LGD - Legend Corp

[Lizard]

Legend Corp (LGD) announced recently as on track for FY06 NPAT of at least $6.6m. Today announced the acquisition of Cabac (electrical wholesale goods) which I calculate could add a further 2-2.5cps to 2007 earnings i.e. could be worth about 30cps to the share price.

Manufactures and sells memory modules and memory based consumer electronics products. Markets in Aust, NZ, SA, Hong Kong, S'pore, Thai, Eur. Manufacturing in Australia and S'pore. Diverse customer base including Acer, Xerox, Dell, Volante, Optima, plus merchandise sold through major retailers like K-Mart, Harvey Norman, Myers etc. Following was calculated at recent sp of 74cps, but up a bit today.

* Market cap $68m
* P/E for year to June on track for around 10 - could be below.
* Revenue forecast up 18% to $200m
* NPAT forecast up 40% on 2005 ($4.7m)
* Rolling year divs of 3cps - yield 4.1%
* Acceptable debt levels - NTA approx 36cps at HY.

Biggest issue is lowish margins - though increasing. Also, working capital increases were substantial in half year, requiring additional capital raising. Need to keep an eye on their working capital management.

Lots of growth initiatives through new products, new distribution agreements, plus geographic expansion.

Bought a few recently at 71cps. I value at $1.15 ps.

[Lizard]

Presentation yesterday included a forecast of 15% growth in earnings for both Legend and new acquisition, Cabac. Based on that and allowing an interest cost for the Cabac acquisition, would be looking at NPAT equivalent of $10.2m or 2007 P/E of 7.0. However, acquisition will be partially equity funded, which raises both figures slightly.

Valuation $1.15 - $1.25.

Holding up at 80cps and looks like a bargain.

[Lizard]

LGD has fallen back to below 70cps since I posted on it. Although I'm uncertain as to longer term potential, it is certainly going to look cheap when they post the FY result of at least $6.6m NPAT - confirmed several times and putting them on FY P/E of 11.5 allowing for the recent share issue. But pro-forma including recently acquired Cabac must be closer to P/E 8.8.

Just another in my pile of under-valued small-caps that stand a good chance of a re-rate in results season.

[Lizard]

LGD reported NPAT of $6.7m yesterday, in line with forecast. Cabac was acquired after June 30th and therefore not included, but had EBIT of $5.5m. Allowing for interest on the purchase cost of $25m, the pro-forma NPAT for combined group is estimated at $8.9m. This gives a fully diluted P/E of 8.7 at yesterdays price of 71cps, with further strong growth expected. Final dividend of 1.5cps means yield of 4.2%.

However, negative operating cashflow and expansion of debt to fund working capital and CABAC acquisition would suggest caution. The increase in inventory has been disproportionate to the increase in sales and levels seem very high. The company statement says "The opening of our new Singapore factory and the addition of many new higher margin products has contributed to a significant increase in our working capital position".

While the company remains sound, I suspect the market may want reassurance that the high inventories are not just a prelude to the write-off of obsolete stock and that the debt position will be managed appropriately.

[Lizard]

Went ex-dividend this week and then staged a small recovery on good volume. Could be thinking about breaking out. Put it on the watchlist for a possible trade.

[OneUp]

Hi Liz,
P/E of 9-10 for a business like this seems fair.

Do you have info on LGD's track record? (sales, profits, profit margins).

Without knowing much about LGD, sounds from your description like CLT, which the market with good reason has awarded a low PE.

Why does it deserve a higher PE?

Can we confident this expected increase in earnings will be permanent?

(As a former shareholder I CLT, I found it a bit frustrating to see one year's $10m profit turn into $4m...)

[Lizard]

Hi One Up. Do not have time to completely answer your questions, as also trying to entertain 5 children, so excuse a short answer for now...

I think P/E of 9-10 is a little harsh and am interested on what basis you say that. Also, I think the forward P/E is closer to 7 based on indications of expected growth.

I have already mentioned my concerns with working capital management, but don't consider it poses an immediate danger at this point. It needs to be watched.

My last post was really just meant to point out the possibility of a short term trade on price action. At this point in time, they will be coming up to the agm (not sure what date) and most likely to get indications of an 06/07 year profit well ahead of last year. We should have a few months before anything can go wrong, so seems like a safe trade. Just my thoughts.

[Lizard]

Some more data for you One Up.

Legend formed in 1987, listed in Mar 2004. Prospectus shows revenue and EBIT from 1999 onwards. Margins look to have had a hiccup in 2001 and revenue static from 2000-2002, but otherwise yoy growth in revenue and EBIT. Compounded ave revenue growth over the 7 years to 2006 is 26% (excluding CABAC). EBIT growth compounded at 33% pa. However, it is difficult to know how much of that growth was bought via new equity.

Historical EBIT margins roughly in the 2.5-4.0% range, but 2006 at 4.8% and, with CABAC result included would have been 5.9%.

EBITA/total assets ratio of 16% suggests there is enough margin for profitable debt funding.

By comparison, at peak of $9m NPAT, CLT had EBIT margin of 3.3% and EBITA/total assets of 10.4%, which left a little less wriggle room with the debt.

[OneUp]

Hi Liz,
having difficulty with Adobe at the moment so can't browse the final report.

PE of 9-10 isn't necessarily cheap if it earns $9m one year, but loses $4m the next. Very low (2%) margins (basing this on 1H06) suggest a slight change in industry conditions could wipe out this year's profits. So some info on earnings variability and sensitivity to changes in economic conditions is important from that perspective, IMHO. From your description LDG came across as a commodity business with no competitive advantage, and in a very competitive sector.

P/E of 7.0 might be undervalued, if confident they will meet forecast and the earnings are "clean" (though in the electronics industry big inventory write offs are presumably common? Bit of a worry with the build up, as you noted).

Don't know much about this company so just trying to generate discussion .

[Lizard]

Good to see from today's update that they have reduced inventory by $4.6m (excluding CABAC inventory acquired) and were operating cashflow positive ($1.3m) for this "seasonally slow" quarter.

CABAC performing to plan and in line with historical levels of growth.

Seems they are planning to focus on growth in margins rather than revenue growth at this point.

Recent purchase was by Thorney holdings. I'm still waiting patiently for the market to re-rate this one. Yawn!