This Juvenile Stock Has A Low Margin of Safety

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

Do you feel bad when you miss a significant price rise in a short period of time? Should you join the long list of “momentum buyers” that anticipate further increases in the future, or should you just ignore it? My advice, price alone means nothing, you need to look at the fundamentals of the business to figure out whether the current price undervalues or overvalues the company’s future business potential. One example of this rise is Dorel Industries (NASDAQOTH: DIIBF). Dorel had been beaten down to $20.90 in September 2011, and has advanced to $37.80 in November, creating a gain of nearly 81% in just more than a year.  Let’s look at Dorel’s fundamentals to determine our course of action.

Dorel is a Canadian based company, which sells juvenile products and bicycles in around 22 countries; with three main operating segments: Juvenile, Recreational/Leisure, and Home Furnishings. In 2011, out of $561.6 million in revenue, nearly $240 million came from the Juvenile segment, accounting for 42% of the total revenue, whereas Recreational/Leisure and Home Furnishings segment contributed $202.4 million and $119.7 million to total revenue, respectively. The largest customers of Dorel have been major retail chains including department stores, home centers, and mass merchant discounters.

In the last 10 years, Dorel has been growing its revenue and earnings per share at a quite decent rate, along with maintaining a consistent number of shares outstanding during this period.

<table> <tbody> <tr> <td> <p><em>USD million</em></p> </td> <td> <p><strong>2002</strong></p> </td> <td> <p><strong>2003</strong></p> </td> <td> <p><strong>2004</strong></p> </td> <td> <p><strong>2005</strong></p> </td> <td> <p><strong>2006</strong></p> </td> <td> <p><strong>2007</strong></p> </td> <td> <p><strong>2008</strong></p> </td> <td> <p><strong>2009</strong></p> </td> <td> <p><strong>2010</strong></p> </td> <td> <p><strong>2011</strong></p> </td> </tr> <tr> <td> <p><strong>Revenue</strong></p> </td> <td> <p>992</p> </td> <td> <p>1,164</p> </td> <td> <p>1,685</p> </td> <td> <p>1,761</p> </td> <td> <p>1,771</p> </td> <td> <p>1,814</p> </td> <td> <p>2,182</p> </td> <td> <p>2,140</p> </td> <td> <p>2,313</p> </td> <td> <p>2,364</p> </td> </tr> <tr> <td> <p><strong>Net Income</strong></p> </td> <td> <p>62</p> </td> <td> <p>75</p> </td> <td> <p>100</p> </td> <td> <p>91</p> </td> <td> <p>89</p> </td> <td> <p>87</p> </td> <td> <p>113</p> </td> <td> <p>107</p> </td> <td> <p>128</p> </td> <td> <p>105</p> </td> </tr> <tr> <td> <p><strong>EPS (US$)</strong></p> </td> <td> <p>2</p> </td> <td> <p>2.32</p> </td> <td> <p>3</p> </td> <td> <p>2.77</p> </td> <td> <p>2.7</p> </td> <td> <p>2.63</p> </td> <td> <p>3.38</p> </td> <td> <p>3.21</p> </td> <td> <p>3.85</p> </td> <td> <p>3.21</p> </td> </tr> </tbody> </table>

We can see that in the period of 2002-2011, its revenue experienced uninterrupted growth with an annualized rate of 9%. Its net income followed, but with a more fluctuating pattern. Its EPS has grown from $2 in 2002 to $3.21 in 2011, creating annualized growth of more than 4.8%. In addition, Dorel is a quite consistent cash flow generator as it has continued to generate positive operating cash flow and free cash flow in the last 10 years. In fiscal 2011, the operating cash flow and free cash flow were $162 million and $114 million, respectively.

The earnings and cash flow stream seems to be quite stable. However, what worries me is the high level of goodwill and intangibles on its balance sheet. As of September, Dorel had $1.27 billion in stockholders’ equity, $361 million in long-term debt and around $992 million in goodwill and intangibles, including the value of customer relationships and supplier relationships, patents and non-compete agreements. That leads to the low tangible book value of only $9 per share, whereas the shares are trading at $37.00 per share.

Currently, its total market capitalization is $1.17 billion, with the enterprise value of $1.51 billion. It is valued at 10x forward P/E and 8.38 EV/EBITDA. Compared to its peers including Kid Brands (NYSE: KID) and Fortune Brands Home & Security (NYSE: FBHS), Dorel is the only company paying dividends among the three. The dividend yield that Dorel is paying is currently 0.8%. Kid Brands is a much smaller company, with only $37.13 million in market capitalization. It has a trailing twelve month loss, and it is valued at 7.4x forward earnings and more than 29.5x EV/EBITDA. FBHS is the largest company among the three, with $4.88 billion in market capitalization. It is a spin-off from Fortune Brands dated back in the last quarter 2011.  It was quite expensively priced at 25.6x forward earnings and 18.12x EV/EBITDA.

Foolish Bottom Line

The probability of writing off its goodwill and intangibles seems to be low, as its operating performance has been quite stable, but it doesn’t mean that it won’t happen in the future. To me, the current market price doesn’t offer enough margin of safety for investors to invest in the company. I would rather wait for price corrections before initiating positions in this stock.

















hoangquocanh has no positions in the stocks mentioned above. The Motley Fool has no positions in the stocks mentioned above. 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!

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