Saturday, July 11, 2015

IEHC FY15 10-K update

IEHC filed their 10-k yesterday so I thought I'd put out a little update.  In short it was great and they are continuing down their path.  The record high backlog disclosed in Sept 2014 has increased even higher and earnings is at an all time high as well.  The most interesting thing, to me, is that they have granted some stock options.

Some highlights:

  • Backlog at an all time high of $8.7M up 48% YOY
  • EPS at an all time high of $0.79 up 25% YOY
  • Trading at a P/E of 7.7
  • Concentration on military continues to shrink
And lowlights:
  • Despite record net income of $1.8M they actually ended the year with $12k less in the bank than last year
And items that could be interpreted good or bad:
  • Inventory raw material is up 79% YOY to an all time high
I don't know what to say about the inventory other than it's not a shock.  The company is growing (good) and they don't manage their inventory as tightly as possible (bad).  Raw materials spiked up by 41% this quarter but we have seen that before.  

Normally I'd say a big increase in raw materials is great but we saw the same thing in 2011 and it was not followed by huge earnings.  I do think this time may be different though because they have the big backlog now ($8.7M vs $5.4M).  I think they do have big orders to fill as evidenced by their backlog.  I also think they could manage inventory better.  In the past 5 years total inventory has increased by 162% whereas earnings have increased by 72%.  

Update July 13, 2015:
I forgot to include an overall plot of inventory:  

This one is all good news.  The record high backlog reported last Sept has been eclipsed so it seems that was not a seasonal anomaly.  As I said before there is a lag from backlog to revenue and so I expect big time revenue increases over the next year.  I suppose the question will then shift to what happens the following year but for now let's just be happy with what we have.  

Also good here.  Earnings are at an all time high and the company's growth continues.  If they didn't put all cash into inventory then we'd have all time high cash as well but we already know they don't manage working capital as tightly as we'd like.   

Customer Concentration
Continuing on their path is evident here as well.  The company has been diversifying away from the military for years and it is still going in that direction.  

Change of Control
Now the CEO, who owns 40% of the company, is 74.  The CFO is 72 while the two other board members are 72 and 74.  The CEO and CFO have retirement plans in place that they are eligible to use.  But for now the 10-K says "The Company and Messrs. Offerman and Knoth have mutually agreed to extend their respective periods of employment."  So I don't know.  I'd say this company is more likely than the average to sell out but then again the CEO's son is a VP so...  

I don't think a sale is required to get a good return on this investment.  It could be a cherry on the top or a faster way to profits but the company is growing very well at a PE of 7.7.  This bring us to my next point of:

Stock Options
And now on to the fun speculative stuff.  IEHC granted 245k options amongst 8 people under their 2011 stock option award plan on July 1, 2015.  That plan allowed for 750k options so they just shot out about 1/3 of their max.  The amazing thing is that they've had a stock option plan in place since 2002 yet have never once granted a single option, until a week and a half ago.  Think about that.  The 2002 plan expired in 2011 without having been used so they renewed it and hadn't used it until now.  Share count has been the same since approximately the last ice age.  Why would they do this?  Does it mean a company sale or change in control is more likely now?  Does it mean nothing?  Keep in mind they went through a big portion of their available options here so it's not like they just decided to initiate a small annual option grant.  

At first glance this makes me think a sale of the company is more likely.  What they just did was give themselves a bigger piece of the pie.  If IEHC was to sell themselves to a larger player in the industry it's possible the higher ups may not keep their jobs so in return they can at least say now they have a bigger piece of the company.  Or maybe I read too much into these things...  At a minimum something has convinced them to change the way they normally do business.

I emailed the company yesterday to ask why they would grant options now.  I expect a response but probably not as juicy and truthful as I'd like.  We'll see

Update July 13, 2015:
I received a response from the company:
"When it’s come up in past years it wasn’t given a priority.  As we added some new people this past year we were reminded that it was available, so we decided to implement it to award key personnel who have contributed to the growth of the company, and in keeping with what many of our customers and peers offer.  We don’t have any immediate plans to issue more, but we don’t know what the long-term future will hold"

In the section discussing stock options, the 10-K notes "The Company intends to provide additional information regarding the compensation awarded to the named executive officers and non-management directors in respect of and during the fiscal year ended March 25, 2016, in the proxy statement for the Company’s 2015 annual meeting of stockholders."  This is a long winded way of saying they'll discuss the FY16 compensation in the proxy for the FY15 annual meeting.  Last year that was filed on Sept 23 so I guess we'll wait to see what they have to say.  

The company is moving in the same direction it was when I first wrote them up.  Growth continues.  IEHC is still cheap and probably more so than it was.  The company is diversifying revenue.  The company still does not manage working capital as well as we'd like.  Due to the backlog increase I expect big revenue increases this coming year which will mean even bigger earnings increases.  I think a lot of the new revenue would drop to the bottom line.  As I have said there is a good correlation between backlog growth and earnings growth.  Backlog grew 48% this past year, so how much will revenue grow next year?  

Disclosure: Long IEHC


  1. I made two updates today: posted a plot of inventory and added the company's comments on stock options.

  2. I asked the company about those two big inventory raw material growth spikes in 2011 and the most recent quarter and was told the following:

    "Typically we build-to-order, and only purchase raw materials in support of customer orders when we receive the PO from them. On occasion however, one of our more important customers asks us to stock materials in support of the connectors we regularly build for them, in order for them to have some flexibility in delivery schedules. In turn, we receive an assurance that they will issue the orders to cover our costs. The two instances you’re referring to reflect these occasions."

    Pretty solid explanation and a sign of good things to come in the future.

  3. you ever ask them about the receivables factoring?

    1. Yes, and here's their response:

      Very few of the details in our financing agreement(s) actually agree with the term ‘factoring’; we have been advised that ‘asset-based financing’ is a more accurate description of our conduct, but having said that, let me try to respond to your inquiry. We will continue our access to asset-based financing based on the strong urging of several board members and others in the business community, who advise that it is always desirable to maintain a banking source of funds. While you are correct that at this ‘snapshot’ in time we could provide internally all needed working capital and fund our present plans for product and staff development, ignoring the possibility of future stressful times during which outside financial support would be valuable is not prudent. Further, we have researched alternative depositories which would provide meaningful low risk short term returns for excess cash and find there are no viable instruments in today’s markets.

  4. Replies
    1. Business is doing well and we have change with the new CEO. Stock is moving in the right direction with a slow rise. They should benefit from the new tax bill. Seems good and I'm holding

  5. As a fellow shareholder, one thing I am concerned about is inventory...A lot of their income consistently goes to inventory...Do you have any idea on what the inventory is? For example...does it have fully realizable liquidation value worst case scenario like gold? Or will the inventory depreciate to 0 if not sold in a timely fashion?

    Also, for example...This quarter there was 1.59m excess payments to accounts receivable factor. I don't understand the logic to this?