Value Investing Is At Its Core The Marriage Of A Contrarian Streak And A Calculator.
– Seth Klarman
I recently stumbled upon a quote by Seth Klarman. It resonated with me, as I’ve built my investing career around the marriage of basic common sense and calculated risks. As markets unfold, I approach them as a set of probabilities, using evidence and projections to assess potential impacts on share prices. Naturally, I always keep my trusty calculator close at hand, especially when navigating less competitive market niches.
Today, I want to talk about a company that caught my eye—Frequency Electronics (NASDAQ:FEIM).
Frequency Electronics, a defense contractor primarily serving prime contractors like Lockheed Martin and the US government, mainly revolves around precision timing equipment—atomic clocks and frequency generation devices. The company’s products boast an impressive track record, having been deployed in space missions, satellites, secure communications, and various defense systems.
So why am I so optimistic about this under-the-radar company? Let’s crunch some numbers, shall we?
Starting with revenue, their existing backlog indicates stable earnings in the range of $12-13.6 million for the last 9 months. However, recent contract announcements totaling $53 million—aggressively pushed for delivery within 2 years—could potentially add $5.5 million in quarterly revenue on top of the existing backlog. Furthermore, an uptick in gross margin to about 50% (expected within the next 6 months to a year) would be a game-changer. Paired with minor increases in overheads, these projections hint at significant earnings growth.
“So SG&A on a dollar value number is going to run fairly consistent. I mean, again, if we grow substantially, yes, there’ll be some more costs in there. But percent-wise, as you see, it went down for getting the percentage to dollars even as a formula of income is down. So we expect it to stay at that current level where it is now unless things substantially grow.”
-Steve Bernstein (CFO) 12/12/2023 Conference call
Anticipating quarterly revenues of $17.5 million and taking projected costs into consideration, we’re looking at a plausible EPS of $0.47 per share. With substantial NOLs shielding it from most taxes, and no significant interest expenses, the potential for a company showing robust growth in revenues and margins speaks for itself. So why does its current share price hover at just under $11? It doesn’t take a rocket scientist to see the disparity.
All these projections, of course, rest on assumptions derived from management statements and recent data. However, the circumstantial evidence suggests a high likelihood of materializing.
Stable Revenue Run Rate
Firstly, the existing revenue run rate should be sustainable due to the reliability of their backlog as an indicator of future revenue. The recent contract influx is set to bolster this stability significantly.
