CLFD - Clearfield's Valuation Nightmare: A Closer Look At Its 13x Forward Earnings Trap

2023-11-14 15:03:04 ET

Summary

• Clearfield, Inc. faces near-term challenges, including negative revenue growth rates and uncertainties related to the BEAD program, which was once seen as a positive factor.
• I am bearish on Clearfield due to its potential value trap, despite a seemingly low valuation of around 13x forward earnings.
• Despite management initiatives, such as a share repurchase program and a strong balance sheet, my cautious sentiment persists, leading to a downgrade to a sell rating.

Investment Thesis

Clearfield, Inc. ( CLFD ) is overvalued for what it offers investors. I note that this stock may appear cheaply valued at about 13x forward earnings, but this is a value trap.

Indeed, I argue that this shrinking business with negligible visibility is best avoided.

Rapid Recap

In my previous analysis , I wrote:

From time to time, companies lose their ways, or they make large and expensive acquisitions, or perhaps, both. And alas, that's the fate that Clearfield has embraced.

Yes, the stock is down more than 60% in the past year, but looking back to where it was provides no bearing on what lies ahead.

I remain resolute in my stance, that this stock is best avoided.

In line with this context, since I penned those words, the stock is down about 35%. This means that this stock needs to increase 50% just to be back to breakeven.

Indeed, not only should this stock be avoided, but I believe that its prospects have taken a turn for the worst. Consequently, I now downgrade this stock to a sell rating.

Clearfield's Near-Term Prospects

During the earnings call , Cheri Beranek, the CEO, emphasized the company's resilience and strategic positioning amid the current market dynamics.

One significant aspect of Clearfield's strategy is its focus on the Build America Buy America initiative, or BEAD. This initiative is expected to play a crucial role in the company's near-term outlook.

Clearfield anticipates that BEAD, which involves increased spending on infrastructure projects in the United States, will positively impact the demand for its products. The company recognizes the potential seasonal warming in the BEAD process, with engineering companies expected to receive funding and initiate projects, eventually contributing to Clearfield's growth.

Also, Clearfield reiterated its commitment to the rural and underserved markets as another key component of its growth strategy. Furthermore, Beranek highlighted the company's historical association with passing homes and its ongoing initiative to connect more homes using Clearfield equipment.

That being said, Clearfield is well aware of the fluctuations in the market, citing the pendulum swing from seemingly insatiable demand to the current state of affairs. And with this context, we now move beyond its narrative to focus on its underlying realities.

Revenue Growth Rates Turn Meaningfully Negative

Clearfield faces near-term challenges, including shifts in demand dynamics in the fiber optic infrastructure market as well as uncertainties in the pick-up of the BEAD program. That had been an integral part of its bull case.

So, not only does Clearfield guide for a horrendous Q1 2024, but to further confound matters it has lost all visibility for its fiscal 2024 revenue path.

More concretely put, I believe that investors should ready themselves for Clearfield's revenues to end fiscal 2024 down 35% to 40% y/y. Investors will not look kindly to these business prospects.

CLFD Valuation -- Cheap Stocks Can Always Get Cheaper

In my previous analysis, I further wrote:

I believe that having to pay 17x this year's non-GAAP EPS for Clearfield is a rich multiple. Why?

Not only is Clearfield's revenue base evidently shrinking with time, but also, the size of the deceleration from one quarter to the next should spark some level of investor concern.

Since that statement, the valuation that investors have been willing to pay for Clearfield has suddenly compressed.

And yet, I know from my experience, that no matter how cheap a stock seems to be, it can always get a lot cheaper. Although, it should be said, that paying more than 8x forward EPS for Clearfield, strikes as being too expensive.

Yes, I know that bulls will retort that this business has a very strong balance sheet . And that management recognizes this company's intrinsic value and has sought to increase its share repurchase program by close to $20 million to $40 million.

While I acknowledge that having a strong balance sheet is a crucial part of a successful investment, I don't believe its balance sheet alone will be enough to offset its multiple compression.

The Bottom Line

I now have a bearish view of Clearfield, Inc. stock, perceiving it as a potential value trap despite its seemingly attractive valuation at around 13x forward earnings. The significant decline of over 70% in the stock over the past year is not indicative of an attractive stock.

Furthermore, the near-term challenges faced by Clearfield, such as negative revenue growth rates and uncertainties tied to the BEAD program, which was once a pivotal aspect of its positive outlook, contribute to my reservations.

I reiterate concerns about the stock's valuation, emphasizing the notion that even seemingly cheap stocks like Clearfield can experience further declines.

Despite management's initiatives, including a share repurchase program and a strong balance sheet, my overall sentiment remains cautious, leading to a downgrade to a sell rating.

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