Monday, October 3, 2011

Stock idea: DDI Corp

This is my first post on my new blog. Today I want to talk about a smallcap stock idea which I have followed for over a year. This is a company that is flying under the radar of the investment community. With a market cap of $146 million and an enterprise value of $131 million, this is an intriguing investment.

Company description:

DDI is a leading provider of time-critical, technologically-advanced PCB engineering and manufacturing services, specializing in engineering and fabricating complex multi-layer PCBs on a quick-turn basis, with lead times as short as 24 hours. The company is well diversified in its customers, with over 1,100 PCB customers in various market segments, segments including communications and computing, military and aerospace, industrial electronics, instrumentation, medical, and high-durability commercial markets. DDi's customers include both original equipment manufacturers (OEMs) and electronic manufacturing services (EMS) providers.

As described above, one of the things that sets DDI Corp apart from competitors is that it targets provides time-critical printed circuit board (PCB) fabrication and assembly services. Time critical in this case means targeting companies who need printed circuit boards quickly, usually in less than 10 days Also, not only do they have over 1100 customers, no one customer represented more than 8.6% of accounts receivable (as of December 2010).

Key Management:

Mikel Williams, CEO has been with DDI since November 2004. Mr. Williams began his career as a certified public accountant working as an auditor for PricewaterhouseCoopers. Mr. Williams holds a bachelor of science degree in Accounting from the University of Maryland and an M.B.A. from Georgetown University

J. Michael Dodson has been the CFO of the Company since January 2010. Mr. Dodson brought over 25 years of senior level corporate finance and accounting experience for several publicly-held corporations within the technology industry, including the electronic equipment and semiconductor sectors.

Insiders are showing their confidence in the company with recent purchases. In early September, a director bought 75,745 shares at an average price of $6.96 per share and the CEO purchased 10,000 shares at $6.75 per share.

Investment Thesis:

DDI Corp should be bought because it is inexpensive on a number of metrics, including the following:

Valuation Metrics:

Price/Book of 1.5
Price/Cash Flow of 4.4
Return on Equity - 23.8%
Return on Assets -15.5%
Price/Sales - .55
DDI's gross margins are 21.95% compared to peers of 9.14%
5.5% Dividend yield based on 9/30 close:

DDI's P/E multiple with and without cash:

Date: 9/30/2011
Price: $7.24
Trailing EPS: $1.00
P/E Multiple: 7.24
Cash Per Share: $1.27
Cash Adjusted Price: $5.97
Cash Adjusted P/E multiple: 5.97

The forward P/E based on next year's estimates is only 5.3.

Dimensional Funds owns over 5% of shares outstanding. Dimensional Funds is a top mutual fund company with 230 billion in assets under management. Dimensional has deep expertise in the smallcap space and uses book to market as one of its core valuation metrics.

Why fundamentals are strong:

Admittedly, earnings have been inconsistent over the last several years. However, in late 2009, DDI turned a corner when they purchased Coretec, Inc. which was immediately accretive to EPS. While its unclear the exact percentage increase in EPS represented by Coretec, it was clearly significant. Additionally, the company seemed to have turned a corner with strong organic growth, which improved their cash position and allowed them to initiate a dividend.

Last quarter the book to bill ratio fell from 1.09 in the 1st quarter to 1.0, reflecting the challenging economic environment. However, gross margin increased to 21.8% from 21.3% in the previous quarter. Even in this challenging environment, DDI Corp should still conservatively earn $1.00 per share for the full year, representing a current P/E of 7. A mid-single digit revenue growth rate for 2012 should translate into approximately $1.20 in EPS, giving us a forward p/e of just under 6 Additionally, the company has paid $.10 a quarter in dividends for the past 4 quarters. This represents a 5.5% annual yield at current prices (close on 9/30),

Given the diversified nature of DDI Corp's business, a strict control over expenses, strong balance sheet, and entering into a seasonally strong 4th quarter, I recommend purchasing this stock for a conservative potential 40% upside from these levels, which is only 9% off the 52 week low. The P/E has fluctuated between 4 and 57 over the last two years, with 2009 being the first profitable year.

I believe fair value to be $12, or 10 times next year's earnings. A 5.5% dividend yield, book value of $4.72, and $1.27 in cash per share, indicate to me much more upside potential than downside risk. Obviously, at least a couple insiders agree.


Clearly, the current economic environment increases risk. However, I believe this has already been reflected in the stock price. Additionally, DDI's customer base is diversified. In 2010, 2009 and 2008, no individual customer accounted for 10% or more of our net sales. At December 31, 2010 and 2009, one customer accounted for 8.6%and 6.9% of our total accounts receivable, respectively (from the 10Q).

Disclosure: I own shares of DDIC