This article is part of our Rising Star Portfolio series.
Earlier this week, First Solar (Nasdaq: FSLR) got the boot from the socially responsible Rising Stars portfolio I'm managing for Fool.com. I'm looking to move on to greener pastures and bring things back down to earth a bit. My latest purchase is Tennant (NYSE: TNC), which specializes in environmentally friendly cleaning services.
The business
Companies with serious sustainability missions are often upstarts, but Minneapolis-based Tennant enjoys the distinction of being the oldest company in this portfolio. George H. Tennant founded the company as a one-man woodworking business in 1870. (Another stock in this portfolio, PepsiCo, is just a bit younger; it was founded in 1898.)
Tennant has precedent for evolving with the times. It grew from its humble beginnings to a wood flooring and wood products company, then transformed itself into a manufacturer of floor-cleaning equipment. Its environmentally sound cleaning equipment represents Tennant's latest evolution, bringing greener cleaning methods to the market.
These scrubbers aren't the kind you'll use for your housecleaning. Tennant specializes in machinery for the industrial, commercial, and outdoor markets, and is putting a far greater emphasis on sustainability, both internally and in its product line. It boasts that its Orbio brand is "the leading innovator in sustainable technologies that clean, control, or kill harmful microorganisms without the use of traditional chemicals."
In fact, Orbio equipment uses water power to clean up. Its Orbio ec-H20 also uses up to 70% less water than traditional methods to achieve that end. The use of electrolysis and microbubbles of oxygen allow the company's products to clean with less water and no chemicals.
Tennant also provides Green Machines for use in city centers and pedestrian areas. Green Machines emit zero exhaust or carbon dioxide, run for up to eight hours on a single lithium-ion battery charge, include recyclable components, and significantly reduce water usage. In another nice aside, they boast a nearly silent driving mode, reducing noise pollution.
The company doesn't just provide green cleaning equipment for its customers, it's also seeking to slash its own environmental footprint. Tennant has been working on reducing energy usage and greenhouse gas emissions, and has a "reduce/reuse/recycle" initiative internally.
Why I'm buying
Despite the environmentally friendly spirit described above, Tennant is a relatively "quiet" stock, bringing conservative, stable attributes to this portfolio.
Tennant's trading at 15 times forward earnings, which is steeper than other general equipment manufacturers like Deere (NYSE: DE), Caterpillar (NYSE: CAT), and United Technologies (NYSE: UTX). However, Tennant's most compelling multiple is its PEG ratio of 1.00, which indicates an undervalued stock relative to growth expectations.
This company has a strong balance sheet, too. Its total debt-to-capital ratio is just 14.2%, and it has $52.3 million, or $2.77 per share, in cash. Although 2009 was bumpy, with Tennant reporting an annual loss and sales decrease, it has consistently reported positive free cash flow over the years; last year, Tennant generated $43 million in free cash flow.
Furthermore, Tennant's a safe sleeper for this portfolio because it also pays a dividend; its trailing annual dividend yield was 1.7%.
And now, the risks
Just because I haven't mentioned direct competitors doesn't mean they aren't out there. In the company's Form 10-K, it discusses "significant" competitors in all key geographic regions. Tennant discloses a lack of publicly available industry data to pinpoint its market share in the field.
A quick Web search reveals companies like Denmark's Nilfisk-Advance (tag line: "green meets clean") and privately held Daimer, which boasts that it cleans up for clients like Dole, Hershey, and the White House. Meanwhile, rival German firm Karcher has filed claims of false advertising against Tennant, challenging the effectiveness of Tennant's ec-H20 water-based cleaning technology.
There are some noteworthy risks on the corporate governance element of the business. For example, the company has a classified board, meaning director elections occur on a staggered basis in different years. Those of us who want good corporate governance prefer declassified boards.
I noticed some red flags regarding executive pay, too, judging by the employment agreement attached to Tennant's most recent Form 10-K; it applies to high-ranking executives including CEO H. Chris Killingstad.
For example, "in no event" should the executives' base salaries be cut by more than 15% of the preceding years' salary in any fiscal year. That sounds like a pretty good indication of the possibility of pay for failure, since there's only so low base salary can go under any circumstances. Executives can also be reimbursed for out-of-pocket expenses related to business, travel, and entertainment if they're incurred during the call of duty. In addition, like many companies, Tennant has golden parachutes in place too.
The Foolish bottom line
Just because a company isn't the biggest headline hog doesn't mean it's not a good investment. Tennant's business may not be the sexiest, but large spaces will always need powerful cleaners. Tennant's commitment to putting green cleaning machines on the market as well as to boosting its own internal sustainability gives it a place in this portfolio.
