#113: Trey Henninger; Northfield Precision Instruments Corporation (NFPC); A Cheap Dark Stock

Aug 4, 2020

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Summary Today's interview guest is Trey Henninger. Trey Henninger runs the blog and podcast, DIY Investing. Trey is a private value investor focused on microcap and dark stocks in the United States. His focus is on high-quality companies with predictable durable earnings where management has skin-in-the-game. Trey runs a concentrated portfolio of 5 stocks with a 20% weighting each. By focusing on small companies, Trey hopes to find overlooked compounders at value prices. His favorite opportunities have a market cap below $50 million.

Focus Stock: Northfield Precision Instruments Corporation Basic Company Information: Name: Northfield Precision Instruments Corporation Stock Ticker: $NFPC Location: New York, United States Industry: Industrial Manufacturing Market Cap: $5.3 million TTM Earnings: $668k Shares Outstanding: 234,237 (constant, no change in the last 5 years) Stock Price: $23.00 TTM EPS: $2.85 (based on 2019 FY results) P/B: 1.09 P/E: 8.07 Earnings Yield: 12% Dividend Yield: 2.6% (based on 2019 dividends) 3-year Earnings CAGR from 2015 to 2018: 100.4% (EPS was $0.53 per share in 2015) - dropped a bit in 2019. Investment Thesis Northfield Precision Instruments Corporation is a niche manufacturer of precision air chucks. Precision is a keyword because very careful machining is required in the manufacturing process to meet the required specifications. Northfield is a leading manufacturer in the air chuck industry although the market is quite small. Northfield manufacturers for a worldwide customer base out of a single manufacturing location in New York State, United States. This single manufacturing facility has room for production expansion without adding additional space. The combination of being a small manufacturing concern with room to grow is that Northfield is a huge current and future beneficiary of expanding operating leverage. They have a fixed cost base and are able to sell their goods at a consistent and sustainably competitive gross margin. Gross profit margins are consistently in the 45-50% range over the last 6 years. Northfield is undervalued significantly as they trade for a single-digit P/E while in the process of rapidly growing their earnings. They have been able to sustain a high growth rate because incremental returns on capital clearly exceed 50%. It is my view that Northfield has remained undervalued for two key reasons: They are a small nano-cap company with a market cap below $5 million and they are dark. Northfield doesn't report to the SEC and the only way to receive financial statements is to email their accountant and request physical copies sent by mail. Earnings History 2015 = $0.53 per share 2016 = $1.05 per share 2017 = $2.46 per share 2018 = $4.27 per share 2019 = $2.85 per share 3-yr avg = $3.19 per share As Northfield grows earnings above $1m per year over the next few years and starts to earn multiple millions of dollars per year, they will be able to justify spending money to include their financial reports on OTC Markets. This will grow their potential investing audience and likely broaden their appeal. Potential Risks

Northfield is an industrial manufacturer which means it is not immune to cyclicality in the economy. With the current recession, we should expect earnings in 2020 to be lower than in 2018 and 2019. They are likely considered an essential business, so I doubt they would be drastically affected. However, a dip in earnings is both foreseeable and expected. Yet, I expect that earnings will grow again after this recession ends to exceed the 2018 high in earnings.
They are highly illiquid. It is difficult to buy shares in the market. It took several months for me to acquire my full position. I think liquidity is largely constrained because current large shareholders are unwilling to sell at such a low price while the profitability of the company continues to improve.

In summary, Northfield Precision is a dark company with a low single-digit P/E and a high earnings growth rate. They are able to profitability reinvest their earnings into growth at a high ROIC. While a 2020 recession will slow their progress, Northfield is on the way to becoming a much larger and more profitable company. Simply trading from the current P/E of 8 to a market multiple of 16 would double the stock price. The earnings growth and ROIIC should justify an even higher multiple though. The biggest downside is simply that the company is small and overlooked. It is hard to predict which a company of this size will begin to get a bid in the market. Yet, the low liquidity in shares should ensure that once interest grows the stock price will jump quickly. Connect With Trey Henninger

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Disclosure: Eric Schleien and some SMA clients of Eric Schleien through GSCM own shares of NFPC. Nothing here is investment advice. Do your own due diligence.