Why I Own Tachibana Eletech

In my last post I picked up Riken Keiki,  my first Japanese small cap (actually my first stock from an overseas exchange). I bought it for two simple reasons: consistent great earnings and a great balance sheet. The PE is less than 10. And the balance sheet I can illustrate with the following chart. It is quite compelling.

Today, I bought another Japanese small cap for the same reasons: Tachibana Eletech (8159:TSE). This company sells factory automation and electronics equipment for industrial uses. The company mostly sells in Japan but it is expanding overseas, in particular Asia. The company's operating margin is only 13%. And this is the only thing that worries me. But I guess this comes from being primarily a distributor.

Like Riken Keiki, Tachibana Eletech is consistently profitable. Both companies trade at PEs below 10.  Tachibana Eletech's balance sheet chart is also impressive.

I can find almost no news on the company so all my information has to come from the company's website. Fortunately, the site has complete investor documentation in English. I see the company has a large accounts receivable. But the company seems to have no problem collecting on its bills. The company's balance sheet shows a reserve for doubtful accounts that equals only 2% of the total accounts receivable. The accounts receivable is a third of the years total revenue, so the company can get paid in three months, on average.

I believe that Tachibana Eletech is a good company that focuses on its competencies. The company is 90 years old. And it is the type of company that has helped make Japan so dominant in manufacturing.

So, this is the story of my second, but not last, Japanese small cap. I cannot predict my Japanese stocks play out but I expect it will eventually play out well, maybe in a year, maybe in five years or longer. I cannot predict Mr. Market, I can only control what companies I buy and I can vaguely guess how much they will earn.

Why I Own Riken Keiki

I feel investing is a learning and evolutionary process. When I started this blog I thought of myself as a conservative value investor. In the last six months I have evolved into a more aggressive and independent investor. I am now willing to go into less covered areas of the market, in particular small caps. In the meantime I have found a small subculture within the blogging community that covers these cases. On my blogroll on the left you'll see a list of such blogs.

My first smallcap purchases were McRae Industries and Globus Maritime six months ago. Over that period, they have been a mixed bag (+10% and -30%). However, six months is too short a time to tell anything.

The next stock that I found is Riken Keiki (7734:TSE). Riken Keiki makes devices that detect hazardous gases. Its products are mostly for industrial purposes. The company has a long history going back more than 80 years. The company has a market cap of about $130M USD. The company is consistently profitable. Its current PE is less than 10 and it pays a 3% dividend. Riken Keiki is also a net-net company, meaning its current assets exceed its total liabilities.

So the reader may wonder what is the catch? I certainly want to know, if there is one. But I cannot find any so far. In fact, I found the entire Japanese market is full of such profitable net-net small caps that trade at very low PE multiples. I have been following many outstanding investors of today to see what they are doing. For this I really recommend Wealthtrack. Wealthrack is a gem of a financial news show that you can get on youtube. A common theme of several Wealthtrack guests -- what the host Conseulo Mack calls Thought Leaders -- is that Japan is an undervalued market. I agree.

But I admit, I don't know too much about what this company makes. I cannot even access their reports in English. And I don't read Japanese. Based on advice given here, I used translate.google.com to decipher their quarterly reports, which is a far from ideal solution.

My strategy on Japan is to make my own basket of Japanese small caps, starting with Riken Keiki. I am not really trying to stock pick but to take advantage of a inefficiency of the world markets. I believe this opportunity comes because too many people have been burned from twenty years of recession. I know that people have said Japan is a good investment for much of the last twenty years, and have been proven wrong. But from my judgement, I feel this is the time to invest in Japan.

I feel judgement is a huge factor in investing. Judgement is not quantifiable, but someone like Buffett has it in spades. My feeling in part comes from Benjamin Graham. Back in the 1930s, in the heart of the great depression, he wrote articles that listed many companies that are selling for less than their net-net value. And I thought, wow, if only I can get in on such opportunities now. But surely today, in our more efficient markets, such opportunities are impossible, or are they? The investing world today is more liquid than ever and it is very volatile. Two recessions in a decade proves the latter point. I thought about it and reasoned that in such a big investing world, surely some market somewhere is undervalued at any given time. So it just may be possible that the situation Benjamin Graham describes happens very often, maybe now, maybe Japan!

As I mentioned in a previous post when I first thought of being aggressive with small caps. Buffett's thoughts greatly influenced me to this path. He often talks about the great deals he found in the 1973 recession. He compared the depressed Korean market from about ten years ago to that time, like 1973 is the gold standard for an undervalued market. I can just imagine him saying Japan is like that today. The recent decline in the yen helps also. I believe that opportunities, like bubbles, crop up more often than we think. It is just hard to recognize an opportunity at the time.

Pfizer, PMI and Cisco Report Solid Earnings

Pfizer reported GAAP earnings of $0.43 per share in the most recent quarter. GAAP is the benchmark I feel we should use GAAP as a starting point for understanding a company's earnings performance. But a lot of companies have factors that would skew this result. Pfizer is one such example because the company acquired several large companies, most notably Wyeth in 2009. Acquisitions affects the company's earnings because of the marked value of inventories from acquired companies. Pfizer explains away such purchase accounting with a adjusted income value. Pfizer's adjusted income is $0.53 a share. I give Pfizer the benefit of the doubt and use this figure for Pfizer's income. I then estimate Pfizer trades at a PE of 13 (current price divided by adjust income). In addition, Pfizer has saved more than $7 billion in each of the last two years due to synergies from their acquisitions. Pfizer's report does not state how much it can save in the future but I hope that these savings can bring the company's PE close to 10 in the next two years. So to summarize, PFE is nothing too fancy, just a solid performer in a lucrative industry. I have a long term hold on it.

Philip Morris International (PM) recently announced that it earned $5.17 per share for the most recent year. This is an increase of 7% over a year earlier. The company has a 3.7% dividend yield. But as it trades at $91, it's PE is getting close to 20. And to me that is getting close to overvalued territory. As I mentioned before this is a sea change in opinion from a little more than a decade ago, when the market thought tobacco companies were getting sued to oblivion. I have sold a bit here and there as PM rose above 60. I will sell more if it goes above $100.

Cisco is another stock that has experienced a sea change of opinion in the last decade. The market once made it the most valuable company in the world. Now, the company just announced that it earned $1.49 GAAP per share last year. This gives it a PE of 14 with and a net-net of $4 per share. I consider it a value investment at this price. Cisco is my fifth largest holding mainly because of legacy positions and recent purchase as a value play. I would like to close my position however if it gets from $21 today to around $25; I generally do not like tech investments.

McRae Industries Reports 38% Earnings Gain

Earlier this month McRae announced great results. The company had earnings of $24.9M and earnings of $1.9M or $0.87 per share. This is 24% improvement in revenue and a 38% improvement in earnings over the same quarter last year.

I was very happy to see that the biggest contributor to the sales increase was from their consumer products, and not their work (military) products. The reason for this increase was mostly due to a better economic environment. With all indications from recent economic data pointing to a healthy economy, I expect this earnings trend to continue. At this rate of earnings improvement, this year earnings will be $3.13 per share which would give the company a forward P/E of about 6!

I feel that McRea is a value stock with training wheels. No large investor can be bothered to invest in this company because it is so small it cannot make a difference in any large portfolio. Only a little guy can feasibly invest in it. In addition, their financials are so plain and simple that any person can grasp it. And their business is also simple, it is just boots that you and I could wear.

I am contemplating adding to my position at the current price of $18.30. However, that is simpler said than done. McRea is so lightly traded that the spread between bid and ask can be around close to 10% of the stock's value! So if it trades at $18.30, I would be lucky if I can buy below $19. So, I think I will be paying attention to McRea looking for any sign of a dip in price to add to my position.