The Best and Worst
Stocks of 1997
Winner -- Metal Management
(Nasdaq: MTLM) Price -- $17 15/16
The Company's Biz. Metal Management aims to be king of the scrap metal recyclers. With this year's blizzard of acquisitions, it just might manage, elbowing aside consolidation competitors Schnitzer Steel (Nasdaq: SCHN) and Philip Services (NYSE: PHV). By aggressively trying to consolidate the 3,500 closely held scrap metal recyclers that make up the $22 billion industry, Chief Executive Ben Jennings is self-consciously following the "gobble-to-grow" strategies that made Waste Management (Nasdaq: WMX) and Service Corp. International (NYSE: SRV) the trash hauling and funeral home powerhouses they are today.
Scrap recyclers get scrap metal from a variety of sources, ranging from the factory floors of automakers and aerospace companies to peddlers who collect it from junkyards and consumers eager to clear out their attics. After it is collected, the scrap is sorted by metal type (ferrous or non-ferrous first), melted down, and then sold to steel mini-mills, which use the scrap to make steel bars and coils. Once moribund, the recycling business has been ignited by the success of steel mini-mill companies like Nucor (NYSE: NUE) and Chaparral Steel (NYSE: CSM). Because these mini-mills make steel out of recycled scrap more cheaply than the large steel mills can do with iron ore, they have created an industry fueled by the scrap metal that Metal Management provides.
The Story. Metal Management began its current run back in April of 1996 when the company, then known as General Parametric, acquired EMCO Recycling Corp. for $23.7 million. General Parametric had already sold off its computer-presentation graphics business in 1995 and later sold its printer business for a song to concentrate on consolidating the scrap metal industry.
Things really got hopping in March of 1997 when Jennings talked Al Cozzi out of bringing his scrap recycling firm public and instead convinced him to merge with Metal Management and become the company's Chief Operating Officer. Although discussions over the merger dragged for months before it was finally settled in early December with a price tag of $242 million, by having Cozzi on the management team former investment banker Jennings had an insider in the 95% family-owned scrap metal business who could speak the language of the participating companies.
Throughout the year Metal Management has acquired or announced the pending acquisition of eleven other companies, ranging in size from a few million dollars to $500 million in annual revenues. By consolidating these diverse companies into a loose confederation of businesses, each of which keeps its own name, Metal Management hopes to provide scrap customers with support on a larger scale without sacrificing each manager's independence.
Analysts anticipate $940 million in revenues in fiscal 1997 and $1.1 billion in revenues in fiscal 1998 with profits expanding from 15 cents per share to 90 cents per share over that period. With Metal Management aiming to control 25% of the $22 billion industry in five years through acquisitions, the implied revenue growth rate is at least 42.4% if the industry does not grow at all.
How Could You Have Found This Winner. The company's acquisitions began to generate positive stock price reactions as early as March of this year after a flurry of deals, including the announced Cozzi transactions. Although industry insiders expressed some skepticism, throughout the year it appeared that Metal Management was able to hold it together and make it work. Although the firm has only reported break-even earnings results over the past three quarters, the company is not losing money. On a cash-flow basis after adding back amortization, it is actually generating five to ten cents per share each quarter. Seeing this cash generation, on top of the fact that the company was handling its long-term debt load of approximately $50 million and successfully acquiring other companies using stock, getting in at 0.17 times trailing revenues adjusted for acquisitions was fairly risk-free.
The Future. With 19.6 million shares outstanding, investing in Metal Management has become less risk-free. The company's stock currently goes for $335.7 million while the debt of $50 million and cash of $11 million give you a company trading at 0.39 times this year's sales. With profit margins in the scrap business fairly tight and the valuation for acquisitions climbing, Metal Management may have already swallowed up most of the cheap acquisitions out there. Schnitzer and Philip Services are also trying to elbow into the consolidation game and both companies are amply capitalized to do the same thing as Metal Management, driving potential acquisition prices higher.
If Metal Management can truly start to generate strong cash flow from its acquired operations and miss any kind of cyclical downturn in the American steel mini-mill business, it could prove to be quite cheap. Certainly if Metal Management does earn 90 cents per share next year on an acquisition enhanced 15%-plus revenue growth rate, it will be a stock to watch.
-Randy Befumo (TMF Templr)
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