The Bullish Case for Hyster-Yale

Why I bought a few shares

Published on:
September 7, 2019
Reading time: 3 Minutes
Written on:

About The Author

Noam Ganel, CFA is the founder of Pen&Paper, a value-oriented, contrary-minded journal of the financial markets. Noam worked as a Vice President in Capital Markets at Silvergate (publicly traded on NYSE under SI since Nov-2019.) At SI, which he joined in 2010, Noam was responsible for advisory services to family offices,  private companies, and financial advisors.

It is a matter of time before stock investors bet on what they believe is right. Warren Buffett bought Burlington Northern in 2009, at the height of the financial crises. He called the acquisition, "an all-in wager on the economic future of the United States." Another example was the bet placed by Bill Ackman in 2012. He called Herbalife (HLF on Nyse), a nutritional supplements company, "a pyramid scheme that would eventually go to zero" and shorted the stock.

The purchase of Hyster-Yale Materials Handling (HY on Nyse) is my bet on the future of global trade. I begin this essay with an attempt to explain why HY is now trading at a five-year low price. It is not only market sentiment that penalized HY but also deterioration in the reported financials. In the second part of this essay, I discuss why the current operating results are transitory and why I bought the shares.

The bad news on Hyster-Yale

Wall Street is now bearish on companies that trade with China. Consider the stock of Flexsteel Industries (FLEX on Nasdaq) that dropped over 40% this year. So did the stock price of Micron Technology (MU on Nasdaq) fell as one of the company’s suppliers was banned from trading with the United States. Hyster-Yal, our topic of discussion, showed an even steeper fall lately - it dropped to $44 from $66 in less than a month.

Uncertainty of trade wars affect Hyster-Yale in two ways. First, Hyster-Yal's operating profit is sensitive to the price of steel, lead and copper. And it is the nature of these commodities to be volatile in terms of uncertainty.[1]

Second effec comes from the price of foreign currencies which is now widely swinging. Any loss in foreign currency value will be reflected in the Other Comprehensive Account (OCI). Hyster-Yal reported $88 million of currency translation devaluation, 16% of its equity balance.    

There are not only concerns with the materials-handling industry macro factors but Hyster-Yal's operations declined as well. Gross profit is down to $126.2 million from $132.1 million the prior year; operating profit is $3.4 million from $19.2 million the prior year; diluted earnings per share are now 20 cents compared to 90 cents a year ago.

Operating margins are down, too. Five years ago, the company reported pre-tax earnings of $150 million on $2,767 million of revenue, a 5% ratio. The ratio more than halved in 2018 when the company reported on pre-tax earnings of $13.8 million on revenue of $3,174 million, a 4 basis points ratio.

In addition, the reported ratio of total liabilities to total assets was 62% in 2014 compared to 68% as of the latest annual public filing. In short, the company is facing trouble ahead.    

HY's earnings over past three years
HY's earnings over past three years

The good news on Hyster-yale

Yet in the long run, the lift truck market is expected to grow. Consider, for example, data from the World Bank's website, the World Integrated Trade Solutions (WITS). There were 546,832 orders in 2009; there were 1,093,961 orders in 2014 and 1,460,000 orders in 2018.

Another point of interest to those who are interested in Hyster=Yale is that insiders to Hyster-Yal are buying the stock. Last month insiders placed 271 buy orders compared to a single sell order. Visit form 4 filings for reading.

And HY's management is aware of the operating challenges and has a plan in place. Management is focused on achieving 7% operating profit, which it plans to reach, over the next three to five years, by increasing prices and reducing operating expenses. Assuming no growth in revenue, that may translate to pre-tax earnings of $211 million or $13 per share. Since eight times pre-tax earnings valuation is reasonable, management is, in effect, targeting a $104 stock price.

Yet the stock market hates uncertainty so the stock traded for $45 when I bought it - this is roughly the adjusted book value.

As of the first quarter of 2019, Hyster-Yal reported equity balance of $551.4 million or $33 per share. If we adjust the equity balance by adding back the foreign currency devaluation, which was $88.2 million or $5.51 per share, and if we add back the pension adjustment, which to me was an accounting shenanigan[2], we arrive at $719.6 million in equity or $43 per share.

HY equity balance
A breakdown of HY equity balance


Throughout history, there were bad and good ideas. It was a bad idea to define people by their race, color or creed. It was a bad idea to have a central authority to control the economy and to dictate prices. In the 20th century, the two ideas miserably failed - at a devastating price.

But global trade belongs to the good ideas list. While the argument for global trade gained influence by David Ricardo in the 19th century, it has been practiced since ancient history.

There is evidence, for example, of the exchange of obsidian and flint during the Stone Age, estimated to have taken place in Guinea around 17,000 BCE . It is too bewildering that in the 21 century, we have to defend the idea of global trade.

While Ricardo argued for global trade using utilitarian reasons (how each side would eventually gain from the trade), to me, global trade is much more than that. Global trade allows countries and citizens to live in peace. As Voltaire once wrote:

Enter into the Royal Exchange of London, a place more respectable than many courts, in which deputies from all nations assemble for the advantage of mankind. There, the Jew, the Mahometan and the Christian bargain with one another as if they were of the same religion, and bestow the name of infidel on bankrupts only… Was there in London but one religion, despotism might be apprehended; if two only, they would seek to cut each other’s throats; but as there are at least thirty, they live together in peace and happiness."
FOOTNOTES: [1] The price of these copper and steel increased in 2018 compared to the year prior. [2] Read Howard Schilit's Financial Shenanigans for illustrations.
Ask Me Anything