A Kaman Insider Bets on Further Growth

 | Mar 21, 2013 | 11:30 AM EDT  | Comments
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lmt

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noc

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At the beginning of March, Kaman (KAMN) CEO Neal Keating purchased 2,000 shares of stock at a price of about $35. Now a Form 4 filed with the Securities and Exchange Commission has disclosed that he has bought another 2,000 shares at an average price of $35.11.

Insider purchases are sometimes considered bullish signals, because insiders have an economic incentive to avoid becoming too exposed to company-specific risks and should prefer diversify; studies generally show a modest outperformance effect for insider purchases. Our database of insider trading filings shows that Keating had last bought shares in mid-2012, in two transactions a couple of weeks apart, at $31 and then $29 per share.

Kaman provides industrial distribution services and aerospace products and has a market capitalization of $940 million. On average, over 90,000 shares are traded per day, so at a current price of $35 there is over $3 million in daily dollar volume.

Data from 2012 show that Kaman's revenue was up 8% from the previous year and has been growing since 2008 at a compound annual growth rate of 7%. So current performance seems to be in line with historical trends and therefore looks sustainable. Sales growth occurred in both the distribution segment (which was responsible for 64% of revenue but only 36% of operating income) and in aerospace.

Margins also seem to be stable; Earnings growth for the year came in at 8%, and net margins showed a slight increase over the longer term. Earnings per share for 2012 were $2.07. We would note that Kaman's aerospace business counts the U.S. government and a number of aerospace and defense companies as major customers. Because of this, Kaman is exposed to cuts in military spending, and higher margins make aerospace the leading source of the company's operating income.

Kaman trades at 17x trailing earnings, which seems to reflect a middle ground between the two aspects of its business. Peers for the distribution segment would include W.W. Grainger (GWW), which carries a trailing P/E multiple of 24 and which recorded growth rates about in line with Kaman's in its most recent quarter compared with the same period in the previous year. In aerospace and defense, companies such as Lockheed Martin (LMT) and Northrop Grumman (NOC) are closer to trailing earnings multiples of 10 or even lower, though we would note that those are much larger-cap stocks and that in some cases they pay substantial dividend yields.

In any case, Wall Street analysts are quite optimistic about Kaman. The stock is trading at 13x the consensus forecast for 2013, and the five-year PEG ratio -- the price-to-earnings ratio relative to growth -- is just below 1. This implies that sell-side analysts expect earnings growth to actually pick up, a point about which we would be skeptical. However, there is likely a window where the company can come in below its optimistic forecast and still be a good value at the current price.

The stock actually looks about fairly valued to us, even in the case where growth is unhindered by spending cuts, given moderate earnings growth and the P/E of 17. Kaman would be a good stock to buy only if it could increase its growth rates further, and we'd have to see some evidence of the business being on that path. The CEO seems confident in the company, given the two purchases this month, and the distribution business certainly seems priced quite competitively if not cheaper than a leading peer. But we would be too concerned about exposure to aerospace and defense to trust that that the steady growth rate over the last few years will tick upward in 2013 and 2014.

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