Sunday, November 11, 2007

Industry Review (continued.......)

Metal Fabricating: Insteel Industries (IIIN)
This industry supplies to the construction, automotive, and manufacturing sectors. Thanks to the strength of manufacturing, companies in this industry have posted solid gains of late. Some companies are using creative ways to stay profitable, such as The Timken Co. restructuring its automotive segment to convert some of this capacity to serve the growing energy segment. Companies in this industry are obviously dependent on the health of the customer’s they serve so results will vary across the industry.

One example of a profitable company not getting positive results recently is Insteel Industries (IIIN). The stock has dropped from its 52-week high in August of above $23 per share to its current price today of $10.92. Insteel makes steel-wire reinforcing products for concrete construction. It recently reported its net income fell by 49 percent to $5.2 million, or 28 cents per share, from $10.1 million, or 55 cents per share, a year earlier. The company has no long-term debt and should survive this housing market downturn, but 2008 will probably not be anymore fun for this company than 2007.

Heathcare Information Services: National Research Corp (NRCI)
This industry seems to have solid long-term potential due to the ability of companies in this industry to provide solutions to the healthcare industry that streamlines operations and reduces errors. However, evidence that these products provide savings and increase efficiency is still mostly subjective. This is still an emerging field and time will tell if healthcare organizations will spend the money required to implement these systems. However, it looks promising which should produce some profitable companies in this industry.

National Research Corporation provides ongoing survey-based performance measurement, analysis, tracking, and improvement services to the healthcare industry in the United States and Canada. It addresses healthcare organizations' need to track their performance at the enterprise-wide, departmental, and physician/caregiver levels. The company develops tools that enable healthcare organizations to obtain performance measurement information necessary to improve their business practices. The company reported record revenues and net income in its latest quarter but was disappointed its growth wasn’t better. The stock is trading near its 52 week high but its success makes it a company to keep an eye on for the future.

Specialty Chemicals: Terra Nitrogen (TNH)
For reasons gone over already ad nausea, companies in this industry are better served offering products to a diversified base of customers since the downturns in the housing market are effecting sales of chemicals used for home construction. One segment within this industry doing well is electronic chemicals as demand from China is strong for manufacturing electronic products. Companies in this industry are facing rising input costs but have been able to pass this on to customers so far but increased competition could threaten that in the future.

Terra Nitrogen (TNH) engages in the production and distribution of nitrogen fertilizer products for use in agricultural and industrial markets. The company has benefited recently from continued strong U.S. nitrogen demand for corn and wheat plantings. The stock price has reflected this strong growth. It traded a year ago at around $28 per share and traded as high as $140 per share in August before trading today at $106 per share. The money seems to have been made for this stock but what a nice run it was.

Power: VeraSun Energy (VSE)
Alternative energy companies are looking for solutions for a non-petroleum-based world and are spending significant amounts of research and development to find it. There is little put forth so far in the way of commercial products for today’s market. It will be interesting to see if these companies can continue to find external financing to pay for this R&D if liquidity dries up further. Merchant power generation companies typically have large amounts of debts and thus face risks of meeting its obligations. This industry is very volatile and the inherent risks need to be understood before investing in one of these companies.

VeraSun Energy (VSE) is the nation's second-largest ethanol producer. Ethanol is primarily used as a blend component in the gasoline fuel market. The company's ethanol co-products include wet and dry distillers grains with solubles, which are used as animal feed; and Corn oil, which is used as an animal feed, as well as to produce biodiesel, a clean burning alternative fuel. In addition, it offers ethanol-blended VE85 fuel to gas distributors and retailers. The company is increasing its capital expenditures to increase its production and has tripled its long-term debt in the last year to over $650 million. Investors seem unimpressed as the stock has dropped from over $26 per share early in the year to just under $13 a share today.

Saturday, November 10, 2007

Industry Review (continued......)

Entertainment: Lin TV Corp. (TVL)
This is a diverse industry and currently different segments within the industry are doing better than others. Cable television and outdoor advertising (companies involved in this area are Clear Channel and CBS Corp.) are two niches leading the way lately while overall broadcast television and radio has lagged. Companies such as Viacom, Time Warner, and New Corp are benefiting from increased Cable TV ownership. There are always new niches opening in this industry and companies are investing in online, digital, and gaming assets to grow profits and preserve long-term prospects.

The company in focus for this sector is Lin TV Corp (TVL). The company owns and operates 29 television stations to 9% of U.S. television homes, reaching an average of 11.5 million households per week. The company enjoyed a healthy 2006 due to heavy political advertising which has subsequently decreased in 2007 and hurt results. The company is expanding its internet efforts and internet-only revenues increased by 58% in the latest quarter. New Internet products in development include search optimization tools; political micro-sites; hyper-local high school football websites; local automotive classified advertising services, and other community driven, hyper-local micro-sites. The stock, which hit a high of over $20 per share, is trading at just above $11 per share today. There does seem to be an opportunity to buy at this lower price and wait until the 2008 elections to drive advertising revenues, and hopefully the stock price, back up for Lin TV.

Chemical/Diversified: Westlake Chemical Corp (WLK)
The Chemical/Diversified Industry has performed well recently benefiting from nine consecutive months of expansion from the manufacturing sector and general consensus is this should continue for a little longer. Companies serving the commercial aerospace sector such as Cytec Industries and Excel are enjoying strong demand right now from Airbus and Boeing. The agricultural sector is also doing well for the benefit of companies such as Monsanto. The U.S. auto and housing sectors are obviously not faring as well effecting companies such as PEG Industries and Cabot. Overall, this industry is tied to the different industries it serves and thus different for each company within it.

Westlake Chemical Corporation (WLK) is an example of a company being hurt by the downturn in the housing sector. This company is facing margin pressure due to increasing costs which it is unable to pass the price increase to its customers due to the housing market downturn. This has hurt net income and the stock has been steadily decreasing all year. S&P also recently downgraded the company due to the company’s $457 million in debt and questioned its ability to weather the housing downturn if conditions worsen. It will be interesting to see how companies like this without any real product differentiation respond if the housing market continues to worsen.

Machinery: Middleby Corp. (MIDD)
Companies in this industry that service the energy, mining, commercial construction, power, and agricultural markets are having real success right now, especially those not as dependent on the U.S. market. Companies such as AGCO, Manitowoc and Robbins & Myers are having success from increased demand for agricultural equipment due to high crop prices. Stock prices for many companies in this industry have increased substantially recently to reflect the generally positive prospects for the industry in the long-term.

Middleby Corporation (MIDD) provides cooking equipment such conveyor ovens, convection ovens, fryers, ranges, toasters, and broilers to the commercial foodservice industry including restaurants, hotels, resorts, schools, hospitals, long-term care and correctional facilities, stadiums, airports, cafeterias, military facilities, and government agencies. The stock price recently jumped close to 15% due to higher than expected revenue and income growth attributed to recent acquisitions. The company has a return on capital of over 27% and increasing revenues and margins. Seems like an interesting company since it is so successful and still relatively unknown and under-followed.

Trucking: Knight Transportation Inc (KNX)
This is a highly cyclical industry and is currently near the bottom of the cycle. The trucking industry is facing high fuel prices, intense competition and low customer demand. More than 66% of all manufactured and retailed goods in the U.S. are transported by truck. The industry is thus highly dependent on the health of the U.S. economy and is hurt by decreasing consumer confidence and slowing GDP growth. Stricter emission standards means there are more trucks on the road but the lower demand for them has led to aggressive price-cutting. Analysts are saying the downturn in this trucking industry is the most severe of the last four over the past twenty years. Key terms in this industry include truckload (TL) and less-than-truckload (LTL). TLs carry freight directly from origin to destination, while LTLs transport small shipments, typically through a network of terminals.

Knight Transportation, Inc. (KNX) provides asset-based dry van truckload and temperature controlled truckload carrier services primarily to short-to-medium lengths of haul. It operates 3,412 company-owned tractors; 249 contract tractors; and 8,761 high cube trailers, including 626 temperature controlled trailers. The company recently reported a decrease in net profit of 23% attributed to weak demand and low equipment utilization which caused them to have to cut prices. The company has no long-term debt so it should have no trouble surviving this downturn.

Air Transport: Uti Worldwide Inc (UTIW)
This sector is enjoying growth outside the United States and facing increasing price pressures within it. High fuel costs continue to pressure the bottom line. Competition is fierce in this industry and companies like Jet Blue that offer low fares have had success. Whenever I think of this industry I think of Branson’s line that if you want to be a millionaire you should start as a billionaire and buy an airline. Regardless, airlines like Southwest have shown that it is possible to have a great investment with an airline.

An interesting company in this industry is UTi Worldwide (UTIW). This company provides a global freight forwarding and logistics network capable of serving as its clients' single-source international shipping solution. From Morningstar, UTI provides a service for “Transporting goods for a component manufactured in the Midwest, bound for an assembly plant in Romania. A pallet must be trucked to a consolidation facility to be packed into an ocean container, driven to a sea port, and loaded on a ship. Upon arrival in Romania, appropriate trucks are contracted for delivery to a deconsolidation center, warehouse, or client. Along the route, reliable pickups and deliveries must be arranged in advance to avoid delays, and appropriate tariffs and import/export documentation have to be compiled in the appropriate languages and currencies. Throughout this process, timeliness, status visibility, and the ability to divert a delivery are essential. A third-party logistics firm removes this hassle by establishing relationships with air and ocean lines, trucking firms and warehouses and developing know-how for negotiating legal import and export in nations spread throughout the world.” The company has a diverse customer base with no customer contributing more than 3% of revenues. This diverse network provides the company with a competitive advantage that should serve them well in future years.

Sunday, November 4, 2007

Industry Review (continued.....)

Restaurants: AFC Enterprises Inc (AFCE)
The health of the restaurant industry is typically associated with the health of consumer spending since going out to a restaurant requires spending discretionary income. Higher gasoline prices and mortgage payments are causing concern for investors in this industry. Recent news in this industry include IHOP Corporations purchase of Applebee’s and a group of investors just bought Outback Steakhouse. Rising prices of corn, mean, and dairy has hurt operating margins in addition to the increase in minimum wage. Regardless, American’s inclination towards a prepared meal and expansion opportunities in Asia could make some companies in this industry a solid long-term investment.

AFC Enterprises, Inc. develops, operates, and franchises quick-service restaurants under the Popeyes Chicken & Biscuits trade name. It is a profitable company with profit margins over 14% and a return on assets of 18%. However the company is saddled with debt and same store sales are decreasing so the outlook is not rosy for this company. Once trading over $21 earlier this year, the stock now trades under $13. Despite the recent profitability for this company, it will be interesting to see if they created any franchise value that can provide sustainable competitive advantages in the years ahead.

Gold: Royal Gold (RGLD)
The price has gold has risen considerable lately due primarily to the influx of capital by central banks to provide liquidity in the markets. This is seen as potentially inflationary and so demand for gold as a hedge to inflation has increased. Significant demand for gold comes from India, China, and the Middle East, who each purchase gold as both a storage of wealth and for jewelry. Gold supply, which necessitates mining it out of the Earth, is not expanding as fast as paper currency is increasing, so the effect is a rising price in gold.

Royal Gold, Inc. engages in the acquisition and management of precious metals royalties. The company is different from traditional mining companies in that they acquire existing royalties or finance projects that are in production or near production in exchange for royalty interests. This royalty approach helps limit the risks inherent with mining stocks and limits capital spending requirements. Revenue grew 70% to $48.4 million in 2007, while net income rose 73% to $19.7 million, or $0.79 a share.

Shoes: Crocs, Inc. (CROX)

Despite the perception that shoes are always needed and thus the shoe industry is non-cyclical, the shoe industry is actually volatile due to the fashion trends associated with it. Thus, companies tend to be rising and falling at different times and when they turn, it is a sharp turn in the other direction. Shoe companies sporting products in fashion can be extremely profitable but ‘buyer beware’, because the price appreciation that can occur during good times can be wiped out very quickly at the first sign of trouble. Nobody wants to be the last one holding on to a stock whose product just went out of fashion.

This brings us to a company that personifies this industry: Crocs, Inc. Fueled by the popularity of its trendy shoes, the stock price had been on a tear the past year appreciating over 277%. This attracted all types of investors looking to play this stock, including short sellers and momentum investors. Today, November 1, Crocs announced their latest quarterly results and the stock proceeded to drop 36%. What happened? The company beat analyst expectations for earnings and raised earnings and revenue guidance for the year. But growth and projections were not enough to satisfy its investor base, and the stock dropped as a result. The stock is still up for the year, but the volatility of this stock underscores the dangerous game played in investing on the latest trend.

Computer and Peripherals: Intevac Inc (IVAC)
Not unlike most of the industries discussed, this industry is dependent on healthy consumer and business spending for health. OK, that sounded way too obvious. Regardless, many of the products sold by companies in this industry require discretionary spending which can dry up quickly if the money needs to go instead to higher mortgage payments and other rising costs. The good thing is most of these products improve consumer efficiencies which should drive some demand even in weaker times.

Intevac, Inc. (IVAC) is a profitable company in this industry providing disk sputtering equipment to manufacturers of magnetic media used in hard disk drives worldwide. The company operates through two segments, Equipment and Imaging. The Equipment segment designs, manufactures, markets, and services capital equipment used in the sputtering or deposition of engineered thin-films of material onto magnetic disks, which are used in hard disk drives. The Imaging segment develops and manufactures electro-optical sensors, cameras, and systems that permit sensitive detection of photons in the visible and near infrared portions of the spectrum, allowing vision in extreme low-light situations. In July, Intevac launched its new Lean Etch(TM) semiconductor manufacturing system. The company had been experiencing impressive revenue growth but a decrease in equipment spending from hard disk manufacturers may bring that growth to a sudden end. The company has no long-term debt and during the recent growth period, margins were impressive. However, Intevac will always have trouble differentiating themselves from their competition. What’s worse, their customers are hard disk drive manufacturers, such as Seagate Technology and Hitachi, who have much greater bargaining power than their suppliers like Intevac. This all adds up to situation where Intevac seems like an investment to pass on for now.

Telecommunications Equipment: Sonus Networks Inc (SONS)

Telecommunication service providers, the main customer for telecommunication equipment providers, are investing heavily in new infrastructure such as third-generation networks. Telecommunication equipment manufacturers hope to secure large contracts to help companies accomplish any of the following:
1) DSL Internet service upgrades for traditional telecoms
2) 3G networks for mobile phone service providers
3) Broadband expansion for cable companies
4) Voice over IP for large businesses replacing their PBX-based telephone systems.
The industry is dominated by companies like Cisco and Alcatel-Lucent who enjoy large economies of scale. Smaller companies find niches to compete and usually partner with their larger competitors who enter into the relationship to not have to develop it in-house. One risk of these companies, especially the smaller ones, is they usually have to choose between different technologies and if they choose the wrong technology than they are left in the cold. The other ever looming risk is developing a product that is inferior to your competitor and having your customers flock to your other competitor. This industry has lots of possibilities for impressive returns on investments, it is just important to weigh the risks inherent in the investment and a little luck could go a long way.

Sonus Networks is a good example of one of these smaller companies that may be a leader in the emerging next-generation packet-based switching equipment market. Sonus has set the benchmark for call reliability against the industry behemoths such as Alcatel-Lucent, Nortel, and Cisco. Despite its early success, the risks are abundant for this company as it has very little bargaining power with its more concentrated customers (Sonus’ top 5 customers account for about 60% of sales) and is dealing with intense competition from much bigger rivals. It will be interesting to see if Sonus can maintain its technological lead as better financed competition races to catch up in the huge potential market.

Tobacco: Vector Group Ltd. (VGR)

The Tobacco Industry faces many challenges going forward. I guess selling a product that gives your customers cancer will do that eventually. Domestically, demand for tobacco is decreasing which is turning more attention to foreign markets for growth. The government is also actively pursuing increasing its excise tax on cigarettes which would make the price of cigarettes substantially higher. There are also issues with the marketing of cigarettes that these companies deal with. It seems like the government will soon have to start marketing cigarettes themselves if they want to make sure their excise tax revenue keeps coming in. An emerging product offering in this industry is smokeless tobacco; time will tell how successful it will be. There are definitely many obstacles for the companies in this industry, but expect these companies to survive, even if their customers do not. (drum roll)

Vector Group, Ltd., through its subsidiaries, engages primarily in the manufacture and sale of cigarettes in the United States. The company produces cigarettes in approximately 270 combinations of length, style, and packaging. Its principal brand portfolio includes LIGGETT SELECT, GRAND PRIX, EVE, PYRAMID, USA, and various Partner Brands and private-label brands. Vector also develops and markets the low-nicotine and nicotine-free cigarette products, as well as develops reduced-risk cigarette products. The company currently sports a dividend yield of 7.3%. The company also has insider ownership of over 13%. I do not think it is a compelling value at this point, but Carl Icahn is an investor and he seems to know what he is doing.

Water Utilities: York Water (YORW)

This industry has historically been appealing to income-oriented investors for its payout ratio but there has recently been an overall decline in the dividend payout of companies in this industry. Water utilities are highly dependent on weather conditions and earnings can be quite volatile. Also, infrastructure is aging which should require significant capital expenditures in the coming years. The Environmental Protection Agency (EPA) is also enacting tougher regulations which will increase costs. Since many of the companies in this industry do not have the on-hand cash to pay for these future costs, expect debt and equity financing to further dilute the shares of today’s shareholders. The industry is benefiting recently from faster and more favorable decisions by regulatory agencies but it will probably not be enough to make many of these companies appealing in the long-term.

The York Water Company (YORW) engages in the impounding, purification, and distribution of water in York County and Adams County, Pennsylvania. It owns two reservoirs, Lake Williams and Lake Redman, which together holds approximately 2.2 billion gallons of water. The company also owns a 15-mile pipeline from the Susquehanna River to Lake Redman that provides access to an additional supply of water. As of December 31, 2006, The York Water Company served approximately 57,578 residential, commercial, industrial, and other customers in 34 municipalities in York County and 4 municipalities in Adams County. The dividend yield is currently 2.9%. The company had its best year in 2006 as it posted its highest ever operating revenues, operating income, earnings and earnings per share. This company has net margins over 20% and a return on equity of over 10%. The company has also increased its dividend for ten straight years and more impressively, has an uninterrupted dividend streak of 544 periods. This company has definitely proven its staying power.

Electrical Equipment: KOSS Corporation (KOSS)
There is a high correlation between the overall economic health of the economy and the performance of this industry. The deterioration of the housing market is affecting demand for its products which has forced many companies to focus on cost containment. However, it is critical to continue to refresh your product portfolio with new product offerings so successful Research & Development is crucial in this industry. Growth in foreign markets such as Asia and Latin America are also important opportunities these companies are looking to capture.

Koss Corporation (KOSS) designs, manufactures, and sells stereo headphones and related accessory products. It markets its products under Koss brand through audio specialty stores, the Internet, direct mail catalogs, regional department store chains, discount department stores, military exchanges, prisons, and national retailers. The company also sells its products to distributors for resale to school systems, and directly to other manufactures. Koss Corporation distributes its products internationally through sales representatives and independent distributors. The Koss family still runs the company and owns a substantial part of it. Despite having no debt, the company has a return on shareholder’s equity of over 20%. However, in its most recent quarter, the company reported a 5% decline in net sales and posted a 21% decline in net income which they blamed due to a plunge in the European market. They are confident this is a one-time setback so this recent dip in sales price may be an opportunity.

Retail (Special Lines): Marlin Business Svcs Inc (MRLN)
So far the best retailers who are enjoying the best success in this current economic climate are those targeting the young, affluent shoppers. Tiffany and Coach are two good examples. This industry is obviously dependent on the discretionary spending of consumers but a company that offers a differentiated product, keeps costs contained, and deftly expands into new markets will succeed in just about any economic climate.

Marlin Business Services Corp. (MRLN) provides equipment financing solutions primarily to small and mid-size independent equipment dealers in the United States. The stock currently trades at about $12.35 per share after hitting a high of $24.40 earlier in the year. Despite a return on equity of about 13% and profit margins over 28%, the company is trading close to book value. The stock recently reported a drop in earnings per share in its latest quarter which is misleading due to a one-time gain in 2006. This may deserve a closer look to estimate how much free cash flow the company can generate going forward, something it hasn’t been able to do to date due to its expansion.

Sunday, October 28, 2007

Industry Review (continued....)

Securities Brokerage: Diamond Hill Investment Group, Inc. (DHIL)
The woes of subprime mortgages are well-documented including the collapse of the Bear Stearns hedge of fund of mortgage-backed securities. However, also occurring was an inventory write-down of $940 million by Morgan Stanley mostly related to loans related to leveraged buyouts of below investment grade companies. Securities Brokerage companies benefited from the recent Federal Reserve rate cut because it helped stimulate the equity markets and increase trading. However, problems such as continued housing deterioration and lower consumer spending may affect future commissions revenues. Of note, the New York Stock Exchange and Euronext have combined to form NYSE Euronext. The CME Group is integrating the Chicago Board of Trade into its operations and NASDAQ acquired the Nordic exchange OMX AB.

Diamond Hill Investment Group, Inc. (DHIL) is a company to keep an eye on in this sector. DHIL provides investment management services to individuals and institutions by offering seven mutual funds. In the latest quarter (2Q2007), net income rose 76%, revenues increased 66% and assets under management increased to $4.5 billion from $2.7 billion. The company also announced plans to repurchase 15% of its common shares. What’s even better, their investment philosophy is based on the teaching of Benjamin Graham and the methods of Warren Buffett and all Portfolio Managers are significant investors in the same portfolios in which they manage.

Food Processing: Nutrisystem, Inc. (NTRI)
This is a traditionally defensive sector since food is not a luxury item. However, profits for companies in this industry are being effected by the rise in commodity prices, most notably in record highs for milk and corn. Higher milk prices have affected dairy-based food providers such Dean Foods, Kraft Foods, and Hershey Company. Corn prices are rising due partly to the increased demand for ethanol as a fuel alternative. These prices are cyclical and corn prices should come back down now that farmers are devoting more land to increase corn supplies.

Maybe not a traditional company in this sector, but one that was just too good to pass up is Nutrisystem (NTRI). I mention it is too good to pass up because I did own this stock briefly before selling out of it. While I probably deserved to take the beating that would soon ensure, I feel I still learned a lesson nonetheless. Basically, it is easy to fall in love with numbers for this weight management company. The company has net margins of about 15% and even with no debt, their return on equity is close to 60%. For the first half of 2007 they were growing customers at about 50%. Beyond those numbers, the story is not as nice. I basically sold the stock because after I re-visted my intrinsic value calculation, I was no longer comfortable with the assumptions I made. Basically, I did not really think their product was very good and became convinced their retention rates would deteriorate. I basically became too uncomfortable owning a stock I really didn’t believe in. That was my reason for selling but the reason it landed up dropping from the $50’s to the low $30’s in one day in October was because the new Alli diet drug affected their revenues and growth projections. Why go on a diet when you can pop a pill? Bottom line, Nutrisystem has no established moat for providing weight loss solutions so even after the precipitous drop, the stock still does not seem like a screaming buy. By the way, I also had a similar situation with Prepaid Legal (PPD). I came close to buying it recently after a major drop in stock price but the company seems too much like a giant marketing pyramid. Instead of NTRI, Prepaid has done quite well since I passed on it. But I am convinced it is a matter of time before the house of cards falls on that one too.

Homebuilding: Avatar Holdings (AVTR)
This industry is what you would call in a “downturn”. After years of a rapidly increasing housing market, this industry is in a freefall with no end in sight at the moment. The main problem right now is excess supplies (as I know all too well in San Diego), and high inventories are causing new builders to get creative on how to sell them. It is estimated there is a 9.6 month supply of houses right now. Tighter lending standards are also reducing the number of potential buyers. This has led many homebuilders to take significant impairment charges and write-offs which has sent many into the red. The question now is when will the housing market return? As mentioned in the Countrywide post, industry is expecting a return to price appreciation at the end of 2009 with a bottom in late 2008. What a nice graduation present for me. The Federal Discount rate cut was hoping to provide some relief and potentially make it easier for homeowners adjustable rate mortgage is set to reset. The near-term outlook is bleak for this industry but it should definitely offer opportunities for investors willing to weather this storm.

Avatar Holdings Inc. (AVTR) is a still profitable (for now) real estate operator in Florida and Arizona. It is focused on the development of lifestyle communities, including active adult (55 years and older) and primary residential communities. Despite the near-term turmoil, this should have promising long-term trends on its side with baby boomers retiring. It recently reported 2Q net income of $5.3 million, down from $27.2 million for the same quarter last year. It is currently trading at less than 80% of its book value. A profitable homebuilder in 2007 with favorable long-term trends supporting its business model is worth keeping on a watch list.

Biotechnology: Amer. Oriental Bioengineering (AOB)
Andy Kessler once described the research of biotechnology companies like they were throwing pasta against a wall and seeing what stuck. A company in this industry can obviously become immensely profitable if it can get a winning drug approved with patent protection. There are legislative risks for biotechnology companies in regards to generic alternatives but it will be hard to complete this legislation because the process would have to be established for a generic alternative (“biosimilar”) to prove its molecular structure is the same as the original and the clinical effects are the same. The bottom line is many of the stocks in this industry are speculative and still years from making actual profit. Tread carefully.

American Oriental Bioengineering, Inc. (AOB) is based in Shenzhen, China to engage in the development, manufacture, and commercialization of plant-based pharmaceutical (PBP) and plant-based nutraceutical (PBN) products for the treatment of a variety of conditions and diseases including but not limited to respiratory diseases, incontinence, pelvic inflammations, and neurosis. The company is profitable sporting net margins over 26% and returns on assets over 14%. Also, EPS has grown from $0.15 in 2003 to $0.46 in 2006, a compound annual growth rate of 46.5%. This stock is appealing for both its impressive growth and the fact it is selling in China. Or for some people, it is appealing because it has the word “China” associated with it at all. While the results have been impressive, there is just too much optimism already priced n the stock for me at the moment.

Cable Television: New Frontier Media (NOOF)
Cable television companies can be extremely appealing investments at certain stages because once the high capital expenditures required to install the infrastructure are in place, free cash flows increase rapidly. However, investors tend to punish a stock at the first sign of slowing growth which should be taken into consideration. One interesting company in this industry is LodgeNet, whose shares have dropped considerably recently due to its competitor On Command being acquired by Hilton and Marriott hotels. In general, the industry seems to be have slow basic-cable subscriber growth maybe partly due to the downturn in the housing market. Broadband adoption has also not been as rapid as some expected but the long-term growth potential still seems intact.

New Frontier Media (NOOF) is the stock in focus for this industry. NOOF engages in the production and distribution of adult themed and general motion picture entertainment. It operates in three segments: Pay TV Group, Film Production Group, and Internet Group. Proving the wide belief that catering to the vices of others is profitable, New Frontier is extremely profitable with net profit margins over 17% and returns on assets over 11%. A recent drop in 2Q revenues of over 20% have sent the price of the stock downward and this cash-generating firm now offers an 8.3% dividend yield. It would need to be further investigated to see why the revenues are dropping and if this is a long-term trend or just a bump in the road. But I have limited time and a girlfriend so I will look for other potentially undervalued companies.

Friday, October 26, 2007

Industry Review (continued...)

Electronics: NVE Corp (NVEC)
This industry is still recovering from an industry-wide inventory correction but indications of reduced spending have manufacturers reluctant to increase production. This industry has also been affected by the telecom industry’s recent lack of significant spending. Most companies have benefited from moving production overseas but the logistics’ difficulty it creates has not made the decision worthwhile for others. Keys in this industry seem to be how effective a company can manage its inventory and lead times so it is better positioned to survive the cyclic nature of spending of its customers.

One profitable company in this industry is NVE Corporation. This company engages in the development and sale of devices using spintronics, a nanotechnology, which utilizes electron spin rather than electron charge to acquire, store, and transmit information. It has no debt, a return on assets of close to 20%, and a net profit margin of over 30%. The company is already generating decent free cash flow and margins are improving due to manufacturing efficiencies. There is, however, considerable speculation built into the stock price and since I have no idea if their magnetoresistive random access memory technolog (MRAM) solution provides a sustainable advantage, I will stay away.

Hotel and Gaming: Choice Hotels Intl Inc (CHH)

Share prices of many companies in this industry have risen recently due to takeover speculations after the recent proposed of the Hilton Hotels by the Blackstone Group. The reason lodging stocks are gaining such attention from private equity firms could be their multiples are currently about half of other real estate classes such as office companies. The long-term prospects of the industry look strong with growth in the Far East but there is considerable expansion in this industry and the supply of new hotels and rooms may exceed demand in some places. A key statistic in this industry is the revenue-per-available-room rate to measure efficiency.

Choice Hotels International, Inc. (CHH) operates as one of the largest hotel franchisors in the world with 5,400 hotels under proprietary brand names such as Comfort Inn, Comfort Suites, Quality, Clarion, Sleep Inn, Econo Lodge, Rodeway Inn, MainStay Suites, Suburban Extended Stay Hotel, Cambria Suites, and Flag Hotels. The stock has retreated to under $40 per share after peaking over $60/share in June, 2006. It has a current dividend yield of 1.8% and has recently expanded in stock repurchase program. However, there is nothing to suggest the stock is being offered at any discount at the moment.

Petroleum (Integrated): Denbury Res Inc (DNR)
This industry is reaping the benefits of a steadily increasing demand and subsequent rise in oil. A slowdown in the global economy seems to be the only possible roadblock in the way of a continued high oil price and a lack of new investment in refineries is keeping prices of gasoline high as well. Some interesting figures for this industry:
• 86 million barrels of oil are consumed daily worldwide
• Could be 100 million barrels a day in just over 10 years assuming 1.5% growth
The new supplies for oil will have to come from more places than OPEC. Russia, from whom BP derives a substantial amount of its oil, may be another area but it is not clear how much they want to be an oil-producing nation for the rest of the world. Off-shore drilling in the Gulf of Mexico is raising hopes for new discoveries. The oil sands of Canada are also a trendy pick for the next source of oil. It currently produces 1 million barrels a day and hopes are it can increase to 3 million barrels a day in the next decade. Deepwater drilling and Canadian oil sands are projects that require greater expertise and more unknowns and construction cost overruns are common. One lingering threat in this industry is legislation from Congress as oil companies have become one of their favorite groups to blame for all the ills of society.

Denbury Resources (DNR) is an interesting company in this field due to its unique method for oil recovery. They engage in the acquisition, development, operation, and exploration of oil and natural gas properties in the Gulf Coast region of the United States, primarily in Louisiana, Mississippi, Alabama, and Texas. This company is unique in that they specialize in using C02 as a method for extraction, as the CO2 acts like a solvent for the oil, removing it from the oil bearing formation as the CO2 passes through the rock. The company believes this tertiary operation provide a reasonable rate of return even at oil prices around $30 per barrel and that this limits competition in the area because they can are the only company positioned to use this method (it requires large amounts of C02 and the ability to transport it), and thus extract oil other companies could not recover. An interesting company at an above average price, maybe it will come down in the future.

Metals & Mining (Diversified): Alliance Resource Ptnrs L.P. (ARLP)

As the story goes, the growth of emerging countries like China and India has fueled the commodities bull market. The debate today is if the run is up or if it still has more years left in it. Aluminum has benefited from strong worldwide demand, but the demand in the U.S. has not been as strong. Aluminum producers have had difficulties dealing with lower demand in the U.S., rising energy costs, and a weakened dollar. Rio Tinto seems to have successfully acquired Alcan which would make them the leader in the production of aluminum, copper, and iron ore. Copper has been doing remarkable recently and producers are using this good time to pay down debt (in the case of Freeport-McMoRan) and shore up production facilities. However, there is some debate if copper supplies will exceed demand and volatility may be ahead. Domestically, the housing and automotive sectors account for almost half the country’s copper consumption and these sectors are not currently strong right now which may cause future weakness.

Alliance Resources Partners (ARLP) is highlighted for this industry. This company engages in the production and marketing of coal to utilities and industrial users in the United States. The stock currently trades at $37.24, which offers an attractive dividend yield of 6% at those prices. It has been a profitable company with a high return on assets (16.77% as of today), but coal is a cyclical commodity and this stock is trading in the mid-range of most of its historical multiples. It will be interesting to see how coal performs since the price of natural gas, a substitute for coal, has downward pricing pressure and may look attractive right now compared to coal.

Friday, October 19, 2007

Industry Review (continued..)

Computer Software & Services: MicroStrategy Inc (MSTR)
This industry, which includes companies like Microsoft, is tied to the health of the economy. However, due to the long-term interests of companies to shift to more automated business processes there are plenty of opportunities to find attractive companies in this industry. One key is to look for companies that are able to secure maintenance contracts and thus a steady stream of income. This could become extremely profitable as the company expands their customer base.

Microstrategy is a smaller player in a market segment that has garnered a lot of interest lately, business intelligence. MSTR is a provider of business intelligence software that enables companies to report, analyze and monitor the data stored across their enterprise to reveal the trends and insights needed to make better business decisions. The company competes against large competitors like IBM, Microsoft, Oracle, SAP AG who have been actively acquiring smaller companies to compete better in this business intelligence space. The stock price has recently recovered after a serious dip for missing earnings estimates. It is debt-free with healthy amounts of cash generating a return on assets of over 25%. Some believe their product is the best at what it does, but will that be enough to allow it to compete with larger competitors? A more likely scenario is this company being acquired in the future and integrated into a larger company.

Drugs: ViroPharma Inc (VPHM)
This industry, maybe more than any other, seems especially attractive for large-cap companies due to their economies of scale and substantial R&D funding. An interesting dynamic to this industry is its relationship to interest rates. On average over the last 20 years, drug stocks have performed better in periods of rising interest rates versus periods of lower interest rates. More important is political risk for this industry as many politicians may pressure for lower drug spending and universal health care would hurt likely hurt profit margins. Branded drugs will see continued pressure from generic drugs which are substantially cheaper and thus promoted by health insurance companies through lower co-pays for customers opting for generics. The pipeline for new drugs is critical for drug companies because sales deteriorate once patents expire and companies must find ways to replenish their product offerings.
The mid-cap company in focus is ViroPharma (VPHM). ViroPharma has been profitable since 4Q2004 when they acquired the rights to start selling one product, Vancocin ® HCl capsules, which is approved by the FDA for treatment of enterocolitis caused by S. aureus (including methicillin-resistant strains) and antibiotic associated pseudomembranous colitis caused by C. difficile . Both are potentially serious infections of the gastrointestinal (GI) tract. I don’t know what that means but you do not want to get it. Vancocin is the only product approved to treat this condition. They also have other products in the pipeline. On March 17, 2006, the FDA’s Office of Generic Drugs, Center for Drug Evaluation and Research (“OGD”) changed its approach regarding the conditions that must be met in order for a generic drug applicant to request a waiver of in-vivo bioequivalence testing for copies of Vancocin. This could reduce the time period in which a generic competitor may enter the market and could cripple future sales and profits. This is a good example of the risks of investing in smaller drug companies that do not have a diverse product line and R&D pipeline. It is a boom-or-bust proposition and at best the boom period will only last the length of the patent.

Paper & Forest Products: Pope Resources L.P. (POPEZ)

Companies in this industry are facing margin pressure on both fronts. Excess production capacity is limiting the ability to raise prices while rising energy and transportation costs are increasing overall costs and shrinking margins. One segment within this industry currently doing well is pulp (currently selling for about $830/ton), which is enjoying strong global demand. International Paper is the big name in this industry and, in an effort to improve margins and strengthen product portfolio, recently converted one of its mills from producing uncoated paper to linerboard. An interesting dynamic in this industry is United States relations with China, as the two countries have fought over levies applied by the U.S. on Chinese exports which the U.S. claims is necessary due to what they accuse is predatory pricing by Chinese companies being aided with subsidies by the Chinese government.

The company in this industry for focus is Pope Resources, which through its subsidiaries, engages primarily in managing timber resources in the United States. The company operates in three segments: Fee Timber, Timberland Management and Consulting, and Real Estate. The Fee Timber segment engages in growing, harvesting, and marketing timber. This segment sells logs and timber products to lumber mills and other wood fiber processors located in western Washington and northwest Oregon. The Timberland Management and Consulting segment provides timberland management and forestry consulting services to third-party owners of timberlands. The Real Estate segment engages in managing approximately 2,700-acre portfolio of property; and leasing residential and commercial properties in the Port Gamble town site. It currently offers a dividend yield of 3.8% and has a return of assets of over 9%. A further investigation on the true value of its real estate holdings would be needed to get a better idea of the company’s valuation.

Recreation: Ambassadors Group Inc (EPAX)
This diverse industry, which includes companies ranging from Harley-Davidson to Hasbro, relies mostly on the discretionary income spending of consumers which may be concerning for investors in this industry going forward.

Ambassadors Group (EPAX) is highlighted in this industry due to its extraordinary growth and profitability in the past few years. Ambassadors Group, Inc. is an educational travel company which organizes and promotes international and domestic programs for students, athletes, and professionals through a non-profit organization called People to People. Sales have increased 34% in 2005 and 29% in 2006 and net margins are over 30%. The company also has close to $140M of cash and a miniscule amount of debt and is thus in strong condition to weather any potential risks. The stock has been on a steady rate of appreciation the last couple of years and the stock is not cheap at these prices, but could offer an appealing investment if you can become convinced of sustained growth.

Toiletries and Cosmetics: Bare Escentuals Inc. (BARE)

The Toiletries and Cosmetics Industry is a defensive industry which has not has a particularly strong run in the recent economic growth period. Due to the consumer’s routine use of toiletries and cosmetics, performance tends to be steady in good times and bad. While this is a rather mature market in the United States, emerging markets offer great growth potential and new product development can help spur sales in otherwise saturated marketplace. The aging baby boomers also offer potential opportunities for new product lines in areas such as skin care. Finally, companies are looking at new distribution channels such as the internet and spas to improve margins and boost revenues.

One company that has been on a tear in this industry is Bare Escentuals, Inc. This company engages in the development, marketing, and sale of cosmetics, skin care, and body care products. They sell its products primarily through infomercials (comprising 25% of sales), home shopping television, specialty beauty retailers, company-owned boutiques, spas and salons, and online shopping. This company is growing rapidly as sales have increased fourfold since 2003. While the firms long-term prospects seem bright for reasons mentioned above, the fast growth of the company will probably cause some missteps that might make scare investors and make this a more attractive investment in the future.

Wednesday, October 17, 2007

Industry Review (continued.)

Medical Supplies: Alcon Inc. (ACL)
This is an appealing industry due to the fact it is not as directly tied to economic cycles. There is also high risk/reward in many of these companies due to the rapid development in new technologies that can transform the industry. However, regulatory approval processes and threats of lawsuit should give investors pause to tread carefully in this sector. But the right company has the ability to carve out an economic moat in an industry where the long-term prospects look very bright.
Taking a break from the mid-caps, Alcon (ACL) is a large-cap company that is a world-wide leader in eye care products and has carved itself out a definite moat in this segment. For example, the firm’s Infiniti Vision system for the treatment of cataracts requires large upfront investment and has thus high switching costs for doctors once they become trained on this equipment. The company does share some of the same problems facing many its industry including patent expiration on some of its drugs, smaller operating margins for international sales, and keeping its R&D pipeline stocked with innovative, new products. The growth in revenues and profits for the company are properly reflected in today’s stock price so this is a good example of a great company being offered at a below average price.

Maritime Transportation: General Maritime Corp (GMR)

In contrast to the medical supply industry, the maritime transportation industry is highly cyclical. This industry has been helped by the global commodity boom, particularly in China, which has helped push dayrates for drybulk shipping to new highs. Since oil refineries are not being built fast enough to keep up with demand, transocean shipments of gasoline has increased. However, shipping capacity has been increasing more than demand which has caused tanker rates to crash recently. As higher oil prices have increased the demand for offshore oil drilling, older vessels have been increasingly converted to floating storage units. If global economic growth levels off in the near future as many predict, this would negatively impact this industry in the short-term due to the increasing tanker supply outpacing demand.

The company profiled in this industry is General Maritime Corporation (GMR). Similar to its competitors, this company offers a hefty dividend (currently at 7.8%). GMR has a current fleet of 19 wholly owned vessels providing international seaborne crude oil transportation services. The stock does not seem to be priced at a particularly attractive P/E multiple compared to its larger competitor, Frontline. An analyst also recently downgraded the stock due to lower tanker rates in the near term. Maybe the negative sentiment will propel prices further downward and create a buying opportunity in the future. Frontline, and not GMR, might be the better investment if that time comes.

Internet: Travelzoo, Inc. (TZOO)

There are definitely plenty of stocks growing rapidly in this sector (though others have been doing equally bad) and impressive results from some companies have attracted many investors. Online advertising continues to show impressive growth which should continue to benefit companies such as Google. Companies in this industry can gather a powerful network of users to carve out an economic moat and produce above average growth. However, the fast moving nature of technology in this industry makes it harder to predict the long-term sustainability of most of these companies.

The stock in focus for the internet group is Travelzoo (TZOO) which is a profitable internet stock which has established an extensive network base. Travelzoo, Inc. publishes travel offers from various travel companies. Its publications include Travelzoo Web sites, the Travelzoo Top 20 email newsletter, and the Newsflash email product. Its return on assets is over 40% and its profit margins are over 20% and both have shown steady growth. In what is pretty common for this industry, this company became a rumored takeover candidate. Priceline is rumored to be interested in this company for $400M due to its 10 million subscriber base for its Top 20 email newsletter. Travelzoo is a good example of the best and worst aspects of investing in internet stocks: strong network effects can fuel impressive growth but if the earnings do not meet analyst expectations, the stock price will be clobbered. Travelzoo was no exception recently.

Semiconductors: Hittite Microwave Corp (HITT)
This is another industry dependent on discretionary consumer spending to drive sales of products like DVDs, HDTV, and MP3 players. The market for microprocessors used in personal computers is obviously dominated by Intel and Advanced Micro Devices (AMD). However, due to the wide range of uses for chips, there are plenty of niches for smaller players to make a profit in this industry. Demand in this industry is expected to grow, but like many industries there is some trepidation that a slowdown in consumer spending will result in lower than expected growth. One of the challenges in this volatile industry is finding a company that has established enough differentiation to avoid becoming a commodity competing on price alone.

One smaller semiconductor company that may have found this niche is Hittite Microwave Corporation (HITT). HITT is a fabless semiconductor company that develops high performance integrated circuits, or ICs, modules and subsystems for automotive, industrial, military, homeland security, scientific and medical applications. Providing to these customers insulates HITT from some of the volatility of consumer spending. This niche also allows HITT to sport net margins of over 32% and returns on total capital of 27% which makes HITT a company worth keeping on a watch list to see if an opportunity to buy arises in the future.

Environmental: Landauer Inc. (LDR)
Waste collection and disposal will always be in demand but the industry still benefits from a healthy economy to raise rates and boost earnings. One important measure in this industry is the internalization rate, which represents the percentage of waste that a company disposes in its own landfill. This has the effect of improving margins for the company. Improving margins is a key tactic of many companies in this industry since a few years ago the weaker economy was preventing them from raising prices more than modest amounts. However, companies have a hard time improving the internalization rate while at the same time making acquisition to provide growth so finding the proper balance is important for companies like Waste Management and Allied Waste. An example of a company with a niche offering in this industry is Stericycle for medical waste disposal.
Another company that offers a niche service is Landauer Inc. (LDR). This profitable company derives substantially all of its revenues from radiation monitoring services, with typically twelve-month agreements, and other services incidental to radiation dose measurement and relationships with customers are generally stable and recurring. This company generates a return on assets of over 21% and a profit margin over 23%. Growth is the missing element in this stock and rising SG&A costs and stagnant revenues have kept the stock price relatively unchanged in the past year. Unfortunately, it is still not trading at a bargain price despite being a successful company with a differentiated service offering.

Friday, October 12, 2007

Industry Review (continued)

Wireless Networking: USA Mobility Inc (USMO) Industry: Low

Companies in the wireless networking industry sell to wireless carriers who buy the amplifiers, antennas and server software while demand can also come from consumers and businesses for cell phones and other wireless devices. This industry had a bit of a downturn in 2006 and seems to be moderately recovering. The long-term outlook for the industry is strong, assuming 3G adoption materializes, and capital spending by wireless carriers should fuel future growth assuming it picks up after significant consolidation in the wireless carrier market (such as ATT/Cingular). This industry is tough to gain a sustainable long-term competitive advantage due to the rapid advancements in technology and tough competition.

One stock in this industry that has been experienced some recent downward pressure on its stock price due to declining revenues is USA Mobility (USMO). The company has no long-term debt, trades close to book value, has a forward P/E under 11, and a P/CF under 4. According to their SEC filings, USA Mobility, Inc. provides wireless communications solutions to the healthcare, government, large enterprise and emergency response sectors. As a single-source provider, USA Mobility’s focus is on the business-to-business marketplace and supplying wireless connectivity solutions to more than 80% of the Fortune 1000 companies. The recent pull-back in stock price may make this stock worth a closer look.

Apparel: Cherokee Inc. (CHKE)

This is always seemingly a boom-or-bust industry for the individual participants. If the company is making a product that is fashionable, profits can be extremely high. If not, results can abysmal and not easy to turnaround in the short-term. Companies in this industry are at the mercy of consumers tastes in fashion, which are ever-changing. Another note of caution is the health of the industry is tied to consumer spending. Falling housing prices and rising oil prices could curtail consumer spending and hurt the apparel industry.

An interesting company in this sector is Cherokee, Inc. This company has probably popped up on a lot of people’s value screens due its extremely attractive valuations, which are misleading due to a one-time license termination agreement in the 4th quarter of the 2006 fiscal year that bumped up revenues. The company has a unique business model in which they market and license clothing such as Cherokee and Sideout brands to major retailers including Target (United States) and Tesco (Europe). Cherokee is dependent on these two retailers for close to 75% of its total sales. However, it does no manufacturing and keeps capital requirements extremely minimal. This allows it to have high returns on capital and no debt. I wouldn’t be a buyer of Cherokee at these levels but would be interested at a lower price.

Financial Services (Diversified): optionsXpress Holdings Inc. (OXPS)
This industry incorporates insurance companies, credit businesses, asset managers, and other financial operations. This industry has been challenged recently with the credit crunch which has slowed the gluttony spending for corporate acquisitions and residential real estate. At the root of many investors’ worries is the question of how deep and far-reaching is the subprime mess. The financial engineering that allowed risk of mortgage loans to be transferred differently to investors based on their preference provided an abundance of available credit for new home buyers. New fears that these loans are not properly valued, and in some cases worthless, are putting the industry in a fragile state. This is because the costs of loan defaults are not restricted to the lender. These loans were sliced and sold to pension funds, hedge funds, and other big money buyers and major defaults on these loans would have a dramatic ripple effect.
One company in this industry that has been enjoying solid growth is optionsXpress Holdings Inc. (OXPS). This company aims to make options trading easy for the individual investor and hopes to do the same for futures trading. They compete with the likes of E-trade and Ameritrade for online brokerage and since they went public on Jan. 27, 2005, its earnings have grown at a 44% average annual rate and sales by 43%. I am still not clear if they have a sustainable competitive advantage and it does not seem to be available at any real discount right now.

Medical Services: Atrion Corp (ATRI)
The Medical Services industry marks the first look at healthcare. The industry-wide challenge right now is rising bad debt expense from treating uninsured patients and there is no solution in sight as uninsured patients are only rising in numbers. The two major laboratories are Laboratory Corporation of America and Quest Diagnostics and they compete fiercely for contracts with the big health insurers. These health insurers face risk of funding cuts in the Medicare program. This industry faces challenging times ahead despite the appeal of rising demand from an aging population.
Atrion Corporation has had a great 5-year run of steady stock price appreciation. Trading at around $17 per share in early 2003, the stock price trades at around $119.65 per share today. Atrion Corporation offers, among other things, an intravenous fluid delivery line for therapy procedures employed in anesthesia administration, intravenous fluid therapy, critical care, and oncology therapy. Altrion continues to grow revenues and profits so right now the good times keep on going for this company.

Oilfield Services/Equipment: Patterson-UTI Energy Inc. (PTEN)
Oilfield Services/Equipment companies provide drilling rigs and other products and services to integrated oil companies. Many companies in this industry are recording record profits at this time due to the rising worldwide energy demand and high price of oil. The worldwide rig count in service is currently at 2,790, with 1,775 in North America. Canada is one of the few markets experiencing a downturn in rig count due to poor weather and lower activity. Earnings in this industry are closely tied to the price of oil and natural gas whose prices have been going in opposite directions lately.

Since the industry has been doing so well lately, it is hard to find good values here. One exception may be Patterson-UTI Energy, Inc. This company, together with its subsidiaries, provides onshore contract drilling services to independent oil and natural gas operators in North America. It provides pressure pumping services consisting of well stimulation and cementing for completion of new wells and remedial work on existing wells to oil and natural gas operators primarily in the Appalachian Basin. Right now offshore drilling is getting more attention which may be the reason PTEN is trading at more attractive levels compared to others in the industry.

Thursday, October 11, 2007

Industry Review

The following is the first post in a series providing a brief overview of an industry along with a quick synopsis of a profitable (for now) mid-cap company that may warrant a further look. I do not own any of the stocks in this post or any of these future "industry review" posts.

Banking Industry: Corus Bankshares Inc. (CORS) Industry: Down

The Banking Industry has been affected by the recent subprime woes and fears of liquidity problems. The demand by investors for high yielding bonds backed by subprime mortgages has slowed considerably thereby affecting the banking industries ability to sell their securitized loans and subsequently lend that money for new loans. This volatility in the market is creating many opportunities and time will tell how it will play out.

One example of a company experiencing these problems is Corus Bankshares (CORS). This company provides banking services as well as mortgage lending to overheated real estate areas including Florida, California, and Nevada (Las Vegas). It has enjoyed the recent boom period but there is serious concern right now about its ability to collect on its loans and there may be significant cancellations on unfinished Florida properties it has lent money to which should hurt the bottom line in the future. This may be worth a further look for investors since there is high uncertainty in this stock right now but the risk of bankruptcy needs to be better understood.

Insurance (Property/Casualty): Zenith National Insurance Corporation (ZNT) Industry: Down

The insurance industry is another industry currently in a cyclical downturn with cases of declining premiums. With top-line growth stagnant, the more profitable insurance companies are those with either a niche offering or those with a solid loss ratio. Today, insurers seem more careful writing up policies even if it is at the expense of less market share, a painful lesson the industry learned back in the 1990’s.

Zenith National Insurance Corporation (ZNT) is one of these type of companies. The company underwrites workers’ compensation policies focused on lower-risk profiles such as retailers and restaurants. It has a current dividend yield of 4.4% and has had uninterrupted dividends since 1978 and seven rate hikes in 3.5 years. It also has had a decent buying level by its insiders recently.

Natural Gas (Diversified): San Juan Basin Rlty. (SJT) Industry: Down

The diversified natural gas industry is comprised of companies that produce, sell, process, and transport natural gas. Due to high inventory levels and mild weather, natural gas prices have fallen below $6 per mmbtu recently. Hurricane season would be one catalyst for higher natural gas prices in the next month otherwise demand would have to come from a cold winter season. In the North American market, drilling in the Canadian oil sands should increase demand for natural gas there, which will reduce Canadian imports to the United States. However, supplies of natural gas remain high and demand is still low in the short-term. Many of the stocks in this sector may appeal to income-oriented investors.

San Juan Basin Royalty Trust (SJT) is a good example of a company in this industry. This is an express royalty trust that is not empowered to carry on any business activity and has no employees. The trust has a 75% net overriding royalty interest carved out of Burlington Resources Oil & Gas Company LP's oil and gas leasehold and royalty interests in properties in the San Juan Basin of northwestern New Mexico. The Trust currently has an 8.4% dividend yield but due to the recent weakness in the natural gas price, the dividend paid in the next couple of quarters could be much lower than 8.4% current yield.

Steel (General): Steel Dynamics (STLD) Industry: Up

Keeping on the theme of cyclical industries, we next look at the steel industry. Unlike previous industries like insurance that are at the bottom of their cycle, steel seems to be at about its high. The health of the steel industry is tied closely to the growth in the United States GDP and has thus been enjoying a few solid years in a row. The industry has been enjoying solid growth since 2003 but earnings are expected to be a little lower this year. There are currently a lot of acquisitions happening in this industry and it will be interesting to see how it changes the landscape. Residential construction has slowed but commercial construction has still been strong. If the economy can avoid a recession, the downturn in the steel industry may not be as bad as previous downturns.

One mid-cap company in this industry is Steel Dynamics (STLD). Steel Dynamics has a profit margin over 11% and a Return on Assets of close to 19%. This company has become an acquirer lately, buying The Techs Holdings, Inc., a flat-rolled-steel galvanizing company, for $370 million and OmniSource Corp., a privately held scrap recycler, for about $885 million. To illustrate the good times in this industry of late, this company was selling for about $6 per share in 2003 and sells today for $46.45 per share.

Petroleum (Producing): Hugoton Royalty Trust (HGT) Industry: Middle

The Petroleum (Producing) Industry is benefiting from high oil prices but is being hurt by lower natural gas prices. The bull market in oil is in full force currently but questions about lower demand due to high prices and a slowing economy are giving investors reason to pause. Natural gas prices continue to be down compared to oil which may continue as imports for liquefied natural gas (LNG) increase and more start-up projects start producing more supplies.

Another stock that may appeal to income investors is the Hugoton Royalty Trust, currently supporting a 6.4% dividend through its holding 80% net profits interests in certain natural gas producing working interest properties, owned and operated by XTO Energy, Inc. XTO Energy engages in the production and sale of oil and gas in the Hugoton area of Oklahoma and Kansas, the Anadarko Basin of western Oklahoma, and the Green River Basin of southwestern Wyoming. Similar to the San Juan Basin Royalty Trust, this company’s fortunes are tied to the price of natural gas.