In November, I purchased shares in a company that had previously announced that it was losing its only customer. This company’s management openly mused that it would shut the doors at the end of 2014 if it couldn’t find any other business.
Management has been looking for additional customers for months now, even going as far as hiring investment bankers to aid in the search. As the months have gone by, it appears this company will very well close its doors at the end of the year.
Why would I buy shares in such a company?
The company in question is Automodular (TSX: AM), a small specialty auto parts manufacturer based in Ontario. Automodular’s business is very simple. It manufactures parts for four Ford model vehicles at its plant located near Ford’s Oakville, Ontario, factories. This is because parts are made on demand, being delivered the same day as they’re produced. Ford has indicated it will move this production in house at the end of 2014.
Because the company’s operations are so simple, Automodular is an easy company to value. Once you delve into the numbers, the investment makes all sorts of sense. Essentially, Automodular is a perfect example of a low-risk way to buy a dollar for 80 cents.
The company has a market cap of $44 million. Current assets include $35.9 million of cash, $15.8 million in accounts receivable, $780,000 worth of recoverable income tax, and $930,000 in prepaid assets. It also owns real estate and equipment valued at $4.4 million, deferred income tax of just over $1 million, and $200,000 in other assets. The company’s total assets are $58.365 million.
Liabilities are minimal. The company has set aside $8.9 million in provisions for costs related to the potential shutdown, and it has $5.7 million in accounts payable. Total liabilities are $15.2 million.
Book value is $43.1 million, a full $1 million below the current market cap. So, again, why am I excited about this company?
Because it’s really easy to predict future cash flows.
Ford is expected to keep production out of Oakville approximately the same as in 2013. Since it’s Automodular’s only customer, we can expect revenues and earnings to be largely the same. 2013’s revenue was $84.6 million and net earnings were $10.36 million.
It’s reasonable to assume the company can repeat these numbers. Since operations are expected to wind down at the end of the year, any plant maintenance will be minimal. Money has already been put aside to cover shutdown costs. Management is being proactive.
If the company can repeat last year’s earnings, then I bought a company for $44 million that has $43.1 million of net assets and is likely to produce $10.3 million in earnings. That’s a 21.3% return.
There are a couple of wild cards as well. In 2010, Automodular had a contract with General Motors doing the same thing as it does for Ford. GM severed the contract and turned to one of Automodular’s competitors to do the work. The company feels the contract was wrongfully terminated, and is seeking $25 million in damages. Winning this lawsuit would have a huge positive impact on Automodular’s share price.
There’s also the possibility the company picks up additional orders. In 2012, the company picked up a contract to make specialty parts for turbines, and is actively looking for additional business. If it can pick up more work, that should be positive for shareholders as well.
The company has also caught the attention of institutional investors. Mutual fund giant Franklin Templeton owns 16% of the company, and U.S. based hedge funds Steamboat Capital and Gobi Capital own a combined 6.9% of the company. These big investors wouldn’t be invested in the company if they didn’t see significant upside.
Foolish bottom line
On the surface, an investment in Automodular seems crazy. But once you take a closer look at the numbers, there’s a potential upside of at least 20%, with the chance for a huge win if the company’s lawsuit against General Motors pans out or if it can manage to pick up additional business.
It’s an interesting situation. I’m hoping the company can continue operating, but I’ve never been more OK with investing in a company that could close up shop.