HAYN - Haynes International: Keep On Riding This Bullish Trend

2023-03-09 11:57:36 ET

Summary

• Although Haynes International's earnings missed estimates for once in Q1, the backlog keeps on growing.
• The cash crunch is a result of rising inventory costs.
• Sales growth continues to drive Haynes forward. Gross margin needs to remain elevated to maintain forward-looking EPS growth estimates.

Q1 Earnings

We wrote about Haynes International, Inc. ( HAYN ) (metal fabrication) in November of last year, when we stated that any downswing in the share price would most likely turn out to be temporary in nature. We did indeed get the brief short-term correction we were expecting, which subsequently bottomed in December, but shares soon took off thereafter, having returned to their established patterns of higher highs once more. Haynes International shares now find themselves up approximately 16% since our most recent commentary last November.

Although Haynes stock's recent first-quarter earnings miss (EPS of $0.61) was the first bottom-line miss in eight quarters, sales once more came in ahead of expectations to hit $132.67 million for the quarter. Suffice it to say, although Haynes International shares briefly were looking for direction post the announcement, investors soon began to buy once more when the report had been digested.

For one, the comparable numbers were impressive, to say the least, with sales up 33% and net profit returning a 66% gain compared to the same period 12 months prior. Haynes' alloys (Such as its 235 & 282 offerings) continue to add value in the markets they serve, which in turn is leading to more approvals from independent bodies. Furthermore, although revenues have been rising aggressively, operating costs continue to fall. Also, the trend that we covered in our November commentary relating to custom-made orders (which entail smaller quantities to customers and are margin accretive) continues to gain traction. Again, this niche (due to Haynes' differentiated superior internal operations) really separates the company from its competitors, which means Haynes has more control over its pricing in this space.

The aerospace segment continues to drive Haynes' revenues forward, leading to the company backlog sitting at a record $408 million at the end of Q1. Suffice it to say, growing sales coupled with a record backlog are definitely ingredients for more sustained growth for Haynes this year (especially as costs have been coming down meaningfully). In fact, we reiterate our stance from our November piece that this upward trend should continue to be ridden until signs of exhaustion are clearly visible. Therefore, from this standpoint, here are forward-looking potential trends that investors should watch out for as they may point to a pending multi-year top in this play.

Technicals

Firstly, if we pull up a long-term chart of Haynes International, Inc., we see that shares experienced a similar multi-year rally which took place in 2005, 2006, and a portion of 2007 before finally topping out and then subsequently relinquishing many of these gains in 2008 and 2009. Although the steep decline was obviously aided by the financial crisis of 2008, history many times repeats itself in financial markets due to the fact that human psychology in the main tends not to change. Therefore, although shares of Haynes have some distance to go before testing those all-time highs, investors should be prepared for a pullback, especially if we see more of the following.

Profitability

Although the Haynes International, Inc. CEO talked up the company's earnings growth and competitive advantages on the recent Q1 earnings call, net profit (being an accounting measure of profitability) is only one form of profitability that investors should research. For example, Haynes' net profit of $7.7 million in Q1 resulted in a negative operating cash flow of $7.1 million for the three-month period. Although Haynes' operating cash flow trend has been improving, Q1 marked the sixth consecutive quarter of negative cash flow generation. Furthermore, due to the company's record backlog, the debt revolver had to be used in Q1 to ensure inventory levels continue to match demand. This trend, though, demands watching for the following reason.

Gross Margin & Cash Flow

Haynes International, Inc.'s gross margin in Q1 came in at a lower-than-expected 17.4% in Q1 due to lower cobalt and nickel prices. Management is expecting some type of reversion here concerning the pricing in Q2, but this trend remains out of the company's hands. Suffice it to say, positive cash flow generation (which facilitates sustained investment in the firm) always comes a lot quicker in a rising gross margin environment. Suffice it to say, we reiterate our point pointed out previously that Haynes continues to look extremely impressive from a growth standpoint (Income statement). However, eventually, the piper needs to be paid, which is why positive cash flow generation (or trends that point to the same) needs to come this year in order for shares to continue higher.

Conclusion

Haynes International, Inc.'s momentum has come as a result of the excellent growth rates the company has reported in recent times. In fact, sales and earnings growth are expected to grow by 16% & 17% in fiscal 2023 alone. Haynes International, Inc. stock momentum alone should result in higher prices this year, but investors now need to be careful where a trailing stop looks like the smart choice. We look forward to continued coverage.

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