This past summer, I gushed about a steady, boring, beautiful little company called Silgan Holdings (NASDAQ:SLGN).
As we know, the market's been anything but steady or boring since that time. But you'd hardly know about the carnage going on by looking at Silgan's share price chart. While the S&P 500 has lost roughly one-third of its value, this bottles-and-cans baron has barely budged. How beautiful is that?
I want to write about another unheralded American industrial dynamo today. This one is a little spicier, shall we say, and has sold off with the market. I still think the company is well worth your Foolish consideration.
Come and spray on our door
Graco (NYSE:GGG), as a supplier of fluid handling equipment, serves a fairly sleepy market niche. However, compared to Silgan, it's much more exposed to cyclical industries like homebuilding and auto manufacturing. Consequently, the near-term outlook is not great.
Blue-chip firms like Microsoft (NASDAQ:MSFT) and General Electric (NYSE:GE) look downright cheap these days, so why am I bothering with a mid-size manufacturer of pumps, dispensers, and spray guns?
Well, a favorite stock screen of mine is something I call the Best Worst ROE. This turns up companies whose worst return on equity over the past X number of years was still marvelous. Graco's profitability is simply stunning, with the worst fiscal year return on equity over the past decade clocking in at 36%.
Sure, companies like Accenture (NYSE:ACN) and SEI Investments (NASDAQ:SEIC) can claim the same, but for a company that actually makes and sells stuff, 36% is off the charts. To top it off, over this same time period, Graco's total debt, on average, constituted less than a quarter of total capitalization (i.e., debt plus shareholders' equity). Few public companies on this planet can boast such a combination.
How do they do it?
Having read the annual reports and cruised the investor presentation slides, I'm not so sure there's one success factor that trumps all others. Still, a few corporate attributes stand out for me:
- A relentless focus on reducing costs. Based on Graco's in-house "cost to produce" metric, year-over-year reductions have been achieved in eight of the past 10 years. Results are published monthly.
- Pay for performance. Employee incentives appear to be tightly coupled with cost reductions achieved.
- A rock-solid distribution channel cemented by long-term relationships. I believe it is this element that would be most difficult for a competitor to duplicate. One Japanese distributor was recently identified as approaching the half-century mark as a Graco customer.
- An obsession with customer satisfaction. Graco conducts surveys of end users and channel partners monthly.
But that's not all!
Graco also generates copious cash, far in excess of what it needs to invest in new equipment and R&D. (Usually about 4% of sales is directed to the latter.) The firm has two buckets for this excess cash: tuck-in acquisitions, like the purchase of Lubriquip from IDEX (NYSE:IEX) back in 2006, and returning cash to shareholders. The latter commitment can be summarized with a few eye-popping stats.
First, Graco's share count is lower today than it has been in more than 20 years. Graco currently carries a higher-than-average debt load as a result of borrowing to fund some of 2007's repurchase of $230 million worth of stock, plus the $180 million of stock bought back through the first nine months of 2008. Second, dividend payments (excluding one-time special dividends) have risen over the past five years at a 27% annual gallop.
Like many firms, Graco bought back a lot of shares before the market crash, and now it feels compelled to take a cautious approach with its cash, for fear of a frozen credit market, just when shares are cheapest. In hindsight, the timing was bad, but the capital allocation decision was sound.
Graco itself may not be buying shares today, but I think Fools should be. I personally intend to make an investment after my trading restriction (imposed by the Fool's rules) lifts 10 days from now.
