AM's Worries Are Paper Thin

03/14/2011 10:47 am EST


Taesik Yoon

Editor, Forbes Investor and Forbes Special Situation Survey

Card maker American Greetings has stanched sales declines as its online business ramps up growth, writes Taesik Yoon of Forbes Growth Investor.

American Greetings (NYSE: AM) is a leading maker of greeting cards under well-known brands such as American Greetings, Carlton Cards, Gibson, Recycled Paper Greetings (RPG), and Papyrus.

Like other paper-based distribution businesses, such as newspapers and magazines, American Greetings has been hurt by the proliferation and growing popularity of electronic media.

Yoon Table 1

Indeed, revenues have been on a fairly steady decline since peaking at $2.2 billion in fiscal 2000, falling 27.5% through fiscal 2010. Net revenues have also been lower though the first nine months of fiscal 2011, down 3.3% from the prior year to $1.2 billion.

A closer look at AM’s recent operating performance, however, suggests business is improving. While third-quarter revenues fell 2.3% to $430 million, the bulk of the decline was due to the divestiture of its party-goods manufacturing business.

Excluding this, net revenues fell by $1.4 million, or just 0.3%, as lower everyday card sales in its North American segment were nearly offset by growth in seasonal card sales and stronger demand from international markets.

The operating margin improved by 339 basis points, to 13%. It benefited from reduced supply-chain costs from the integration of RPG, lower overhead and technology costs in its Interactive segment, and the company’s strategic decision to close its distribution facility in Mexico and transition to a more profitable third-party distributor model.

Net income grew 8.3% to $32 million, or 78 cents per share. This was 7 cents ahead of the consensus estimate.

Paper Worries Priced In
Despite these strong results, the stock is down 6.6% since peaking in early January. We attribute this to rising paper prices, a key raw material.

While we share this concern, the fact that shares are trading less than eight times the current year consensus-earnings estimate of $2.75 per share—and just 0.6 times trailing 12-month sales—strongly suggests it is priced in.

Furthermore, we expect rising paper costs to have little or no impact on AM’s most promising and profitable business, AG Interactive, which has enjoyed good demand for new product introductions and higher advertising revenues.

Yoon Table 2

We are also encouraged by AM's healthy and improving financial position. Its cash balance was $94 million at the end of the quarter, up 86% from a year ago. Total debt has fallen by 35% during the same period. As a result, net debt stood at $138 million, or just 9% of total assets, versus 21% the prior year.

Given its recent success in acquiring and integrating greeting-card brands such as RPG and Papyrus, we would not be surprised to see AM leverage its current financial strength to acquire additional greeting-card brands, which could boost earnings even further.

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