surge components capacitor

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Surge Components (OOTC:SPRS) offers an opportunity for growth with a strong fundamental backstop. The recent correction in the stock market has significantly punished many stocks in the mirco-cap space, and SPRS is no exception.  This finding was a result from our active search for profitable value plays selling at or under either cash or book value per share.

Surge Components Trades at Almost a 45% Discount to Book

Surge Components (SPRS) is a supplier of electrical components and products. The main electrical products that it sells are capacitors, semiconductor rectifiers, transistors, diodes, circuit protection devices, and audible components such as buzzers, speakers, microphones, resonators, filters, and discriminators.

SPRS operates in a competitive, low margin commodity-type environment where opportunities for growth may not be explosive. However, from a value perspective, there may be some reasons to track the company if shares continue to fall:

  • It’s selling at very low valuation multiples:
    • TTM P/E: 18.2 (Q4 last year was a loss of $0.04; assuming a profitable to slightly profitable quarter like the company has reported in the first 3 quarters of 2015, the TTM P/E will drop significantly)
    • Book value per share: $1.18
    • Cash per share: $0.64
    • Current ratio: 3.57
    • Long term debt: $0
  • The stock may be priced right to attract activist investors that would push for a sale of the company or return of capital. In fact, on January 4, 2016 Michael D. Tofias, a long time 13G filer (indicating a passive investor) filed his first 13D (indicating an active investor).  The purpose of transaction from the filing states:

“The purpose of the acquisition is investment.  However, from time to time the reporting person intends to make recommendations to the issuer’s management and/or board of directors with the goal of enhancing stockholder value and the income-paying capacity of the Common Stock generally, through operational efficiencies, corporate finance strategies, cost containment, and corporate governance initiatives.  The reporting person may also recommend strategic initiatives, such as capital structure and balance sheet restructurings or a sale, merger, acquisition, or other transaction.  The reporting person may seek representation on the issuer’s board by the reporting person and/or other stockholders, the removal of anti-takeover mechanisms, the rescission of executives’ golden parachutes, changes in the issuer’s management and board of directors, and incorporation of the issuer in a different state.  The reporting person supports exploring the sale of some or all of the business to a strategic buyer that may benefit the company by reducing overlapping boards and management, if it results in creating and realizing value for stockholders.”

  • In November 2015, the company announced a stock buyback program of up to $500,000 worth of its shares of common stock.
  • Stress test: We often like to perform “stress tests” on how companies perform/performed during and after the 2008 recession to possibly get a glimpse at a worst case business outcome scenario.

We performed this exercise for SPRS, which revealed some encouraging trends, even during a difficult market environment. The following table illustrates that while this company has not been growing its earnings, profits have remained relatively steady while other valuation metrics have been improving.

This could support a case that the company may continue to attract value oriented activist investors, despite the overall market environment.

Current 2014 2013 2012 2011 2010 2009
Sales 29.6ttm 27.2 25.2 22.3 23.2 21.6 12.3
EPS .04ttm 0.04 0.13 0.14 0.14 0.16 0.03
B/V 1.18 1.1 1.06 0.93 0.76 0.47 0.31
Cash/share .64 0.63 0.43 0.35 0.2 0.09 0.12

Selected Caveats:

  • Lack of transparency; the company rarely issues any press releases or hold any conference calls.
  • Cautious commentary regarding industry and margins from Q3 2015 10Q:

The reduced demand for electronic components has continued in 2015 due to slowdowns in global growth and forecasted retail sales in North America and significant pricing pressures that it experienced in 2014. Due to this worldwide reduction in demand, we may be negatively impacted by reduced margins for our products. Despite the reduced demand, we have continued to grow our revenues due to specific customer projects and our management believes that we may be able to continue growing our revenue. In order for us to grow, we will depend on, among other things, the continued growth of the electronics and semiconductor industries, our ability to withstand intense price competition, our ability to obtain new customers, our ability to retain and attract sales and other personnel in order to expand our marketing capabilities, our ability to secure adequate sources of products, which are in demand on commercially reasonable terms, our success in managing growth, including monitoring an expanded level of operations and controlling costs. Profit margins have decreased for the nine months ended August 31, 2015 as certain of our customers, who are some of the biggest buyers of components, demand the lowest prices for our products. Some of these customers further demand periodic price reductions on a quarterly or semi-annual basis, as opposed to annual fixed pricing. In addition, many of our customers are electronic manufacturing service subcontractors, who manufacture products for their customers who do not have their own manufacturing operations. We have agreements with these subcontractor customers to provide periodic cost reductions through rebates in the amount of 5%. These reductions only affect future shipments of our products, and does not affect such customers’ existing orders. These agreements negatively impact our profit margins since they reduce the amount of commissions we can earn on our products. Nevertheless, these subcontractor customers are important to us as they represent very significant potential growth for us as they enable us to become approved suppliers for their manufacturing customers, and they purchase our components for these customers. We believe it would be very difficult for us to achieve business with such manufacturing companies without these subcontractor customers. In addition, because some of our products are commodities, our gross profit margins continue to be pressured due to the competitive environment. We continue to take action to mitigate the pressure on our gross profit margins.

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