ssb: BRKS: FLASH - Helix Acquisition, Negative Pre-Announcement
HOLD (2)
Speculative (S)
Mkt Cap: $693 mil.
July 11, 2005 SUMMARY
* BRKS buying HELX (a vacuum component supplier) for ~$450MM or ~2.8X trailing sales - expected to close in CQ4:05.
* BRKS sees F2006 cost synergies of ~$10-15MM + tax savings of $6-8MM. Using our C2006 BRKS estimates + consensus for HELX, we estimate pro-forma C2006 EPS of ~$1.10 meaning stock trading at <14X pro-forma.
* Deal valuation somewhat high, but we like this deal as it builds defensible critical mass in what we consider BRKS' crown jewel - its OEM business. Factory automation (AMHS) and software continue to be part of BRKS, but software being run as independent business and AMHS in "lock-down" mode.
* BRKS also announced ~$5MM (~4%) miss to FQ3:05 (Jun) revs due to delays in two software projects (we believe STM primarily culprit) - BRKS noted core hardware business was in-line. Note we previewed risk for BRKS in our quarterly preview note dated July 7, 2005. Maintain Hold, but like this deal.
FUNDAMENTALS
P/E (9/05E) 42.1x
P/E (9/06E) 18.8x
TEV/EBITDA (9/05E) 15.0x
TEV/EBITDA (9/06E) 9.8x
Book Value/Share (9/05E) $7.23
Price/Book Value 2.2x
Revenue (9/05E) $489.3 mil.
Proj. Long-Term EPS Growth NA
ROE (9/05E) 5.3%
Long-Term Debt to Capital(a) 35.2%
(a) Data as of most recent quarter
SHARE DATA . RECOMMENDATION
Price (7/8/05) $15.59
Rating (Cur/Prev) 2S/2S
52-Week Range $18.73-$11.62
Target Price (Cur/Prev) $17.00/$17.00
Shares Outstanding(a) 44.5 mil.
Expected Share Price Return 9.0%
Div(E) (Cur/Prev) $0.00/$0.00
Expected Dividend Yield 0.0%
Expected Total Return 9.0%
OPINION
In light of recent M&A transactions executed at a trailing price-to-sales
multiple in the 2.0-2.5x range, and HELX's recent trading range of 2.0-3.0x
(Figure 1), we view BRKS' deal valuation of HELX a tad high. Net/net, however,
we like the deal as HELX adds another, highly defensible, critical jewel to
BRKS' crown business, its equipment OEM business. Additionally, we note, that
HELX's gross margin at its current revenue run rate is roughly 40%,
significantly improving BRKS' tool hardware gross margin profile in the 30%
range. Together with HELX's historical trailing price to sales range in the
2.0-7.0x range, the potential for margin uplift in BRKS' tool hardware business
gives us some comfort with respect to the deal valuation.
With guidance for roughly $10-15MM in cost synergies, and another $6-8MM in tax
savings, we estimate BRKS' pro forma EPS in C2006 to be roughly $1.07, or $0.16
accretive (Figure 2). With the stock trading down at ~$14.50 due to delays
with two software projects, BRKS is trading at <14x C2006 pro-forma earnings.
Figure 1. HELX Trailing Price-to-Sales
Source: FactSet
Figure 2. BRKS Pro-Forma C2006 EPS
Source: Smith Barney, First Call
VALUATION
We rate BRKS Hold, Speculative Risk (2S) with a price target of $17.
As the semiconductor cycle moderates, we believe investors should focus on a
metric that accurately captures cross-cycle earnings power. We thus focus on
"normalized" earnings on the notion that the downturn will be more muted than
any such downturn in recent memory. If we average peak (fully taxed) rolling
four quarter EPS of $0.73 (FQ1:05) and trough (fully taxed at 40% versus our
27% effective tax rate in F2005 due to the benefit from deferred tax assets)
rolling four-quarter EPS of $0.30 (FQ1:06), we arrive at a normalized full year
EPS estimate of $0.52.
We then note that the average 10-year historical S&P500 multiple (excluding the
1998-2000 Asian crisis/market bubble time period) is approximately 18.4x
earnings. As semiconductor equipment capital spending is likely to continue
growing in the high single digits % CAGR (or roughly 2x global GDP), we assign
a 10% premium to the market for bellwether AMAT, and arrive at a multiple of
20x earnings. As BRKS is 1) much smaller capitalization, and 2) focused in
only the automation segment of the larger capital equipment market, we choose a
10% discount to the market multiple, arriving at 16.6x.
Applying this 16.6x multiple to our $0.52 normalized earnings estimate, we
arrive at a value of $8.60. As this is based on cross-cycle normalized
earnings, we consider this to be "fair value" for the stock. We then add back
the net present value per share of the future cash flows resulting from BRKS'
continued use of its large deferred tax asset, which is currently not on the
balance sheet. This adds $2.27 to fair value, making it approximately $10.90 on
an earnings basis.
As a cross check, we also investigated the notion of fair value starting from
book value. Looking at price to book, we note that although the stock has
troughed below 1.0x reported book, the longer-term average has been roughly
2.0x (unadjusted for off-balance sheet NOLs). We estimate BRKS' C2005 year-end
tangible book value will be $5.52 per share, and if we were to add in the
deferred tax asset that is currently off balance sheet, we arrive at an
adjusted book value of $11.50 per share. Applying the historical, average
multiple of 2.0x to this implies a $23 valuation through the cycle.
As the semiconductor cycle moderates, we believe the most appropriate metric is
one based more on earnings than on book value. However, we believe that it is
also appropriate to take into account a valuation based on book value, and
increasingly, view book as a better indicator of BRKS' progress in re-vamping
its business model and as fundamentals bounce along the bottom. Particularly,
we believe BRKS' potential in working through the current downturn without
burning book value as a significant milestone compared to the downturn
immediately after C2000. We therefore have chosen to weight our target price
50% on earnings and 50% on book value. In doing so, we derive our target price
of $17 and maintain our Hold, Speculative (2S) rating.
RISKS
We rate Brooks Automation Speculative risk due primarily to low earnings
stability, high stock price volatility, and the company's acquisition strategy
in the last several years. The following are among the key risk factors:
* BRKS derives the majority of its revenue from the highly cyclical
semiconductor industry, and has exposure to other volatile markets such
as flat panel display. Although the semiconductor industry currently
appears to be in the early stages of a cyclical recovery, any unexpected
drop in semiconductor demand or delays/cancellations in new fab projects
or expansions could significantly lower demand for BRKS' products
* Our valuation methodology is based on the assumption that semiconductor
capital equipment cycle will exhibit a shallower downturn than previous
cycles. As fab utilization and capital equipment orders are closely
linked to stock price, any material differences to our supply/demand
model (e.g., demand drops suddenly, or supply increases more rapidly
than we predict) may cause our valuation methodology to be inaccurate.
* Brooks faces company specific risks, namely:
* Brooks is well leveraged to the 300mm market and a higher
industry mix shift to 200mm vs. 300mm could negatively affect the
company's order patterns or margins.
* Any slowdown of the trend for equipment OEMs to outsource tool
hardware could negatively affect BRKS' potential earnings growth.
* Brooks competes in a highly aggressive pricing environment
especially in AMHS, which could negatively affect earnings power.
* In terms of potential upside to the stock, we believe a significant
increase in tool hardware outsourcing from equipment OEMs could provide
revenue upside for BRKS as the company is well leveraged to the tool
automation market. Also, increased market share and an acceleration of
software revenue could also provide upside to earnings.
If the impact on the company from any of these factors proves to be greater
than we anticipate, the stock could fall below our target price. If the impact
on the company from any of these factors proves to be less than we anticipate,
the stock could move above our target price.
ANALYST CERTIFICATION APPENDIX A-1
I, Timothy Arcuri, the author of this report, hereby certify that |
