Thursday, March 31, 2011

Tecumseh: Competitive Enough?

Tecumseh Products (TECUA) is a Michigan-based manufacturer of compressors for a variety of applications, including air conditioners, freezers and refrigerators. The stock has taken a pounding since the recession, having fallen more than 70% from its 2008 peak.

Tecumseh trades for less than half of the company's tangible book value. A company trading at such a hefty discount to book value is usually in deep trouble, but Tecumseh has zero net debt.

The company's problem, however, is its profitability, as Tecumseh has operating losses in each of its last three fiscal years. But as we've discussed before, earnings and cash flow can be very different at times, and that may be the case here. The company spends tens of millions less in capital expenditures than it books in depreciation. If it is able to continue on its current course, Tecumseh could actually generate several million dollars of free cash flow in the current quarter.

But counting on continued under-investment (relative to depreciation levels) may be a dangerous assumption. The industry in which Tecumseh operates is capital-intensive, and should require relatively large investments in equipment. Of course, it is possible that the company is systematically over-conservative in determining its depreciation rates, but it is also possible that the company will require large future investments to make up for current under-investment.

On this subject, the company does offer some information. It expects capex to average between $20-$25 million in the future, which is nearly double what it is now, but still way below (as in almost half of) historical depreciation rates.

While lower investment rates do increase free cash flow, they could also result in a drop of the company's competitiveness. The companies that are willing to invest could come up with products that are better and more efficient than are Tecumseh's. Tecumseh's two largest competitors (Danfoss and Copeland) are private, so not much info can be gleaned of their levels of investment; but Danfoss does appear to have a technological edge, having made the world's first oil-free compressors (which are thus 33% more energy efficient than standard compressors) for the HVACR industry.

Tecumseh is clearly cheap, but is it generating free cash flow at the risk of its future competitiveness? Only if this company falls within the value investor's circle of competence can he answer this question. Otherwise, he risks buying into a situation that may get worse rather than better.

Disclosure: No position

9 comments:

Paul said...

Saj,

are you going to the berkshire meeting this year?

Anonymous said...

may be worth digging into more. I would imagine the phase out of R22 lead to a pretty big drop off in equipment sales. thanks !

RAYHAAN said...

HEY SAJ,
TS BEEN ALMOST A MONTH AND NO FRANK AND SAJ?
DID U GUYS BREAK UP OR WHAT?....LOL

Anonymous said...

Your writing template(s) are just pathetic:

The Stock Template
1. Pick any company.
2. Describe its operations.
3. Discuss a few very basic points about the business and industry.
4. Tell the reader that, only he can decide whether the stock is cheap or not.

The Book Template
1. Pick any book on investing.
2. Provide a short summary of the first chapter.
3. Create another post.
4.Provide a short summary of the second chapter. And so on and so forth.

juan said...

I disagree with the points made by Anon above. Here's why (sorry to write all caps - had to differentiate my writing from Anon's).

The Stock Template
1. Pick any company.
IT'S NOT ANY COMPANY, BUT ONE THAT IS INTERESTING FROM A VALUE INVESTING PERSPECTIVE.

2. Describe its operations.
WHAT DO YOU WANT SAJ TO DO? NOT TALK ABOUT WHAT THE COMPANY DOES? OR MAYBE DESCRIBE THE OPERATIONS OF A COMPLETELY UNRELATED BUSINESS?

3. Discuss a few very basic points about the business and industry.
IN MY EXPERIENCE, MOST GOOD INVESTMENT IDEAS HINGE ON ONLY ONE OR TWO FACTORS. SAJ IS VERY GOOD AT HIGHLIGHTING THOSE. BASIC, MAYBE, BUT ALL IMPORTANT.

4. Tell the reader that, only he can decide whether the stock is cheap or not.
YES, BUT HE ALSO TELLS THE READER WHETHER HE THINKS IT'S CHEAP/DEAR/CAN'T SAY.

The Book Template
IT'S CALLED A BOOK SUMMARY, BECAUSE THAT'S WHAT IT IS. AND YES, HE SUMMARIZES BOOKS CHAPTER BY CHAPTER. WHAT'S WRONG WITH THAT?

Paul said...

anon,

Saj does a lot of great education. This is by far one of my favorite blogs. I'm here almost everday. He does disclose when he owns a position. If he doesn't feel he has a good understanding of the company, he is intellectually honest enough to admit it. But, he'll share a possible idea with those who may have a good understanding of that business or industry.

do you expect him to guide you like a sheep and say "buy this at X and sell at y?"

He also doesn't just post about stocks. He has a bunch of useful information about behavioral finance and other great investors, too.

if you are a decent investor, feel free to start up your own blog and make your decisions public. You are not providing any constructive feedback for this blog at all.

As the kids say "haters gonna hate."

Saj Karsan said...

Hi Paul, I've never actually been to one, and no I'm not going this year either.

Hi Rayhaan, I substituted today's post for it instead!

Hi Anon2, looks like you've got me figured out! You are right that I will never tell you to buy or not buy a stock; that's your decision!

Thanks, Juan and Paul!

Daniel said...

I think your blog is great. Short and concise, just like it should be.

Keep up the good work!

k2 said...

anon, i like this saj's blog. You apparently don't but read it enough to detect a pattern. I find that curious. If you object to the template(s), are there blogs that you like? Please share. I think this blog is excellent, and if you know blogs that you consider better, or far better, I genuinely would like to know about them.

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