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Del Laboratories Inc.

Research Report

Prepared by:

Adriana Kalova

    Charles Yan

    Priya Hariani

    Ronny Veith

Del Laboratories: Research Report

Del Laboratories Inc.

    Personal Care Products: Cosmetics and Pharmaceuticals

    DLI - $24.35 HOLD

     Stock Data Forecasts 2003E 2004E

    52-week range $14.62-$25.99 Revenue ($ m) 402.5 446.7

     Shares o/s (m) 8.66 Revenue growth (%) 11% 11%

     Float (%) 54.3% EBIT ($m) 24.15 26.8

     Market Cap. ($m) $210.9 FCF($ m) 7.6 8.5

     End-2002 price target $23.26 FCF/share $0.89 $0.99

     S&P 400 MidCap 447.3

    ; We are placing a hold rating with a year-end price target of $23.26

    on the stock of Del Laboratories Inc. While, we feel that DLI still has

    the potential to exhibit strong future growth, we believe that this

    growth is already accounted for in the share price.

    ; Del Lab’s strongest brand is Sally Hansen. In 2002 Del Lab’s

    introduced successfully introduced two new products in this line

    increasing their market share to 26% in the nail care category.

    ; Discounted cash analysis is used to value Del Lab’s. We estimate a

    future growth rate in sales of 11% for the next five years, followed

    by a long-term growth rate of 5%. We used the weighted average

    cost of capital of 8.61% to discount future cash flows to present

    value and arrive at our expected year-end share price.

    ; Year-to date net income is $13.1 million, an increase of $5.4

    million or 7% over the previous year. Sales also increased to

    $268.4million, compared to $226 million in 2001, an increase of

    18.7%.

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Del Laboratories: Research Report

Investment Summary

    We are placing a hold rating with a year-end price target of $23.26 on the stock of Del Laboratories Inc. Year-to date net income is $13.1 million, an increase of $5.4 million or 7% over the previous year. Sales also increased to $268.4million, compared to $226 million in 2001, an increase of 18.7%. While, we feel that DLI still has the potential to exhibit strong future growth, we believe that this growth is already accounted for in the share price.

    In 1999, the cosmetics division had net sales of $203.5 million, a decrease of $10.2 million or 4.8% over previous years. Operating profits for the division were negative with a loss of $11.938 million, compared to a profit of $ 10.38million. The loss was primarily due to increased product returns, lower sales and increase in inventory valuation reserve. Since then the company has revamped its Naturistics line of cosmetics, introduced N.Y.C. New York Color and enhanced Sally Hansen line of nail color. We believe that the 1999 issue is behind the company and expect sales to grow at 11% for the next five years and then at a long-term growth rate of 5%.

     Using a discounted cash flow analysis and a weighted average cost of capital we find the 2002-year end value of $23.26. Our analysis is based on portfolio of brands, leading market share of Sally Hansen line, history of product innovation and competitive analysis.

Valuation

Relative Stock Performance

    Del Laboratories Inc. has a one-year return of 57%, and has outperformed the S&P 400 MidCap Index by 65.5%. It also outperformed the S&P Personal Products Index by 60%.

    The performance of the company was due to continued positive growth in the cosmetics business led by the Sally Hansen brand of products. We believe that the cosmetics division will continue to exhibit strong growth in the future. The company introduced two successful Sally Hansen products in 2002. These products are sold through mass merchandisers like Wal-Mart & Target. Since Wal-Mart and Target are continuing to expand, we expect the company to continue to exhibit strong growth in sales. DLI vs. S&P 400 MidCap Index DLI vs. S&P Personal Products Index

     Source: Yahoo Finance Source: Hoovers Online

    Discounted Cash Flow Analysis

    We used discounted cash flow analysis to value the firm. We did a competitive and historical analysis for growth in sales and project sales to continue to grow at 11% for the next five years. Cost of goods sold and selling and general administrative expenses are estimated to remain at

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Del Laboratories: Research Report

    42% and 52% of sales respectively, based on the last 5-year average. The company disposed of property in 1999 and 2000. EBIT for 1999 and 2000 is adjusted to eliminate gains from sale of these properties, as we do not consider these gains as part of operating income.

    We expect futures capital expenditures to equal depreciation expense. We also estimated changes in working capital as 2% of sales. We subtract increases in working capital from EBIT (after taxes) to arrive at free cash flow. We discounted the free cash flows by weighted average cost of capital.

    DLI has senior notes outstanding that are not rated by the major rating agencies. We find DLI to be comparable to Bausch & Lomb, a BBB- rated company. DLI’s current borrowings mature in

    less than five years, with majority of it due between 3-5 years. Bausch & Lomb’s 5-year BBB-

    rated bonds are currently trading at 6.95%, and this is used as DLI’s cost of debt.

Cost of Debt

Company Interest Coverage Debt/Equity Current Ratio

    Ratio’2001 (mrq) (mrq)

Del Laboratories 3.60 0.88 2.33

    Bausch & Lomb 2.40 0.76 1.31

Source: Multex Investor

    Using CAPM inputs we find cost of equity to be only 5.815%. Since, equity of a company represents claims on residual assets only, a lower cost of equity compared to debt is not reasonable. Hence we used an alternative method to compute cost of equity, as a 3% premium over the cost of debt.

    Based on our analysis, and using a terminal growth rate of 5% we find the intrinsic value of the share price at the end of 2002 to be $ 23.26/share.

    As of Nov26, 2002, the stock was trading at $24.35. Since, the stock is trading close to its intrinsic value, we do not expect the stock to continue to outperform. We believe that future earnings justify the current stock price and therefore we rate the stock a HOLD.

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    Del Laboratories: Research Report

    Valuation - Free Cash Flow to the Firm