Culp: Buy $1.00 for $0.45. (Ticker: CULP)
Analysis: Culp, Inc.
Overview:
Culp, Inc Summary
Valuation Format Used
Core Criteria
Valuation Breakdown & Value
Cause for Concern
Bonus Stats to Know
Summary: The report in front of you will share why I strongly believe that Culp, Inc; Ticker: $CULP, is undervalued. I’m confident that it is awaiting to pay out a handsome return, a great return on investment (ROI). I’ll be breaking down the numbers to back up my idea. As usual, keep in mind that when using this approach to value a stock it does become subjective in certain areas. The valuation and the expected outcome are all my personal opinion. The method I will use to give this stock a value falls under the umbrella of a liquidation approach. I will be focusing on its Net-Current-Asset-Value (NCAV) with the addition of added long-term assets. For me, this company does not qualify to be valued based on an EPS Multiple nor Discounted-Cash-Flow model (DCF). Earnings are not the focus here, we are buying the assets.
Data Clup, Inc: Company: Culp, Inc Sector: Consumer Cyclical Industry: Textile Manufacturing Ticker: CULP Current Market Cap: $49.4M
Price When Writing Report: $4.04
Type: Undervalued/ Salvage/ Liquidation Apprroach Target: $9.00 - $9.45 ROI: 133.91% Risk: $2.75
What Is Culp, Inc: Culp, Inc. manufactures, sources, markets, and sells mattress fabrics, sewn covers, and cut and sewn kits for use in mattresses, foundations, and other bedding products in North America, the Far East, Asia, and internationally. It operates in two segments, Mattress Fabrics and Upholstery Fabrics. The Mattress Fabrics segment offers woven jacquard, knitted, and converted fabrics for use in the production of bedding products, including mattresses, box springs, foundations, and top-of-bed components. The Upholstery Fabrics segment provides jacquard woven fabrics, velvets, micro denier suedes, woven dobbies, knitted fabrics, piece-dyed woven products, and polyurethane fabrics for use in the production of residential and commercial upholstered furniture, such as sofas, recliners, chairs, loveseats, sectionals, and sofa-beds, as well as office seating and window treatment products; and installation services. Culp, Inc. was founded in 1972 and is headquartered in High Point, North Carolina.
Risk Attention: This equity will be very volatile. A reason is, that it is a small market cap stock. Another reason is the fact that we are facing an economical downturn, we are confronting a bear market. Any recession will delay the time it could take to reach its reasonable value. Markets continuing to crash further would only drag the stock lower. Fear would rise and make most investors uncomfortable about holding a stock like this. I would not be surprised if this asset dropped to a range between $2.50 to $3.00 per share. As a reminder, there are two phrases I always use. Number one, keep it simple. Number Two, buy when the value is there and sell when it is not. In other words, you don't want to overcomplicate things or you'll get complicated results. There is no need to time the market. Finally, the biggest problem the company faces is its burn rate. I will explain it later in the report. To put it in simple terms, unlike a quality stock that's slowly growing and time is your friend, with CULP time would be your enemy. This would however pivot if the company achieves a few objectives.
What is NCAV
NCAV or, Net-Current-Asset-Value is a way to give a company an underline appraisal focused solely on its current assets minus its total liabilities. What this does is help us determine what a company has left after paying back all its debt and liabilities but only using its most liquid assets. This is preferably called Current Assets, a current asset is an asset that can reasonably be expected to be sold, consumed, or exhausted through the normal operations of a business within the current fiscal year, operating cycle, or financial year. Once we acquire the NCAV we are able to bring in new line items to give it a higher valuation. These new line items are derived from Long-Term Assets.
Long-Term Assets Long-term assets are those a business can expect to use, replace and/or convert to cash beyond the normal operating cycle of at least 12 months. This distinguishes them from current assets, which companies typically expend within 12 months. Because they are harder to convert to cash than current assets, they are often referred to as illiquid assets. Long-term assets appear on the balance sheet along with current assets. Together they represent everything a company owns.
Core Criteria (10)
In order to reduce risk, a company being evaluated with this approach must meet certain criteria. This helps strengthen our pick, increase our confidence, and most importantly, helps us avoid and defend from a value trap. Let’s go over them fairly quickly for Culp, Inc. Not Chinese: PASS
Our first Criterion is making sure the company is not Chinese. Unfortunately, it is incredibly difficult to trust the numbers of a Chinese Company. They are very notorious for the China Hustle, questionable auditors, and much more.
Industry and Sectors: PASS
When it comes to this particular approach generally, you want to avoid sectors like Biotech, Pharma, Pot Stocks, and Energy. These sectors and industries tend to spend a good portion of their life below or near liquidation values. The odds of a company that has a history of spending time trading that low having a turnaround are rare. These also tend to spend money quickly, you don't want to be trapped in a company that spends heavily on R&D or, in general, that can spend its cash overnight changing your valuation drastically.
Share Dilution: PASS
Culp has a history of keeping outstanding shares pretty stable. In fact, recently they have been buying back shares which is a great positive bonus. That means there is no reason to be concerned over share dilution that can alter our valuation. In the past 5 years, the company has had 12.5M, 12.4M, 12.3M, 12.3M and 12.2M. In total that’s a decrease of -2.40%. Great! No concerns here.
Burn Rate: NEUTRAL Like a lit cigarette, that is burning closer and closer to the filter until there are no puffs left. We want to see how fast it's burning. To see if we will even get a chance to take a final puff or if it'll die out before we try. From another perspective, it shows how fast a company is losing money. Positive results mean our estimated value is growing, while negative results would mean our given valuation is shrinking. We want to know what direction it's headed, and how fast. A gem I can through your way is that time is the friend of a growing company, while time is the enemy of a dying company. In the case of CULP, when we calculate its NCAV in the past we get results of $5.40, $4.72 & $4.01 in order. This gives us an average of roughly a -15% (3-Year) burn rate per year. This means, we can expect after a year to see NCAV head to around $3.42 then $2.91 by year 2. However, later I will explain why this is of no concern to me. Generally, we do want to limit the burn rate to -25% mac, anything worse and its a major red flag. I also have reason to believe that -15% average burn rate will slow down moving forward. More on that later.
Further View
Debt/Equity: PASS As a rule of thumb, we mainly want to stick with companies that have both LT Debt/Eq & ST Debt/Eq below a ratio of 1. In this case. CULP has a Debt/EQ of 0.09. In fact, in the last 13 years, it has never had a Debt/Eq above a ratio of 0.33. Anything under 0.50, helps give a hint of the quality of the company towards its debt. We love ratios sub 0.50. Additionally, CULP recently expanded its bank credit line from $30M to $40M for the next 3 years. Dividends: PASS This one is tricky. Having no dividend is a great thing. More money is kept within the company instead of being paid out. We don't have to worry about any changes in our valuation trying to premeditated dividend payouts. Plus, we are not long-term investors here, it’ll hardly make a difference for us. It’s favorable with our approach not to have dividends. But, in the case of CULP we do originally have a dividend payout, which has a history of increasing YoY. This technically is a problem, but here is the great news. CULP has suspended their dividend too help hold a stronger cash position. This dividend suspension will save the company $5.5M annually. We view this as a great thing for our approach. They did however make it clear, once positioned to do so, they will release dividends again. Something goood that come out of this dividend suspension is many shareholders did get disappointed and sold out, causing the stock to tank further, thus giving us better values.
Ownership: PASS Institutional Ownership stands at 40.95%, while Insider Ownership stands at 15.611%. We try to avoid stocks that have a very high/concentrated insider ownership. Without getting too much into it, it helps avoid us being stuck as not many shares can be traded, and/or face the risk of massive selloffs by insiders. At the same time we do want a decent holding, because it carries an incentive for management to do things in the best interest for shareholders as they have skin in the game themselves.
Liquidity/Daily Volume: Neutral Liquidity in my own definition for this section is just how fast you can buy into the company, and sell out if you needed. How fast can you liquidate your position if needed. I feel comfortable with stocks that have a high and fast liquidity, or high volume compared to their market cap. CULP is on the lower end of volume, for me it is a small cause of concern. However, this i a great example of where small money has a great advantage to move in money.
Doji’s/History/Volatility: PASS For this criterion it's best to take a quick look at the company's previous price history. This will help you avoid buying into a stock that has a history of being overall flat, or too-too boring. We don't mind boring, but there is a fine line. For example, if in the past 5 years, or let us say 3 it's been roughly around the same price range, for whatever reason it will be highly unlikely that will change for the foreseeable future. The odds of catching the final stages of it trading low, or flat are slim to none. We want it to be on the higher end of the volatility spectrum to help us reach our reasonable valuation/target. It also helps confirm if it's a short-lived, off-chance wrinkle that we benefit from. Chart 1
Chart 2
NCAV: Neutral
CULP has an NCAV of $4.01, while the current price is $4.04. Could definitely be much better, but later I will explain why this for me is no cause for concern.
NNWC: Not Applicable
NCAV Results Let’s break down where our NCAV result comes from. The formula goes as followed:
NCAV = (Current Asstes - Total Liabilities - Minority Interest - Preferred Shared) / Total Shares Outstanding
CULP Total Current Assets are $107.2M, Total Liabilities stand at $58.1M and there are no Minority Interest or Preferred Shared. Their current Total Shares Outstanding are 12.23M. This means the math goes as follows:
(107.2M - $58.1M - $0 - $0) / 12.23M = $4.01 NCAV = $4.01
The stock's current price is $4.04, and NCAV is at $4.01 which means the stock is currently trading 0.75% above NCAV. Is it below NCAV? Not exactly! Apart from that, the other problem here is that there is no significant margin of safety, and not much room for error/uncertainties. I will now explain why this does not concern me.
Updated Results Before we update our results, let’s look at what line items build out Total Current Assets:
Total Cash & ST Investments: $14.6M Total Receivables: $23M Inventory: $66.6M Other Current Asset: $3M Total Current Assets = $107.2M
Total Current Assets $107.2 - Total Liabilities $58.1 = $49.1M Left
Now, what we are going to do is bring back in some long-term assets that, in my opinion, should be included in our valuation.
Net Property, Plant & Equipment: $57.3M Long-Term Investments: $8.7M Other Long-Term Assets: $10M Total added in long-tterm assets: $76M
Note: Notice how we completely ignored and excluded lines such as Goodwill & Intangibles. I even excluded Deferred Tax Assets in this case as well, which many would argue should be included. However excluding it, gets us a step closer to NCAV. Our new updated results show up as followed:
Total Current Assets: $107.2M Added Assets: $76M Total Accoounted Assets: $183.2M
Total Accoounted Assets $183.2M - Total Liabilities $58.1M = $125.1M
$125M Valuation / Total Shares Outstanding 12.23M = $10.23
Updated Valuation: $10.23
That is $10.23 for a stock currently trading at $4.04. A ROI of 153.21%. Now, If we carry on a roughly -15% burn rate for the next 2 years we get:
Current: $10.23 Year 1: $8.70 Year 2: $7.04
That is $7.04 for a stock currently trading at $4.04. A ROI of 74.25%. A great example of why “time is the enemy of a dying stock.” However, my comfortability with stock lies in the fact that the expected burn rate will be cut down. We also leave plenty of room for a possible acquisition or enough time for the stock to be properly evaluated by the market. To further justify my low-risk comfortability, we can go deeper into it by discounting these assets. Adjusted Valuation
Total Cash & ST Investments: $14.6M (no change/no discount its cash) Total Receivables: $23M (25% off = $17.25M) Inventory: $66.6M (-50% off = $33.3M) Other Current Asset: $3M (25% off = $2.25M) Net Property, Plant & Equipment: $31.2 Building (25% off = $23.4M) $0.9M Land (25% off = $0.675M) Other $25.2M (-50% off = $12.6M) Long-Term Investments: $8.7M (25% off = $6.525M) Other Long-Term Assets: $10M (25% off = $7.5M) Total Adjusted Assets: $118.1M
Total Acdjusted Assets $118.1M - Total Liabilities $58.1M = $60M
$60M Valuation / Total Shares Outstanding 12.23M = $4.91
Adjusted Valuation: $4.91 Current Price: $4.04
Adjusted Difference: -17.71% discount
This means that our adjusted valuation with an estimated -15% burn rate 2 years out ( per year) leaves its value at $3.56. That is our downside, which is a loss of -11.88% from its current price of $4.04. And, by downside, I mean value-wise, not stock-wise. The stock is not the company, and the company is not the stock. The stock can indeed go much lower outside valuation risk.
No Cause for Concern To put it in simple terms, after going through different valuations and adjustments I can see my downside is limited. This is particularly what sparks my interest. High reward, low risk. And, by low risk I mean the loss we take, not low risk or low chance of it failing in general, that is another subject. Heads I win, tails I lose but don’t lose much. I like how my downside is protected by assets in the business, even after going over burn rate examples. This, of course, does not include the odds of the business lowering their burn rate which only means lower risk for us is achieved. The odds are there, which overall gives the odds of this investment a great rating to probability ratio. You can say I am more focused on “how much I may lose” ), especially during a recession event) vs a “how much could I make” mentality. It’s a form to stay fully invested, with decent odds of a good return, and limited downside (to an extent). Additionally, I don't have to worry about being diluted. If I do, it shouldn't be a big deal. I also have all the other criteria mentioned above to back up my comfortability holding this asset. None of this accounts for things going better than expected within the business, like deleting its burn rate. Or better yet, going positive or so in the future which would completely alter bystanders' opinion on the business for the better.
Staying Afloat As shared above the company roughly burns through -15% YoY. After reading their latest report, it’s evident they will slow down this burn rate which is a great positive sign. They have a strong Capital Allocation Strategy plan as well.
Short Float Froom the looks it does appear that CULP is a shortable stock. However, short float is only 0.54%. This is technically a good thing, as it means bears and shorts are not willing to touch this one. Clearly, there must be some value left behind to where it not worth the short.
Quick Insights Earnings Culp is expected to have a sharp drop & loss in its Q1 2023. It’s estimated to project a full-year loss of $0.27 per share. Additionally, forecasts show sales may be 4% lower for the full year. Expectations are that Q1 and Q2 will be lower, with a recovery in the second half, and a significant recovery in Q4.
New Haiti Facility Operations
According to the management, the new facility in Haiti continued to expand production during the fourth quarter. Production in Haiti diversifies the manufacturing base and incrementally reduces Culp’s reliance on production in China. This new facility will enable the company to increase nearshore capacity for cut and sewn upholstery kits and support future development and supply chain resilience.
Live Smartt Innovation The innovation with LiveSmart is in the encapsulated performance yarn that gives the fabric properties that are important to consumers. From this beginning of stain resistance, Culp then developed LiveSmart into a series of other products and brands: LiveSmart Outdoor® (durable fabrics that are pet-friendly, UV resistant, and moisture-repellent); LiveSmart Evolve® (partly made with recycled content, thereby diverting plastics from landfills to create a more sustainable future); and LiveSmart Ultra™ (fabric that offers antimicrobial technology to protect the product). Culp’s leaders, while understandably circumspect about discussing specific future innovations, are committed to continued innovation. High Stakeholder Regard Culp now reports its operating results in two segments: mattress fabrics (CHF) and upholstery fabrics (CUF). Importantly, from our viewpoint, it discloses line-item detail for each of these segments, a disclosure technique that is all too rare for segment reporting companies. We applaud this practice and argue that it demonstrates management regard and respect for its stakeholders. Reflections (Water Tower) “The fourth quarter was, as predicted in an April pre-announcement, challenged by a confluence of events. The company’s production in China was closed for two months in the quarter due to COVID protocols. In addition, domestic demand slowed and downstream inventory backed up.
Management reacted to the adverse environment by taking steps to preserve cash, notably suspending the dividend and cutting inventory.
Management remains focused on managing and reducing working capital, improving operating efficiencies, committing to $2 million in cost savings in the mattress fabrics segment (CHF), and expects to announce some pricing action in the quarter in response to higher costs.
Due to the uncertainty of the environment, management offered only limited guidance. It expects 1Q23 sales to be “comparable” to 4Q22, generating a material operating loss for the quarter, somewhat smaller than the 4Q loss of $5.4 million. We are modeling a 1Q23 loss on the operating income line of $4.7 million, slightly better than the 4Q22 loss of $5.4 million. That may be somewhat more pessimistic than management intended in its comments, but at this point, we think it’s prudent to expect the worst in P&L results and be pleased to be proven wrong.
We believe that Culp’s global platform will be the strategic capability that keeps its segment market shares intact and leads to long-term and sustained profits and profitability. The immediate task at hand is defending the cash position. Not surprisingly, we are confident that the Board of Directors and management are taking the correct steps, even if they are uncomfortable.” Supply Chain (Water Tower) COVID-19 presented challenges neverbefore contemplated. There simply was no effective Pandemic Crisis Playbook. After the initial upset and closing of many parts of the economy, what became undeniable was that consumers focused on their homes and comfort. The home and comfort focus sparked business. Yet, given the significant amount of merchandise from offshore, getting containers and other needed components became a consistent issue for some of Culp’s customers, which caused disruptions in order flow and costs. In early calendar 2021, extreme weather in the mid-part of the country caused disruptions to chemical and foam suppliers. That underscored some additional fragility of the home furnishings supply chain. Such disruptions, though temporary, cause problems that tend to last for several months. Additionally, higher prices often result because the suppliers can take advantage of the disruptions and raise prices. The coup de grace of COVID disruption hit Culp in 4Q22, when its China factory was closed. A wave of Omicron variant hit the mainland and the government put entire cities into lockdown. While we don’t have exact figures on the sales impact of that event, sales in the mattress segment dropped a whooping 30%. The sharp sales drop combined with fast growth in freight, raw material, and labour costs, as well as continuous labour problems generated significant inefficienies and hits to margin. Capital Allocation Strategy: https://culpinc.gcs-web.com/static-files/b498e3a6-01b3-4edc-94bf-026c136e6d1a Letter to Shareholders: https://culpinc.gcs-web.com/static-files/16cebd9b-1b51-4d92-af70-42b4fe0d9361
Annual Report: https://culpinc.gcs-web.com/static-files/6e932db9-7740-4205-b63b-c35edaceced5 Investor Information: https://culpinc.gcs-web.com/static-files/202970a2-bc14-4274-8afb-00ec6ff29e82
Time Length/ Span I estimate this stock can have a great return in the time span of up to 2 years. Of course, in the past, I‘ve had stocks meet my expectations a lot sooner, as soon as 6 months. Times are certainly different today with everything going on so I will not raise my hopes. Plus, in reality, when you look at the great value investors who tackled this approach, they too have an average of at least a 2 year hold time. Patience mixed with the correct temperament is key. Remember, you don’t make money when you buy a stock, and you don’t make money when you sell a stock. You make money by waiting.
In Conclusion
Thought the equity will be extremely volatile and requires great temperament and a tough stomach. I believe the reward-to-risk ratio is a worthwhile investment. I like the odds of the stock going my way. I like the comfortable losses that I believe I can take on “valuation-wise”. (The stock is not the company and the company is not the stock) The ROI could be very generous. I see the company turning things around just long enough for me to take out some great returns.
Disclaimer
The information shared throughout the article/report/analysis/blog is personal results and opinions. Please understand that everyone may have different opinions and effects, it is not implied to duplicate or mirror anything shared. The average person who follows any "how-to", "educational", “investment ideas” or “information” gets little to no results. Results will vary and depend on various circumstances, including but not limited to, your background, experience, barriers, timing, lengths, limitations, and work ethic, timing, temperament, patience. All investments and trades entail risk. If you're not willing to accept that, I advise you to disregard anything and everything you just read.
Position
“I”, “Me” the author and the writer of this article/report/blog/analysis currently is building a position. As of this writing, I do own +110,000 shares at an average of $4.40 for a total investment of $484,000. This represents a 0.90% ownership in the total shares outstanding. This is with the intention to double down on my position if I see the equity fall lower to lower my cost basis per share average.
Final Note from the author
My goal in releasing this report would be to get some opposing views. I would like to be challenged to see if I missed something, or to see if my thesis still stands strong against any negative feedback, worries, or bad catalysts. I would like to view it through the eyes of a bear or pessimistic bystander to get different perspectives. These challenges would help me build a stronger case, and tie up any loose ends if possible. Thank you.