SUMX gets no respect...but this might be ready to change..."leveland, March 8 (Bloomberg) -- Stocks of small chemical producers and distributors like OM Group Inc., Valley National Gases Inc. and Summa Industries have been left behind as investors focused on larger companies and Internet stocks in recent years.
That may be about to change.
While shares of the chemical industry's giants have gotten clobbered this year, smaller companies, generally those with sales of less than $1 billion, are holding up better. The Standard & Poor's Smallcap Chemicals Index is down 10 percent this year, a better showing than the S&P Chemical Composite Index's 25 percent plunge. That's a turnabout from last year, when shares of the industry's big companies outpaced small ones.
Small chemical stocks are cheap, analysts said, with many trading at single-digit multiples to expected earnings. Some, like OM Group, are poised for earnings growth on rising demand for their products. Others like Valley National Gases, are benefiting from acquisitions.
``The prices on some of these stocks have just gotten almost stupidly low, and the fundamentals are only going to get better,' said Mike Kagan, a portfolio manager at Salomon Brothers Asset Management who manages $1.9 billion.
Niches
Specialty chemicals are typically added to other substances in the manufacturing process to improve characteristics such as durability, color and flexibility. Historically those products commanded a premium because they're scarcer and sold in smaller volumes than commodity chemicals.
Prices and profit margins for many specialty chemicals slipped recently though as the materials became more widely available and raw materials costs rose. In 1999, average profit at specialty-chemical companies fell 3 percent, according to First Call/Thomson Financial. That helped drive investors away from the industry.
At the same time, lucrative niches remain for highly specialized products without ready substitutes. These are often dominated by small-cap companies.
For example, Cleveland-based OM Group Inc. is a top supplier of specialty chemicals and metals. It has more than 50 percent of the world market for cobalt used in rechargeable batteries and is a leading supplier of nickel-based compounds used in fuel cells.
Salomon's Kagan said he expects OM Group to benefit from ``explosive growth' in rechargeable-battery markets.
``OM Group really has a unique technology, and it's the best story in the entire group,' Kagan said.
Kagan expects earnings to accelerate from their recent annual growth rate of 12 percent to 15 percent. OM Group shares have risen more than 5 percent this year, making it the best performer on the small-cap chemicals index.
Fuel Cell Technology
Fuel cells pollute less than fossil fuels in generating energy. Automakers and utilities are interested in the technology to help meet more stringent air-quality standards.
Shares of fuel-cell developers such as Plug Power Inc. and FuelCell Energy Inc. have more than tripled this year, and analysts said OM Group could represent an inexpensive way to invest in the technology.
OM Group is expected to earn $2.81 a share this year, based on the average estimate of analysts polled by First Call/Thomson Financial. The company earned $2.30 last year.
Wheeling, West Virginia-based Valley National Gases, with annual sales of $102.3 million, distributes specialty gases such as oxygen, nitrogen and argon used in industry and medicine.
The company has been buying up smaller distributors, and sales have nearly doubled since 1996. The company's growing network of distribution hubs allows it to cut delivery costs and buy supplies at lower prices than many of its competitors.
Valley National Gases profit could increase more than 20 percent annually the next few years as it sheds overlapping operations, said Jeff Spetalnick, principal of the Infinity Partners Fund, which has been investing in Valley National Gases.
Strong Cash Flow
``This is a company with very strong cash flow and low expenses,' Spetalnick said. ``What's really interesting is that they're generating $1.30 per share of cash flow after expenses on a $3 stock.'
The stock closed at 3 3/4 yesterday. Spetalnick has a 12- month target of $15, and expects fiscal 2001 earnings to climb to 50 cents a share from 38 cents in fiscal 2000. Valley National's fiscal year ends in June.
``Earnings comparisons will start to be very good, and that will get noticed,' Spetalnick said.
Summa Industries has also been on a torrid acquisition pace. Sales at the Torrance, California-based company, which makes injection-molded and extruded plastic parts used in conveyor belts, lighting fixtures, electronics and other industrial applications, have grown from $12.7 million in fiscal 1996 to $106.7 million last year.
The past three years its earnings per share have more than tripled to $1.46, but its stock price hasn't kept pace.
Summa trades at about six times expected fiscal 2000 earnings. By comparison, in 1997 the company's stock price averaged almost 13 times what the company earned that year.
Patent Protection
Summa Industries benefits from patent protection and a high level of engineering expertise in its products, said Allan Cohen, an analyst at First Analysis in Chicago.
For example, Summa estimates about 60 percent of its sales come from products where it's the sole owner of the manufacturing process, design or brand name, allowing it to charge a premium for those products, Cohen said.
Cohen said the company would be worth more than $30 a share in a buyout. The stock closed at 9 13/32 yesterday.
Summa Industries CEO James Swartwout said there's a ``discontinuity' between the company's share price and its performance because of the company's size.
Not Alone
``We're not alone (among small companies). Investors have been focused on putting money into mega-cap, liquid stocks and momentum stocks' such as Internet companies, Swartwout said.
Other small companies in the chemical industry poised for earnings growth include Intertape Polymer Group Inc., a Canadian plastic-packaging maker, Spartech Corp., which makes engineered plastics, and Olin Corp., which is benefiting from rising prices for chlorine and caustic soda used in paper-making and other industries, analysts said. |
