STOCKS

Marc Gerstein of Forbes Low-Priced Stock Report finds an undiscovered bargain in the transportation industry.

Assuming we don’t blow up over a federal debt-limit standoff or some other political issue, if the equity market is to have a decent time of it in 2013, an improving economy will have to be an important part of the picture.

We don’t need a boom; slow growth will be fine as long as we just have growth. And if, indeed, that turns out to be the case, basic industrial stocks, such as Supreme Industries (STS), should turn out to be good stocks to own.

The company’s business—truck and bus bodies—is pretty boring, but for investors, boring can be highly desirable. Indeed, the first two qualities set forth by Peter Lynch in One Up on Wall Street says the perfect stock was (1) “a perfectly boring name” and (2) a company that “does something boring.” STS is well qualified in both respects.

The truck and bus bodies produced by the company are attached to a truck-grade chassis (consisting of an engine, a frame, wheels, and sometimes a cab) manufactured by others. Think of it this way: An automotive company makes the bottom. STS makes the top.

When it comes to truck bodies, they are not comparable in scale to the big 18-wheelers you see on highways, which are detachable trailers instead of bodies permanently affixed to the chassis. Instead, think about the smaller trucks you often see moving through neighborhoods.

There are a variety of models, involving options such as lift gates, customized doors, refrigeration, etc. The company also makes armored vehicles. And STS makes the smaller variety of buses, including those used for tour groups, medical transport, universities, resorts, and localities which desire something smaller than the stereotypical city bus.

Demand for truck bodies is cyclical. Many of the bus bodies produced by STS are used in the private sector, but there is enough public-sector business to expose the company to the health of state and local government budgets, which are generally poor right now. So about 20% of the bus-body manufacturing business is likely to remain weaker for a long time. The keys to the near term are truck bodies and margins.

The economy is not yet strong enough to generate significant sales strength, apart from the occasional order from major customers. But STS’ decision to not pursue unprofitable business just for the sake of getting sales, combined with its efforts in the area of operating efficiencies, is contributing to significant margin expansion.

In the quarter ended September 30, 2012, sales dipped by 1.6%, but gross profit rose nearly 25%, and operating income jumped about 40%. The company is solidly profitable, although EPS comparisons next year might be constrained by a more normal tax rate (the company will no longer benefit from special tax considerations relating to prior losses).

Supreme has also been generating healthy levels of cash flow and has been reducing debt. Total debt is now 18% of equity, versus 29% at the end of 2011 and 51% at the end of 2010.

Obviously, all financial metrics should continue improving significantly if the economy continues growing. Prospects for cyclical improvement do not, however, appear to be reflected in the STS valuation metrics. The historical P/E should be low given the expected impact of a normal tax rate in 2013.

But STS’ trailing 12-month P/E of about 4 seems much lower than warranted. Meanwhile, the price-to-sales ratio stands at just 0.18, versus nearly 0.30 the last time the economy was at a normal level. Supreme Industries is a Buy.

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Tickers Mentioned: Tickers: STS

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