Monday, April 18, 2011

Seeking Alpha Pro Tech

Last time Alpha Pro Tech was discussed on this site (about one year ago), investors were warned to be wary of the company's current earnings because of a one-time spike in revenue. Alpha Pro Tech (APT) makes a range of protective products, and demand for its face mask spiked last year as fears of an H1N1 breakout spread. Now that revenue has dropped back down to normal, however, it appears that the market may have overreacted to the downside, as the stock is down more than 60% since that article and more than 80% from its 2009 peak.

APT now trades at a price to book value of about 0.8, despite profits over the last business cycle that are reasonable compared to invested capital. This gives the investor solid downside protection, as the company approximately trades for its net current assets despite a history of positive net income.

The reason for the low stock price is likely due to low current earnings, as the company barely eked out a profit last quarter. In addition to having to deal with the drop in demand of face masks, the company was recently dealt a blow by its major distributor, which decided to compete with the company on certain products. This distributor represented almost 30% of sales in 2009 (this is a major risk, as previously discussed), but now represents only 14% of the company's sales, which should result in much more stability going forward.

The company also appears to be taking shareholder-friendly steps to get the company back on the right track. It sold its money-losing pet bed business two months ago for its inventory at cost plus Goodwill. When a company trading at a discount to its book value converts assets into cash, it usually reduces the investor's risk. APT has also been consolidating its manufacturing facilities in an attempt to cut costs. Furthermore, perhaps recognizing that the shares are cheap, the company recently increased its share buyback authorization.

But can the company get back to the level of profitability it has shown in the past? There are some reasons to be optimistic. The company's Building Supply segment has quadrupled in revenue since 2007 despite a very weak housing market, and contributed a record $2.4 million to the company's income in 2010. As a result of strong customer response to the company's roofing products, management has increased inventories for this segment in anticipation of even higher sales in 2011. If you slap a 10x multiple on the 2010 figure and add the company's cash balance, this gives a valuation of $29 million, which is what the entire company trades for! From this vantage point, the investor is receiving the other two segments (Infection Control and Protective Apparel), which are historically APT's most profitable segments, for free!

The investor's path to prosperity through this stock is not without risk, however. In many product lines, APT competes with several companies with larger scale and financial clout. Furthermore, management's bonus structure provides clear incentives to grow the company's operating income; attempts to grow profits are not always in the best interests of shareholders, as there is a risk that management will seek to enlarge the company at low rates of return on capital. At the current price, however, the market may be offering shareholders three profitable business lines for the price of one.

Disclosure: Author has a long position in shares of APT

1 comment:

Anonymous said...


The Globe and Mail's Boyd Erman is reporting that Genesis offer may not go through. He offers no explanation, just an observation based on market's reaction.