WEBCO Industries is a classic Graham net net, or in Buffett´s words a cigar butt with one last puff remaining. Buying the equity provides investors with 63% upside to NNCAV and 120% upside to liquidation value. The business of WEBCO is unattractive yet good enough to earn meaningful profits over the cycle. WEBCO manufactures tubes for various end users in different industries such as upstream/downstream oil, agricultural and auto/trucking among others. In simple words raw materials are purchased and then processed into tubing solutions.
Manufacturing tubes is certainly nothing to get excited about and profits aren´t protected by any sort of economic moat like they are at Baidu or IBM. Still in the past the company was be able to earn its cost of capital. What makes the idea so compelling however, is solely its price. At USD 52 per share we can buy WEBCO at 63% discount to net net working capital (current assets less total liabilities). Looking at liquidation value this discount becomes a stunning 120% assuming that only 90% of accounts receivable, 75% of inventories, 50% of PPE and 25% of all other assets can be recovered when the company is shut down. Implied asset write-downs would create losses and DTL will not be claimed and are therefore lowering total liabilities. See table below for entire valuation considerations.
Working Capital Release
Currently demand for WEBCO´s product is depressed with revenues down around 24% year over year, due to depressed oil prices and consequent slashing of oil CAPEX. Thus WEBCO currently liquidates its inventory and releases working capital to bring it in line with historic levels during downturns. Obviously releasing working capital creates large cash flows since the raw material of all sold tubes has already been paid for and no new raw material is purchased. WEBCO uses its cash flows to pay down short term debt which decreased 50% year over year.
Unfortunately a quick glance on the income statement reveals losses. This is due to decreasing steel prices since mid 2014. With input prices decreasing, assuming FIFO, inventory is gradually worked down starting with raw material which sits longest in stock and carries the highest cost (COGS). Hence COGS will eventually decrease reflecting the slump in steel prices when more recent inventory is sold. In the future margins can be expected to increase, losses to narrow and profits to flow. Further the working capital release will bring down EV due to increasing cash and decreasing debt, which will reveal cheapness on EV/EBITDA level.
Final Thoughts and Risk Factors
WEBCO didn´t always trade at these deeply depressed values. Back in 2014 the company commanded a premium of 50% to net net working capital and traded approximately at liquidation value. There is no reason why the company should not be granted a valuation below gone concern.
Unfortunately WEBCO lists on the pink sheets. Limited disclosure requirements pose risk to investors but on the other hand enable some companies to fly under the radar and to trade at crazily cheap prices in the first place. I´d love to immediately purchase as much WEBCO shares as I could get my hands on but unfortunately OnVista.com has ceased offering trading OTC stocks. I am therefore in the works of opening a second brokerage account at flatex who commendably provides that service. Until then hopefully the last puff in WEBCO´s cigar butt hasn´t already been smoked.
Disclosure: I currently do not hold a position in WEBCO Industries but may initiate a position in the next days.