BULLS & BEARS: Furniture-maker Kimball may be solid investment

November 7, 2005

It can take a while to rein in investor expectations after a time like the high-return 1990s. As Jeremy Grantham of Grantham Mayo Van Otterloo notes in his quarterly letter, "Even today, with long bonds at 4.5 percent and the earnings yield (on stocks) at under 5.5 percent, the assumption for longterm pension returns is still showing its bullish bias at over 8 percent."

So what does an investor do in an environment that requires more humble expectations for investment returns? For starters, it is worth noting that risk-free short-term rates are pushing 4 percent.

When it comes to stocks, we often comb through the out-of-favor sectors of the market, looking for neglected issues that may be available at attractive valuations. And occasionally an idea crops up in our own back yard.

That just may be the case with Jasperbased Kimball International. The Class B stock trades at about $11 per share on NASDAQ under the symbol KBALB. With a total of 38 million Class A and B shares outstanding, Kimball has a market value of $420 million. Kimball, with $1.1 billion in annual revenue, manufactures and sells furniture as well as wood cabinets for items like televisions. The company also has an electronic contract assemblies division.

We try to first evaluate the downside risks for any investment under consideration. And, like many companies, Kimball is experiencing increased costs in raw materials and energy used in production.

These costs, and the pricing pressures of the competitive global economy, have eroded profit margins. General industry conditions have been difficult for an extended period. As a result, the company's sales have been stagnant and earnings, while positive, have slid over the past five years. Kimball's business is likely to remain under pressure in the near term.

On the positive side, Kimball has a stellar balance sheet. The company has no longterm debt and holds $117 million, or $3 a share, in cash. The stock has an annual dividend yield of nearly 6 percent, which is covered by the company's free cash flow. At $11 per share, the stock is selling at book value and hovering near a 10-year low.

In today's market, balance sheets like these might attract the interest of an activist hedge fund or a private equity buyer who would swoop in and attempt to force change. However, since voting control rests with management and the founding families via the Class A stock, that scenario is unlikely here. Instead, shareholders will have to rely on Kimball's management to cut costs and manage the company's operations to higher profitability over time.

While we have been buying the stock recently, we have no expectations for a quick recovery in the price. And, as I write this from my Kimball-brand desk, we would welcome further declines in the stock price as an opportunity to add to our holdings.

This is worthwhile to note: As the stock goes down in price, it becomes a more attractive investment. This thinking is the polar opposite of momentum investing, where a hot stock that is rapidly rising in price attracts more and more buyers.

Of course, any investment has its risks and the above should not be construed as investment advice. Aldebaran Capital clients own shares of Kimball and our holdings may change at any time. Investors considering buying Kimball shares should conduct their own thorough analysis.

Skarbeck is managing partner of Indianapolis-based Aldebaran Capital LLC, a money-management firm. Views expressed are his own. He can be reached at 818-7827 or ken@aldebarancapital.com.
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