1 Reason the Street Should Expect Big Things From Wabash National

Here at The Motley Fool, I've long cautioned investors to keep a close eye on inventory levels. It’s a part of my standard diligence when searching for the market's best stocks. I think a quarterly checkup can help you spot potential problems. For many companies, products that sit on the shelves too long can become big trouble. Stale inventory may be sold for lower prices, hurting profitability. In extreme cases, it may be written off completely and sent to the shredder.

Basic guidelines
In this series, I examine inventory using a simple rule of thumb: Inventory increases ought to roughly parallel revenue increases. If inventory bloats more quickly than sales grow, this might be a sign that expected sales haven't materialized. Is the current inventory situation at Wabash National (NYSE: WNC  ) out of line? To figure that out, start by comparing the company’s inventory growth to sales growth.

How is Wabash National doing by this quick checkup? At first glance, pretty well. Trailing-12-month revenue increased 124.5%, and inventory increased 54.6%. Over the sequential quarterly period, the trend looks healthy. Revenue grew 17.2%, and inventory grew 2.3%.

Advanced inventory
I don’t stop my checkup there, because the type of inventory can matter even more than the overall quantity. There’s even one type of inventory bulge we sometimes like to see. You can check for it by examining the quarterly filings to evaluate the different kinds of inventory: raw materials, work-in-progress inventory, and finished goods. (Some companies report the first two types as a single category.)

A company ramping up for increased demand may increase raw materials and work-in-progress inventory at a faster rate when it expects robust future growth. As such, we might consider oversized growth in those categories to offer a clue to a brighter future, and a clue that most other investors will miss. We call it "positive inventory divergence.”

On the other hand, if we see a big increase in finished goods, that often means product isn’t moving as well as expected, and it’s time to hunker down with the filings and conference calls to find out why.

What’s going on with the inventory at Wabash National? I chart the details below for both quarterly and 12-month periods.

Source: S&P Capital IQ. Data is current as of latest fully-reported quarter. Dollar amounts in millions. FY = fiscal year. TTM = trailing 12 months.

Source: S&P Capital IQ. Data is current as of latest fully-reported quarter. Dollar amounts in millions. FQ = fiscal quarter.

Let's dig into the inventory specifics. On a trailing-12-month basis, raw materials inventory was the fastest-growing segment, up 104.0%. On a sequential-quarter basis, finished goods inventory was the fastest-growing segment, up 6.3%. Wabash National seems to be handling inventory well enough, but the individual segments don't provide a clear signal. Wabash National may display positive inventory divergence, suggesting that management sees increased demand on the horizon.

Foolish bottom line
When you’re doing your research, remember that aggregate numbers such as inventory balances often mask situations that are more complex than they appear. Even the detailed numbers don’t give us the final word. When in doubt, listen to the conference call, or contact investor relations. What at first looks like a problem may actually signal a stock that will provide the market's best returns. And what might look hunky-dory at first glance could actually be warning you to cut your losses before the rest of the Street wises up.

I run these quick inventory checks every quarter. To stay on top of inventory and other tell-tale metrics at your favorite companies, add them to your free watchlist, and we’ll deliver our latest coverage right to your inbox.

Seth Jayson had no position in any company mentioned here at the time of publication. You can view his stock holdings here. He is co-advisor of Motley Fool Hidden Gems, which provides new small-cap ideas every month, backed by a real-money portfolio. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On January 07, 2012, at 11:34 PM, twrichter33 wrote:

    I just want to comment on Seth's article on WNC, maybe your job is to sit in your office in NYC or L.A. and read company data not knowing anything about how a company operates. I live in Lafayette have been a watcher and stock holder for the last 15+ years. I have to respectfully disagree with your checking inventory on this company and think that if they have a large inventory on hand they may have to sell at a discounted price to get rid of inventory sitting on the shelf. WELL this is a trailer manufacturer, they only build what why are contracted to build. They do not build a trailer and set it on a lot somewhere in hopes of selling it. So what they have on hand is already agreed on in contracts, if they don't have contracts they don't build trailers. HENCE the reason WNC hit below .30 cents a share a couple of years ago, no contracts they didn't build trailers and laid employees off.

    I like you said they have low inventory in your article but this is a company that doesn't have a store front so nothing will be sitting on the shelf at a discounted price!!!

  • Report this Comment On January 31, 2012, at 10:04 AM, grseidel wrote:

    One possible reason for the growth in finished goods is the lack of drivers around the country, which means it is more difficult for companies to pick up their orders. As one comment noted, WNC builds to order, so the Finished Goods growth should have been flat. My guess is that this is another "bubble" issue that came about due to the recovery.

    My feeling is that WNC is in pretty good shape, as orders are growing, but more importantly, margins on those orders is growing.

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