THE ODDBALL STOCKS NEWSLETTER 11
Kopp Glass Ticker: KOGL
Last Trade: $52.70
Sometimes investments are found through the strangest of coincidences, I found Kopp Glass in such a way. I was looking through a list of unlisted companies and the name Kopp Glass caught my eye because a friend’s ex-wife had worked in their sales department years ago. I was intrigued that a local company was appearing in my list and decided to research further. I purchased a few shares as a tracker position and reached out to the company for an annual report. When I received the annual report I was confronted with a good company with a storied past that had a terrible pension overhang. As I’ve received their annual reports over the years I’ve watched as the company’s pension woes have dissipated all while their operating earnings have remained consistent. This past year’s annual report had the best news, their pension problems had resolved themselves and the company’s operations were still on track. Since the company is local I decided to attend the the most recent annual meeting, which proved to be a great source of information. Kopp Glass is located in Swissvale, an old industrial suburb near Pittsburgh. The company was founded in 1926 and is still located in their original building. Kopp Glass designs and manufactures technical glass. Technical glass is a type of glass with special features that’s designed and built for very specific applications. Some applications include glass for railroad signals, traffic lights, and aircraft applications. The aviation industry is a perfect example of what Kopp’s technical glass is designed for. In the U.S. the FAA mandates that airports light their runways with very specific light colors. Building a lens for a runway isn’t as simple as dying glass and placing it over a light bulb. Different types of bulbs give out different color combinations and the lens maker needs to adjust the coloring of the lens so the combination of the lens color and bulb color will be FAA approved. If this process seems time consuming and not scalable that’s because it is. The majority of the company’s orders are small batches, 100 lenses or less. Sometimes the company will fulfill orders of 10 items or less. Even small batches of 10 lenses are profitable for the company. One example of a small order is the company’s manufacturing of replica lantern glass and railroad crossing lenses for railroad enthusiasts. There are not a lot of railroad enthusiasts who want replica lenses, but there are enough that the company can support a viable product line. I was told at the annual meeting that railroad enthusiasts are a very consistent source of a small amount of profitable business. Designing and creating technical glass is not a process that can be automated, especially given the small batch sizes. Kopp Glass hand blows all of their products. Their expertise resides in their workers. In talking with their COO he stated that for a new hire to progress to a skilled glass blower usually takes close to 15 years. He said a few exceptional employees have done it in five years, but most are closer to 15 years.
Copyright Red River Research Inc. 2014
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The small manufacturing sizes, the long training period, and the industrial expertise have all worked in Kopp’s favor and enable the company to have what some investors would consider a moat. A moat is a durable competitive advantage that enables a company to earn above average returns on capital. This is certainly true for Kopp whose returns on equity have been in the 15-30% range, and if one excludes their excess cash returns jump to 22-64%. Although the company has had a long history of dominating their niche they haven’t always been able to earn above average returns on equity. The company came very close to bankruptcy after the 9/11 attacks when the aircraft industry experienced a significant downturn. Orders for runway glass slowed significantly and the company reported losses. At the time Kopp Glass was also highly indebted and came close to declaring bankruptcy. The Board fired the CEO and brought in the current CEO, Grant Wirth, who had an ambitious plan for recovery. Since 2001 Kopp Glass has paid off their bank debt and grown their sales under Wirth. They’ve cut back on unnecessary expenses and modernized their plant for more efficient operation. The results of these efforts are seen in their financials below. 2013 15,905,511 9,878,328 6,027,183 37.89%
2012 15,218,358 9,528,547 5,689,811 37.39%
2011 15,707,597 9,623,867 6,083,730 38.73%
2010 15,129,037 9,593,090 5,535,947 36.59%
Expenses Operating Income
3,365,604 2,661,579
3,520,162 2,169,649
3,098,829 3,047,437
2,748,092 2,787,855
Net Income Net Margin
1,821,443 11.45%
1,502,337 9.87%
2,088,727 13.30%
1,640,503 10.84%
5.47 333,204 2.85
4.54 330,704 3.21
6.32 330,704 2.53
4.95 331,704 1.80
1,339,753 419,953 949,631
1,750,597 538,753 1,061,453 5,275
2,341,109 518,747 835,264 20,280
1,006,906 681,928 597,067
3,947,167 11,925,169 35.79
3,976,998 8,129,668 24.58
3,803,052 7,063,300 21.36
2,868,642 9,372,187 28.25
15.27% 22.83%
18.48% 36.18%
29.57% 64.07%
17.50% 25.22%
Revenue Cost of Sales Gross Profit Gross Margin
EPS Shares outstanding Dividend per share Cash from Operations Capex Dividends Paid Stock Buybacks Cash Equity BVPS ROE ROE ex-cash
Copyright Red River Research Inc. 2014
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With returns on equity as high as Kopp has been able to achieve it’s reasonable to ask why aren’t there more competitors? The largest reason they don’t face much competition is because of the specialized nature of their business. As noted above it can take up to 15 years for a new employee to become skilled enough at glass blowing before they can make most of the technical pieces. The company does have one competitor of note. Interestingly, the son of the former Kopp Glass CEO runs the competitor. The son worked at Kopp for years, but didn’t quite fit in with the company culture. He wanted to run things his own way and decided he’d take what he learned and start a competitor. Otherwise the company’s other competition is companies making complete lighting fixtures out of cheaper plastic in China. For years Kopp dominated the traffic light and railroad crossing market. Cheap plastic lights from China have replaced this dominance. The company is very closely held, many of the shares are held by management and relatives of the founding family. I talked with the granddaughter of the founder at the annual meeting and she said her siblings, children and grandchildren all own shares. The founder’s granddaughter wasn’t even aware that shares were tradable; when I told her that they could be purchased at Fidelity her eyes lit up. I asked if she was interested in selling, instead she said she’d love to buy more. Valuing Kopp Glass isn’t a straightforward exercise. While the company does have a moat and can earn above average returns in their niche they are unable to scale or grow at above average rates, or really much at all. As a result the company doesn’t deserve a high earnings multiple. They currently trade for 9.63x earnings, and have traded as low as 5x earnings in the recent past. Adjusted for their large cash holdings they trade at 5.16x EV/EBIT. Kopp Glass at 9.63x earnings and trading above book value initially might not seem like a great value investment. With some investments the value hits you in the face, with Kopp it’s much more subtle. Until this past year the company has struggled off and on with legacy pension costs. The company shut the pension down to new employees years ago, but their pension deficit was suffocating the company. Kopp has made significant contributions to the pension since 2009, and the market has helped erase the deficit entirely. The pension’s future obligation is $20.85m, and it’s currently funded to the tune of $21.2m. The company contributed $1.2m to the pension in 2013, $900k in 2012, $700k in 2011, $800k in 2010, $750k in 2009, and $536k in 2008. The pension has soaked up a lot of the company’s excess cash, cash that could be used to grow, or be returned to shareholders. At the company’s annual meeting I asked what the company expected to contribute in 2014 to their pension plan, they confirmed that they didn’t expect to contribute anything. They said they had some minor capex plans for the excess cash, but no plans otherwise. The management at Kopp has always liked carrying a larger cash balance, but they have also been very mindful of paying out some amount of excess cash as dividends. Copyright Red River Research Inc. 2014
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The company paid out $2.85 per share as a dividend in 2013, which was a roughly 7% yield on last year’s average price. Since the beginning of the year the company has paid out the dividend at a higher rate of $.95 per quarter, which if continued will be $3.80 per share for the year. At the current price that’s still a 7% yield. The company trades above stated book value, which is most likely understated considering much of what the company uses to produce glass, including their facilities have been depreciated to zero. The facility is located directly on a rail line, which could be valuable, and they have some specialized equipment that could be valuable as well. Ultimately I don’t believe the stock priced is tied to book value in any way in this case, regardless of how valuable, or worthless their assets might be. The value of Kopp resides in their expertise and their client list. They are one of the few companies, and in some instances the only company that manufactures certain types of quality glass lenses. In some cases there are no replacements for their products. Kopp Glass’ flaw is their inability to expand beyond their niche. While they are able to earn attractive returns on their capital base, they struggle to grow sales. The company has ample excess plant capacity, but the market for their glass products is limited. Putting an exact value on Kopp Glass is difficult. What I do know is the current value is too cheap. In “Intelligent Investor” Benjamin Graham talks about how it’s possible to know a man’s overweight without knowing his exact weight. He uses this analogy with companies to say that it’s possible to know that a company is cheap without knowing their exact fair value. This analogy certainly applies to Kopp Glass. The company is paying a 7% dividend and is able to earn 15-30% returns on equity. At 5x EV/EBIT I’d say this is too cheap. Maybe 7x EV/EBIT is reasonable, or 15x earnings, an exact value is unknown, but at current prices the shares appear very cheap.
Copyright Red River Research Inc. 2014
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About The Author Nate Tobik is the writer and researcher of the Oddball Stocks Newsletter. Nate lives with his wife and two sons in Pittsburgh, Pennsylvania. He enjoys hunting for unusual stocks in the dark corners of the market. In addition to writing this newsletter and a free blog at http://www.oddballstocks.com, he runs http://www.completebankdata.com, which is a tool that helps investors find and research bank investments quickly and accurately. When not researching stocks and spending time with his family Nate enjoys spending time outdoors skiing, running, camping, and hiking. Red River Research Inc. is the publisher of this newsletter. Red River Research’s mission is to provide tools and commentary for financial data that is difficult to obtain. Our products enable customers to gain insights by utilizing more comprehensive datasets. Disclaimer This newsletter has regular and general circulation and provides no specific advice for professional investors. Red River Research Inc. is not operated by a broker, a dealer, or a registered investment adviser. Under no circumstances does any information posted in this report represent a recommendation to buy or sell a security. The information on this newsletter, and on its related website, is not intended to be, nor does it constitute, investment advice or recommendations. In no event shall Red River Research Inc. be liable to any member, guest or third party for any damages of any kind arising out of the use of this content or other material published by Red River Research Inc. including, without limitation, any investment losses, lost profits, lost opportunity, special, incidental, indirect, consequential or punitive damages. Past performance is a poor indicator of future performance. The information in this newsletter is in no way guaranteed for completeness, accuracy or in any other way.
Copyright Red River Research Inc. 2014
