If your starting point for investing is not to lose money -- à la Warren Buffett -- then a company whose valuation is covered over 80% by cash has to be worth consideration.
Over the past couple of years, Filtronic (LSE: FTC) has streamlined itself and turned huge wodges of cash to shareholders. It now concentrates on what it's historically been best at – "Point to Point Communications". The product range includes transceiver modules and waveguide diplexers -- and where would we be without those eh!? Anyway, whatever they are, Filtronic is good at supplying them. This area of the business has been growing like topsy, almost doubling sales between 2007 and 2008.
Filtronic has state-of-the-art manufacturing facilities in Newton Aycliffe for transceiver products and Shipley for the waveguide diplexer products and invests heavily in technology. Its customers are original equipment manufacturers supplying wireless products worldwide. So it's not hard to see why a company with a proven track record in successfully providing products for the wireless communications industry has been doing so well in its niche.
Cash is king
When I wrote about Filtronic in July 2007, the shares stood at 142.75p. But since then, the company has returned 160p in cash to shareholders, paid up its pension scheme, raised over £27m from disposals, had a possible takeover approach that was eventually withdrawn, and managed to turn in a reasonable operating profit from the remainder of its business. Not too shabby for loyal shareholders given these tough economic times.
At the last count, the company still had cash of £15.8m, net assets of £21.6m, made an operating profit from continuing operations (the "Point to Point" business) of £1.8m over six months, on sales of £18.3m -- yet is valued at just £19.5m at its mid price of 26.25p. Consensus broker forecasts are for earnings per share of 4.35p for this year which, if achieved, would put the shares on a price-to-earnings ratio of a smidgeon over six -- but a mouth-wateringly low rating of 1.16 against enterprise value -- i.e. taking out the cash.
What next?
Of course, it's a big "if". Filtronic certainly won't be immune from the downturn, but the cash offers huge downside protection. The company has said it expects weaker demand, but that it has taken steps to reduce overheads. At the half-way stage, Filtronic's expectations based on the then indications of customer demand were that trading in the second half would be around breakeven and cash neutral.
The company was also keen to stress that it is maintaining its investment in technology and new product development to enable it to respond to a recovery in the market.
A share that has it all
So is this leading edge business in a growth area really worth just £3.7m, taking out the cash? Of course, life isn't that simple. The company could start to draw on that cash if trading starts to deteriorate more than expected. Or the directors could blow it on the kinds of unwise acquisitions we've seen plenty of in the technology and banking sectors over the last few years. But judging by their track record, it hardly seems likely. In fact, what seems far more likely judging from recent history, is that the management will trade sensibly and cautiously in the tough environment, taking decisions that will help preserve value and position Filtronic nicely for any upturn. And with broadband wireless products gradually becoming akin to utilities in many ways, demand isn't going to disappear.
Timing may be crucial, however. You wouldn't exactly fall over with surprise if Filtronic next market news wasn't 100% bullish. And if that is the case, it may well knock the price. These are all "ifs and buts". Perhaps the wisest course of action for the long-term investor is to invest gradually, topping up on any weakness? After all, in many ways, this is a share that has it all; cash backing, growth prospects and an enviable track record.
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