Wednesday, April 11, 2012

BSET Posts Encouraging Results

Bassett Furniture, BSET, is an interesting play on a recovery in consumer spending and housing.

Last week, the company released its 1st Quarter Earnings statement and there was much to like, but with some caveats that suggest the questions around the business have not been fully answered.

The company is primarily engaged in designing, manufacturing, distributing and retailing custom furniture with a more "grown-up" and traditional style than say, IKEA, which engages in the same set of activities.

The stock, is actually a hybrid of two components: one is an incredible balance sheet that historically has included investments in other firms, real estate and hedge funds.  Indeed, much of the company's profits in recent years have been the profits of these investments.  The other part is the operating business, which has struggled.

At the moment, the company is valued at $100mn or so.  This essentially values the company at its working capital.  The net working capital as of 28 Feburary was $90mn, but in a subsequent event, the US government announced that BSET was entitled to $9mn in anti-dumping offsets.  This sum is the result of actions taken years ago by the Federal Government, but the monies have been only dispersed slowly. If we add this as a receivable, we have about $99mn in working capital, almost exactly the price of the stock.

(The US for a time had an anti-dumping law that saw the US government impose penalty tariffs on firms that were "dumping" products on the market and then use the monies collected not to fund the government, but to provide subsidies to the "harmed" firms.  This strikes me as a double down on protection, since the tariffs should already raise competitors prices, to then pay an additonal subsidy seems silly, perhaps this is why the law was amended).

Much of the working capital, it should be added, is in cash, raised by liquidating several of the company's investments, including hedge funds and it's large share in the IHFC in North Carolina (this asset was actually carried as a liability on the books, because dividends received exceeded the entity's income, so it had a shareholder deficit), It was able to sell this "liability" for $80mn.  Accounting is so much fun, sometimes.

This effectively values teh company's long term assets, most of which are property, plant and equipment, as well as some rental real estate and a large deferred tax asset, at zero.  This seems silly, since it is likely that even in a weak real estate market, much of the real estate the company owns could be sold at a price higher than its carrying value.  After all, land that the company owns in Bassett, VA has been on the books for decades, still shown at the lower of cost or market.  Most of the company's retail store fronts owned are rented (admittedly to itself or to licensees), but rented commercial property usually gets good prices and cap rates are still low.

Better yet, the company has taken massive valuation allowances against many of its assets, including a $19mn valuation allowance against its deferred tax assets.  At present, the company cannot predict that it willl earn enough to reverse this allowance, but if earnings improve, it could be sitting on a $19mn gain (or at least a portion thereof) because it can use these assets to reduce taxes in the future.  The company has noted that the $9mn in antidumping subsidies would allow the company to reverse over $3mn in DTA.

It also has valuation allowances against its remaining interest in one hedge fund, which will likely have at least a partial reversal, and $4mn in allowances against notes receivable (mostly from struggling licensees).  If business were to improve, and licensees were better able to meet their obligations, these allowances could also be reversed.

All in all, if we were purely evaluating the balance sheet, we could value the company at $13-$15 per share.  But what of the struggling furniture business?  For a great balance sheet supporting a crappy business is worth less than it seems.

Well, much of the new-found liquidity raised by selling long-term investments, has been used to restructure its operations, especially retail, and the efforts are finally producing some results.

The company's wholesale operations, which design, source, manufacture and distribute furnishings to both Bassett's branded retail network (much of it company owned) and to 3rd party retailers has traditionally made a profit.  In 2011, huge write downs caused wholesale to lose money, but evidence is that the wholesale segment finally has its cost structure aligned with volumes, as the company still made a good operating profit with lower volume.  Given operating leverage in the business, and improved gross margins, any lift should see nice profit growth at the wholesale level.

The retail level has struggled and has traditionally lost money.  This is still true, however there are many encouraging signs that the company has finally turned a corner.  Stores open and manageed by the company for a longer period, actually earned a small operating profit as gross margins improved and SGA were held to reasonable levels.  Other stores still spend.

If the furniture busienss can earn $0.30 per share per quarter (approx $3.3mn) which can definately be achieved by the wholesale segment, requiring simply a break even at retail, the business can be valued at $6 a share ON TOP of the balance sheet, from which many cash distributions can be made (more on this below).  If retail can also make a contribution, so much the better. 

Growth would help at both levels.

Here the results are more mixed, as actual sales in the quarter declined.  But this was tempered by a 10% increase in orders taken.  It is not clear yet whether this was just order shifting (from Q1 to Q2), perhaps because of slower delivery times, or whether this indicates a greater willingness of Americans to purchase bigger ticket items.  Only time will tell, so I remain a patient holder of the stock.

The final bit to notice is that the company has been using its cash to pay dividends and to repurchase stock.  The company repurchased nearly 1% of shares oustanding in the first quarter, and there is continued evidence of slow but steady accumulation.  Take a look at this chart, the 1 month price movement, courtesy of Yahoo! Finance.

I have never seen a stock with such a steady set of rises.  The stock increases almost every day, but only in small increments, as though someone is trying to prevent large buying from raising the price too much. 

I am certain that there is active accumulation of the stock.  Slow but steady accumulation which is driving the price higher, but enabling the shares to be purchased at the lowest possible price.  It could be the company's purchases, or it could be an investor or a fund, but I believe there is enough to drive the stock higher from here.

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