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URL:  https://boards.fool.com/grmn-ietc-walk-through-23261587.aspx

Subject:  GRMN - IETC Walk-Through Date:  11/5/2005  4:57 PM
Author:  jimgillies Number:  536 of 1817

Hello Fools,

Another IETC candidate, for your consideration.

Garmin (Nasdaq:GRMN), makers of all things GPS, has waxed and waned on a seemingly annual basis. Touching an all-time high of $70.68 a month ago, the street was disappointed by only 30+% growth in Sales and Net Income (net of FX gains and losses), and has turned unimpressed by the company's continued strong cash generation, high insider ownership, respectful treatment of shareholders' equity (nil dilution), and $700MM cash hoard. So be it.

I've written a little about Garmin before, which you can read here:


http://www.fool.com/news/commentary/2005/commentary05092006.htm
http://www.fool.com/news/commentary/2005/commentary05103107.htm


Conversely, you can head over to the regular GRMN Foolish message board, where my grubby paw-prints may be found all-over the place.

But we're here to talk ITEC. So, without further ado, let's head out.

-~-~-~-~-~-~-~-~-~-~-~-~-~-~-~-~-~-~-~-~-~-~-~-~-~-~-~-~-~-~-~-~-~-~-~
GRMN passes the 5-minute test with flying colours.

1. Auditor's Opinion: Clean
2. Lawsuits: None Material
3. Unusual Losses: None in history as public company
4. Earnings Restatements: None in history as public company
5. Intangibles/Total Assets < 20%: GRMN = <3%
6. Debt/Equity < 75%: GRMN - no debt, D/E = 0
7. Revenue Growth > 30% in 5 yrs: GRMN = 228% from 1999 to 2004
8. Stock-based Compensation <15%: GRMN = 2.7% (2004)
9. Short Ratio < 15%: GRMN = 5.1% (Sept-2005)

Issues addressed in calculating defensive and enterprising profits:

* GRMN reports sometimes substantial foreign currency gains and losses. This is attributable to
the fact that much of GRMN's cash, marketable securities, A/R, and inventory, are domiciled in
Taiwan. Relative fluctuations of the Tawian New Dollar (TWD) versus the US Dollar (USD) cause these
gains/losses, which are essentially non-cash in nature. I smooth earnings out by recalculating accrual
profits by reversing the pre-tax effects of these gains and losses. Company management too, prefers
to be measured in terms of earnings net-FX, even though it is not a GAAP-measure. Reported accrual
profits and my changes, are shown below:

Accrual F/X Gain Effective Net Income
Year Profit ($000) or (Loss) Tax Rate Net F/X ($000)
-------------------------------------------------------------------
1999 $ 64,167 ($ 1,469) 23.7% $ 65,287
2000 105,663 6,962 25.0% 100,443
2001 113,448 11,573 25.4% 104,812
2002 142,797 11 21.9% 142,788
2003 178,634 ( 6,699) 20.9% 183,930
2004 205,700 ( 24,819) 19.4% 225,704
TTM 271,685 ( 1,494) 18.8% 272,898
-------------------------------------------------------------------

* The effective tax rate shown above is low (and getting lower). GRMN has a number of tax management
strategies in place to keep this number low. Namely, they receive substantial tax breaks from
Taiwan for locating their manufacturing facilities there, as well as incorporating in the Cayman
Islands (even though their major North American presence is in Kansas). Expect tax rates in
the range of 19-22% going forward, for at least the next five (5) years.

* GRMN generates a lot of free cash. They pay a $0.50 annual dividend, and have self-
funded with cash: all acquisitions, all capital spending, all special CapEx (they built a
$70MM facility in Kansas last year), and all license intangibles. The left-over cash piles up
on the B/S gathering dust. (Management is working on a transfer process - setting up intermediaries
- so as to relocate much of that cash and Marketable Securities balance to North America without
paying withholding taxes in the current domiciles.) Barring any major acquisitions (TomTom? Surely
not!), I expect a fairly hefty ($3-$5/shr) special dividend within the next two years. Regardless,
for Investment in Fixed Capital, I included all CapEx (whether it was part of the non-recurring new
facility construction or not), all intangibles purchase (these are for mapping and cartography data -
things that, were GRMN to develop themselves, would undoubtedly be capitalized anyway), and all
acquisitions.

1999 2000 2001 2002 2003 2004 TTM
----------------------------------------------------------------------------------------------------
Capital Expenditures $32,195 $24,821 $14,883 $12,424 $32,770 $ 78,145 $ 29,720
Purchase of Intangibles (Licenses) - 4,251 12,028 13,525 1,724 32,796 20,464
Acqusitions - - 3,625 - 38,177 - -
----------------------------------------------------------------------------------------------------
Total $32,195 $29,072 $30,536 $25,949 $71,671 $110,941 $ 50,184


* Managing their working capital has been a bit of a struggle for GRMN. Inventory has occasionally
gotten ahead of where they arguably should be, and they've sometimes not collected A/R in a timely
manner. Fortunately, these blemishes get caught up in the Defensive Income Statement. Using ending
B/S values, GRMN's cash collection cycle looks like this:

2000 2001 2002 2003 2004 TTM
-----------------------------------------------------------------
Receivables T/O 10.6 7.7 8.0 6.9 6.9 6.1
Inventory T/O 1.8 2.8 3.7 2.5 2.3 2.5
Payables T/O 8.9 7.6 6.4 6.9 7.6 9.7
DSO 34.5 47.5 45.7 52.7 52.7 59.6
Days in Inventory 202.4 130.5 99.9 145.7 161.0 145.0
Days Payable 40.9 48.3 57.4 52.7 47.8 37.4
-----------------------------------------------------------------
Cash Collection Cycle 196.0 129.6 88.3 145.7 165.9 167.2
-----------------------------------------------------------------


* GRMN only breaks out the advertising/marketing portion of SG&A in annual reports. It's common
knowledge among GRMN followers that advertising, and 'getting-the-word' out to consumers who are
now apt to buy the newer, lower-priced, personal navigation devices (PNDs) is paramount. I've had
to assume a value for the TTM advertising amount (at least, for the quarterly numbers inherent in
the TTM number). I've, I believe, tried to estimate conservatively high at 40% of SG&A:

1999 2000 2001 2002 2003 2004 TTM
-----------------------------------------------------------------------------------------------
Advertising Expense $ 8,574 $11,529 $14,714 $16,670 $22,071 $ 29,577 $ 40,352
Advertising (% of SG&A) 31.7% 35.3% 38.0% 36.7% 36.9% 37.4% 40.0%
Advertising (% of Revenue) 3.7% 3.3% 4.0% 3.6% 3.9% 3.9% 4.3%
-----------------------------------------------------------------------------------------------


* Advertising depreciation period assumed to be 3 years.

* R&D depreciation period assumed to be 5 years.

* Rather then using average capital to calculate Enterprising Interest, I used year-end
capital. This will, bias Enterprising profits down.

* For WACC, I used the following costs to calculate Enterprising Interest:

1999 2000 2001 2002 2003 2004 TTM
----------------------------------------------------------------------------------
Cost of Equity 14.9% 13.4% 13.2% 12.0% 12.0% 12.0% 12.0%
Cost of Debt 6.0% 6.0% 6.0% 6.0% 6.0% 6.0% 6.0%
----------------------------------------------------------------------------------
WACC 13.6% 12.4% 12.6% 11.8% 12.0% 12.0% 12.0%

* Excess cash, for calculation of Enterprising Capital is considered to be 70% of total
cash on the B/S. Otherwise, were we to adhere to 2% of revenue as a guide, we'd bias Enterprising
Profit upwards. Plus, given GRMN's inefficient working capital management, it's reasonable to
suggest that they might need more cash to use in day-to-day operations than a more efficient
manufacturer.

* GRMN IPO'ed in December 2000. For comparative purposes, 1999 and accrual, defensive and
enterprising profits are presented pro forma, using year-end shares from 2000. I believe this is
representative treatment, given GRMN's reluctance to dilute it's shareholders (as Martha would
say, "It's a Good Thing")

* Investment in Working Capital for 1999 assumed to be 5% of revenue (similar to value for 2000).
Pre-IPO B/S from 1998 is unavailable (or rather, I typed this up in a coffee-shop w/out wireless, so
I'm not willing or able to go looking for it).

* Income Statements (all figures in $mil save per share profits):

Accrual: 1999 2000 2001 2002 2003 2004 TTM
--------------------------------------------------------------------------------------
Revenue 232.6 345.7 369.1 465.1 573.0 762.5 929.4
Cost of Sales 105.7 162.0 171.0 210.1 242.4 351.3 436.0
SG & A 27.1 32.7 38.7 45.5 59.8 79.0 100.9
R & D 17.3 21.8 28.2 32.2 43.7 61.6 72.8
Interest Expense 0.6 2.3 2.2 1.3 0.5 0.0 0.1
Interest Income ( 4.3) ( 6.9) (11.2) ( 6.5) ( 7.5) ( 9.4) (16.1)
Other Income - ( 0.0) ( 0.2) ( 0.1) - - ( 0.3)
Other Expenses 0.7 - - - 1.3 0.0 -
Taxes 20.3 33.5 35.7 39.9 48.7 54.3 63.2
--------------------------------------------------------------------------------------
Total Expenses 167.3 245.3 264.3 322.4 389.1 536.8 656.5
--------------------------------------------------------------------------------------
Profit 65.3 100.4 104.8 142.8 183.9 225.7 272.9
Diluted Shares 108,242 108,242 108,447 108,201 108,902 109,030 109,126
Profit per Share 0.60 0.93 0.97 1.32 1.69 2.07 2.50
--------------------------------------------------------------------------------------



Defensive: 1999 2000 2001 2002 2003 2004 TTM
--------------------------------------------------------------------------------------------
Revenue 232.6 345.7 369.1 465.1 573.0 762.5 929.4
Cost of Sales 105.7 162.0 171.0 210.1 242.4 351.3 436.0
SG & A 27.1 32.7 38.7 45.5 59.8 79.0 100.9
Other Expenses 0.7 - - - 1.3 0.0 -
Inv't Fixed Capital 26.6 21.5 19.7 9.8 52.5 76.3 7.2
Inv't Working Capital 11.6 18.8 (14.2) (21.3) 42.1 26.7 86.1
Interest Expense 0.6 2.3 2.2 1.3 0.5 0.0 0.1
Taxes 20.3 38.2 37.7 47.7 52.3 63.6 78.6
------------------------------------------------------------------------------------------
Total Expenses 192.5 275.5 255.0 293.1 451.1 597.0 708.8
------------------------------------------------------------------------------------------
Profit 40.0 70.3 114.1 172.1 121.9 165.6 220.6
Diluted Shares 108,242 108,242 108,447 108,201 108,902 109,030 109,126
Profit per Share 0.37 0.65 1.05 1.59 1.12 1.52 2.02
------------------------------------------------------------------------------------------



Enterprising: 1999 2000 2001 2002 2003 2004 TTM
-------------------------------------------------------------------------------------------------
Revenue 232.6 345.7 369.1 465.1 573.0 762.5 929.4
Cost of Sales 105.7 162.0 171.0 210.1 242.4 351.3 436.0
SG & A 27.1 32.7 38.7 45.5 59.8 79.0 100.9
Other Expenses 0.7 - - - 1.3 0.0 -
Intangibles Reversal (25.9) (33.3) (42.9) (48.8) (65.8) (91.1) (114.6)
Intangibles (Advertising) 7.3 9.3 11.6 14.3 17.8 22.8 29.7
Intangibles (R&D) 12.6 15.4 19.0 22.9 28.6 37.5 45.4
Interest Expense 28.7 39.1 37.7 34.8 48.6 63.5 70.5
Imputed Interest - Leases ( 0.1) ( 0.1) ( 0.1) ( 0.1) ( 0.2) (0.2) (0.2)
Taxes 20.9 39.2 38.6 49.1 54.9 67.8 82.8
----------------------------------------------------------------------------------------------
Total Expenses 176.9 264.3 273.5 327.6 387.6 530.5 650.4
----------------------------------------------------------------------------------------------
Profit 55.7 81.5 95.6 137.5 185.4 232.1 279.0
Diluted Shares 108,242 108,242 108,447 108,201 108,902 109,030 109,126
Profit per Share 0.51 0.75 0.88 1.27 1.70 2.13 2.56
----------------------------------------------------------------------------------------------


* Quality of Profits, and Earnings Power Charts are available at the following two links. Looks
like a nice staircas to me, with the exception of the stutter-step in 2003/2004. This motion is
attributable to the acquisition of UPS Avionics in 2003, the one-time capital expenditure of $70MM
on the new headquarters in Kansas in 2003/2004, and the big acquisition of licensed intangibles
in 2004 which I count as investment in fixed capital. In fact, it is arguably a testament to
GRMN's phenomenonal cash generation that most of the latter spending hit the cash flow statement
in 2004, and yet we still see a significant up-step from 2003.


QoP: http://tinyurl.com/dbyrl
EPC: http://tinyurl.com/d7dfp


* Earnings Power Ratios: Since GRMN is debt-free, we'll ignore Debt Repayment Period. Let's look
at Return on the Greenest Dollar (RoGD):

2000 2001 2002 2003 2004 TTM
---------------------------------------------------------------------
RoGD: 34.5% -76.4% -1,357% 56.6% 49.6% 65.6%

Note the negative numbers in 2001 and 2002. A problem? Actually, I think it's great! Since
RoGD is the Change in Enterprising Net Operating Profit After Tax (eNOPAT), divided by the change
in Enterprising Capital employed by the company, a negative number results from one of those values
being negative (really?!). If eNOPTA were the culprit, I'd be a bit worried, but if the company
earned a higher eNOPAT by employing a lesser amount of Enterprising Capital, I consider that a very
"Good Thing" (Kudos again, to Martha). This is exactly what happened in 2001/2002. Regardless,
a 65.6% TTM RoGD is, to say the least, satisfactory.

Okay, since we've got stellar QoP, a beautiful EP Staircase, and great ratios, let's look at valuation. GRMN is currently around 20% off it's all-time high. Valuation has contracted a bit, as investors fear that lower margins in the PND space going forward will more than off-set profit growth.

A couple of valuation metrics. First, the Croesus test:

Stock Price: $56.77
Shares O/S: 109,126 (diluted)
TTM Earnings: $272,898
Annual Dividend: $0.50/shr

1 2 3 4 5
------------------------------------------------------------------
Number of Years: 5 5 5 5 5
Desired Return: 12.0% 15.0% 20.0% 15.0% 15.0%
Dividen Yield: 0.88% 0.88% 0.88% 0.88% 0.88%
Estimated Ending P/E: 20.0 20.0 20.0 15.0 25.0
Estimated Dilution: 0.5% 0.5% 0.5% 0.5% 0.5%
------------------------------------------------------------------
Estimated Earnings CAGR 14.5% 17.6% 22.8% 27.9% 19.6%

Historical Earnings CAGR (1999 to TTM ended Sept-2005) = 28.2%

So, looking at history, the current valuation with the respective inputs above seems doable, but I'd expect the lower end of the above (say, numbers 1, 4, or 5) from today's price.

Using other Valuation metrics, my conservative DCF model (which I won't reproduce here - you can see some past examples on the GRMN main board, but frankly I've spewed enough for one day) places a value on GRMN at $56-$60/shr.

Finally, looking at the multiples GRMN has traded at since IPO, we find that today, we're boringly in the middle:

P/E (diluted)
P/S (Net FX) EV/EBITDA
-------------------------------------------
Median 6.6 22.7 14.9
Mean 7.1 23.6 15.4
Max 11.3 34.2 23.2
Min 4.8 16.2 10.3
-------------------------------------------
Current 6.6 22.7 14.7
-------------------------------------------

I believe GRMN is fairly priced today. However, it appears that Mr. Market has entered one of his depressive phases vis-a-vis GRMN (seems to happen every year), and the possibility of lower prices may be cautiously anticipated. I expect to be a buyer again, should the shares fall to $48 within the next quarter.

Disclosure: I own GRMN, purchased on two occasions at $32 (Spring 2004) and $42 (Spring 2005). I am also Long Jan07 $45 calls, and short Jan06 $35 puts.

Cheers,

Jim
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