VIRC - Acme United: A Small But Diverse Prospect Investors Should Not Overlook

2023-12-11 16:12:23 ET

Summary

• Acme United operates as a supplier of first aid and medical products, as well as other goods such as sewing and paper crafting tools.
• The company has grown its top line in recent years but faced profitability challenges in 2022.
• Management is focused on improving operational performance through cost savings initiatives and debt reduction, and the stock is attractively priced relative to cash flows.

More likely than not, the name 'Acme' means one of two things to you. Most probably, it conjures up childhood memories of Wile E. Coyote and the Road Runner, though if you are from the Midwest, you might also be familiar with the grocery store of the same name. But there is another organization out there that goes by the name of Acme United Corporation ( ACU ). And although small, it operates as a supplier of first aid and medical products, as well as a variety of other interesting goods. In recent years, management has done a good job of growing the company's top line. 2022 ended up being a rather difficult year from a profitability perspective. But based on the data currently available, that seems to have been a blip on the radar. The stock is not particularly cheap. This is especially true when you look at similar firms. But on an absolute basis, shares are cheap enough to warrant a soft 'buy' rating in my opinion.

An interesting, but small and diverse, play

As I mentioned already, Acme United specializes in the production and sale of first aid and medical products. Its line of products in this category includes not only traditional first aid kits and similar offerings but also innovative technologies aimed at capturing additional upside for shareholders. As an example, one of its offerings is the SmartTab Scanner. This is essentially a yellow tab with a barcode on it. When scanned, a requisition is sent that results in an automated refilling of the product in question. While the first aid space might seem to be rather mature, management believes that this particular offering can help it grow in the $750 million van service market.

Outside the medical space, the company provides other goods as well. For instance, it is expanding into the craft market by selling sewing and paper crafting tools such as scissors, cutting mats, and more. This category also includes foldable ceramic safety knives and cutters. To be honest, a lot could be written about all the different goods that the company sells. So I will keep this brief. Other examples of offerings include a diamond pull-through knife sharpener, Bleeding control kits, lens cleaning stations, and more.

Over the years, management has not been afraid to buy up interesting product lines. The company has acquired several brands over the years, and it has also pushed for innovative organic growth opportunities. Its most recent purchase was of Hawktree Solutions, a business that supplies first aid and survival kits, medical supplies, and training services. That was a rather small purchase, costing Acme United only $1 million but bringing in $4 million in annualized revenue. But not everything has been about growing the business. Management has, from time to time, sold off certain assets. On November 1, management sold off the company's hunting and fishing product lines for $19.8 million. $15 million of the net proceeds that it brought in from that transaction are being used to pay down debt.

The debt reduction initiative seems to be part of the company's strategy to improve its overall operational performance. You can see why such a move would be desired after looking at the financial performance generated over the past few years. From 2020 through 2022, management has grown sales from $164 million to $194 million. But on the bottom line, the picture has been rather complicated. Net income, for instance, managed to grow from $8.1 million in 2020 to $13.7 million in 2021. In 2022, however, it plummeted to only $3 million. There were three primary drivers behind this weakness.

First, the firm saw a decrease in its gross profit margin from 35.6% to 32.8%. That decline, according to management, was largely the result of a surge in ocean container costs caused by supply chain constraints. Weaker currencies in Europe and Canada, which is where the company gets most of its inventories, were also problematic. Second, Acme United saw a jump in its selling, general, and administrative costs from 28.6% of sales to 29.5%. A little over a third of that increase which is driven by higher personnel costs, with other major contributors involving higher commissions and shipping costs related to higher revenue. Shipping costs also rose because of higher fuel surcharges. And finally, there was a rise in interest expense from $0.9 million to $2.4 million. A jump in the weighted average interest rate of the company's debt from 2.1% to 3.8%, combined with an increase in the amount of debt outstanding, pushed interest expenses higher.

Naturally, this had a negative impact on the other profitability metrics of the company. But as you can see in the chart above, while sales have pulled back slightly so far this year, profits and cash flows are rebounding nicely. This is not a fluke. For starters, some of the same supply chain issues that negatively impacted the company are finally improving. In addition to this, management has been working on a cost-saving initiative to cut expenses by $6 million this year. This includes $2.8 million in reductions associated with product costs, $1 million associated with labor cost reductions, and new equipment at some of its operations increasing profits involving those operations by $1.4 million.

Based on my own estimates, the company should see net profits of around $5.5 million this year. Adjusted operating cash flow should be $13.5 million, while EBITDA should come in a bit higher at $16.9 million. If these come to fruition, then the company should be priced as shown in the chart above. Although it is tempting to also include data from 2022, it's clear from this analysis that it was a blip on the radar. Because of this, I also decided to price the company using data from 2021 instead. In both cases, shares are attractively priced relative to cash flows. Though on a forward basis, they are still a bit pricey relative to earnings. As part of my analysis, I then compared the company to five similar firms as shown in the table below. On a price-to-earnings basis, three of the five companies were cheaper than our prospect. This number rises to four of the five when using the price-to-operating cash flow approach. And Acme United ended up being the most expensive when using the EV-to-EBITDA approach.

Takeaway

Right now, Acme United is experiencing some interesting times. Operationally speaking, the picture has been better. But it's clear from what management has revealed and from what progress has already been seen that the worst for the enterprise is behind it. It might take another year or so for the picture to truly recover in its entirety. But in the meantime, the stock does look attractive to me. Management's ability to monetize unwanted assets and to use those assets to reduce leverage is encouraging. Due to all of these factors, I've decided to rate the business a soft 'buy' at this time.

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