Making Buy-and-Hold Investing Work for You

This article is part of our Rising Star Portfolios series.

Long-term buy and hold investing does not mean "buy and forget." Even though I practice this investing within the Messed-Up Expectations real-money portfolio I run for the Fool, it still requires keeping track of company performance to see whether one should add to the position.

Or, as is the case today, not.

In a recent review of tech company Nam Tai Electronics (NYSE: NTE  ) , which holds a small position in the portfolio, I've come to the conclusion I can no longer justify its presence there. What I originally thought of as a "messed-up expectation" has turned out to be "spot on." Three items have led to this realization.

First, the company has very little moat. One of Porter's Five Competitive Forces is the bargaining power of customers, and Nam Tai is suffering from being in the weaker position. In the latest quarterly report, for instance, management discussed the fact that, even though one of its customers had caused delays in production, the expenses Nam Tai incurred during the delays were not being fully reimbursed by the customer. Either management left such reimbursement out of the contract, which to me wouldn't be a good sign, or its customer holds all the cards.

Technology companies can have strong positions relative to customers. For instance, Intel (Nasdaq: INTC  ) has a strong brand and can dictate terms to its customers, rather than being dictated to. However, Nam Tai is entering the field of making high-resolution LCD modules for tablets and smartphones. This is an area where, according to its own admission, competition is fierce and margins are low. This situation is not conducive to being in a strong bargaining position.

Second, a risk I mentioned in the original write-up -- the delay in gaining access to land in Guangming, China -- has continued. Without approval from the local government, it cannot begin building new production facilities, which will hurt revenue and profits down the road. Current expectations are for access sometime this year, but I wouldn't be surprised if that extends even longer.

Third, the company's financials have deteriorated markedly. When I originally purchased shares, Nam Tai had a history of making money, even during the Great Recession, something its competitors Jabil Circuit (NYSE: JBL  ) and Flextronics International (Nasdaq: FLEX  ) couldn't manage. A bit over a year later, that's reversed, with Nam Tai posting a loss, while the others have posted profits. Granted, part of that is due to the company's switch to a lower-margin product mix, but when doing so, it has to make up for it with volume to remain profitable. Unfortunately, it hasn't done so. Further, in entering this new market, it has to take market share to survive, but given the power of customers, I'm not sure how it will be able to do so for the long term.

All in all, the situation has not improved from when I first named it a "messed-up expectation," and I do not see it doing so. Therefore, I'll sell the portfolio's remaining position, lick my wounds, and hunt for opportunities elsewhere.

Come and discuss this and other investments on my Messed-Up Expectations discussion board, or follow me on Twitter.

If you like technology but don't want to invest in areas that quickly become commoditized, check out our special report detailing three tech companies that are disrupting the world of manufacturing. Find out what they're doing and how you can profit from the revolution.

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Fool analyst Jim Mueller doesn't own shares of any company mentioned. He's an analyst for the Motley Fool Stock Advisor newsletter service. The Motley Fool owns shares of Nam Tai Electronics and Intel. Motley Fool newsletter services have recommended buying shares of Intel. Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool's disclosure policy is never messed up.


Read/Post Comments (7) | Recommend This Article (3)

Comments from our Foolish Readers

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 June 13, 2012, at 9:57 AM, verdeseeker wrote:

    Jim,

    Your timing couldn't be worse. NTE just announced mass production of their new production line for high definition tablet LCD modules. The contract for these displays is worth $80-$90M per Month. The second new production line is for smartphone displays and is expected to start production in Autumn (what smartphone is launching this Autumn? Can you say iPhone5). These two contracts could easily double or triple revenues in the next year.

    Besides, you are being paid a 5% divy to wait.

  • Report this Comment On June 13, 2012, at 3:22 PM, TMFGebinr wrote:

    Hi verdeseeker,

    I did see that, though I'm not convinced that it is the iPhone 5 that is the second contract. The delay is because of the customer changing the specs (does Apple do that?) and now full production isn't expected until November. What are the rumors saying about when the iPhone 5 will be launched?

    Even so, I feel that the negatives outlined still outweigh that positive. For one, the quality of the components from its suppliers. Why didn't NTE make quality control checks and find the problems itself, rather than waiting for the customer to reject early production? What power does NTE have over the supplier to ensure quality components? And how does that failure make NTE appear as a serious player in this new endeavor?

    For another, the capacity at the Wuxi and Guangming facilities won't be used to the fullest. If it becomes so and the company would then need to expand, it is stuck until the local governments sign off on releasing the land for use. A customer's probably not going to wait around while the company negotiates with the government, then builds and tests new manufacturing facilities.

    For a third, I'm not sure the dividend is safe. Yes, the company's committed to paying it for the rest of this year, but that could change. Operating cash flow would have been negative if it hadn't gone after A/R to the tune of $14 MM in the last quarter. That source of cash cannot last forever and the cash balance is down 33% from this time last year. The dividend will cost the company over $12 MM this year. When the dividend was cut in 2009 and 2010, the company had much higher operating cash flow and cash balances than it does currently. It's going to have to restore those pretty quickly or there's the risk of the dividend being suspended again.

    The company may indeed turn the situation around and for your sake I hope it does. And I'll then look back and see what I missed and what I can learn from it.

    Thanks for reading and for your comment.

    Cheers,

    Jim

  • Report this Comment On June 14, 2012, at 8:22 AM, verdeseeker wrote:

    Jim,

    The production delay was not related to NTE, it was related to Sharp's other component suppliers. Sharp was unable to provide NTE with a LCD panel to which NTE adds/produces the LCD module. Sharp is the supplier and customer in thes case. Sharp did not reject early production, they couldn't supply NTE with the panels.

    BTW, NTE received the land in Wuxi the week before last.

    Cash has decreased as a result of the $130M investment NTE has made in these new production lines. NTE is in the midst of shifting its focus toward high growth products, as shown by these new customer contracts for HD LCD modules.

  • Report this Comment On June 14, 2012, at 5:51 PM, TMFGebinr wrote:

    Hi verdeseeker,

    Do you have sources for what you wrote, both in your last comment and the first one (that is, the stuff about Sharp, Apple, and the Wuxi land)?

    I'm not saying you're wrong, I'm trying to verify what you're saying. NamTai's website and SEC filings don't have anything (as far as I can find) about Sharp being that customer and supplier, nor that it was Sharp's delays as a supplier that was causing the delay. Nor anything about the Wuxi land being released.

    Jim

  • Report this Comment On June 18, 2012, at 11:08 AM, verdeseeker wrote:

    Jim,

    All of what I have referenced was discussed at NTE's annual meeting.

    Furthermore, Toshiba is the customer for the smartphone production in Shen Zhen. Apple, a number of months ago, announced that Toshiba and Sharp are the iPhone5 display suppliers. I am just connecting the dots.

  • Report this Comment On August 06, 2012, at 10:42 AM, Poordoctor wrote:

    Hi Jim

    You asked Verdeseeker if there was any info related to the Wuxi Land info, sharp etc.

    The Wuxi land info was actually released in the nte SEC 20F annual filing on 3-16-2012 before the release of your article. You may find this info on the sec site at sec.gov. Specifically the Wuxi land info is on page 36 of the annual report.

    I hope you find this information useful, as due diligence is important for investing. Sometimes due diligence is not Iimited only to press releases and sec filings.

    I wish you best of luck with your future investing ideas.

  • Report this Comment On August 22, 2012, at 11:55 AM, verdeseeker wrote:

    Jim,

    It's been a couple of months since your post on selling out your NTE position.

    Have you seen the Q2 earnings release? Revenues and Gross Margins both up significantly, with $90M in Revenues coming from Wuxi tablet production in just over a month's production. Shenzhen ramping in August.

    Q3 will have a full Q of Wuxi production, and a month to month and half of production from Shenzhen, looks like Mr. Koo's investments are starting to bare fruit.

    NTE will have a $2.0B revenue run rate in the next 12 months.

    NTE trading today at $7.40, up 23% from $6.00 on June 12.

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