn from Yahoo Finance, Alamo Group looks a better pick against its small-cap peer, Titan. Moreover, the balance sheet and cash flow are not only healthier for Alamo. The company’s shares, with a current consensus target price of $43.50, for the most part of June have been trading under the $40 mark, which looks like a good entry level as this equity rallies along with the rise in farm capex.

With the U.S. relying on the rest of the world for such a large percentage of our goods, many investors are ready for the end of the "made in China" era. Well, it may be here. Read all about the biggest industry disrupters since the personal computer in 3 Stocks to Own for the New Industrial Revolution. Just click here to learn more.

Arturo Cuevas has no position in any stocks mentioned. The Motley Fool owns shares of Alamo Group. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

blog comments powered by Disqus