Gambling on Garmin (GRMN)

Garmin Limited (GRMN), a well-known maker of Global Positioning Systems, was a featured stock in the June 2008 newsletter of the Investment Advisory Service. IAS is a pay service by investment professionals who use the SSG to analyze stocks. GRMN was also featured as the Undervalued Stock in the May 2008 issue of Better Investing magazine.

According to IAS, Garmin had a fantastic 2007 with sales up 79%, EPS up 66%, and GPS units shipped up a whopping 146%. Its automotive-mobile segment accounted for 74% of GPS sales and was up 115% over 2006, outdoor-fitness was 10.7% of sales with 19% growth, marine was 6.4% of sales with 22% growth, and aviation GPS accounted for 9.3% of sales with 26.6% growth in 2007.

Incredibly, Garmin has steadily increased its all-ready high growth in each of the last 4 years, with Sales growing from 53.3% to 79.3%, and EPS up from 49.6% to 65.6%. Garmin shows a rare picture of growth on SSG Section 1, with steeply rising Sales and EPS in an upward concave (ever-increasing) pattern unlike most growth companies which show declining growth as they age.

In spite of this outstanding record of performance, Garmin’s stock price has plummeted. After reaching an all-time high of $125.68 per share in October 2007, GRMN is now selling at $47.73, near its 52 week low. IAS noted that investor interest has cooled due to concerns about GPS market growth, unit pricing, and competition. First quarter results were especially troubling, with EPS growth up only 4.7% with S&P data (5.6% with Hemscott data). The gamble with Garmin is when will it double in price if you bought it now: in one, three, five, or more years?

GRMN’s long-term future looks solid to IAS. Component costs continue to decline making GPS units more affordable; IAS thought GRMN’s GPS would prove superior to competition from cell phone makers (as did the Better Investing article); and sales at GRMN’s main competitor, TomTom, a privately held European company, fell about 11% in the first quarter while GRMN gained market share in Europe.

Neither IAS nor BI discussed possible drivers of future growth. The company’s 2007 Annual Report discusses several upcoming plans for 2008 including: speech recognition (e.g., “find the nearest Italian restaurant”); more sophisticated mapping with 3-D perspective; and ‘Novifone’, GRMN’s entry into the cell phone market that will have GPS, a web browser, MP-3 player, and camera(s). Garmin also plans to open a new warehouse in the U.S. that will double square footage and, in 2007, bought a new factory in Taiwan that increased its manufacturing capacity by 30%.

GRMN’s upcoming Novifone could be (maybe, just maybe) a “killer ap”, improving on the Apple IPhone by adding GPS and other features. However, it will cost more, both to purchase and in monthly subscription fees as AT&T will require a two-year contract for the phone service and an extra $15 per month for the GPS.

Another driver of growth, according to a thorough article on Garmin at wikinvest.com, is that only 3% of the cars currently on the road in North America and Western Europe had in–dash GPS and only 10% of the new cars in those markets are projected to come with pre-installed GPS.

Garmin Ltd. was incorporated in the Cayman Islands in 2000 as a holding company of Garmin Corp., a Taiwanese corporation, in order to sell shares in the U.S. I’m always suspicious of companies that incorporate outside the U.S. in order to avoid U.S. taxes. Garmin also gets tax breaks from Taiwan for having its factories there. GRMN’s tax rate has steadily declined from 25.0% in 2000 to 12.6% in 2007 according to Value Line and VL also estimates a 12.0% tax rate in the next 3-5 years. However, IAS notes there was a recent change in Taiwan’s tax law that adversely affected GRMN.

Here is a comparison of their SSG with my SSG and with Take Stock which is a computerized program designed to produce a conservative result. As many of you know, I usually think Take Stock is too conservative and therefore unreliable.

I did two SSGs, one with S&P data from the Better Investing website and the other with Hemscott data from the Stock Central website, but with the same judgments for both.

Garmin (GRMN)	IAS	Armin – 1	Armin – 2	Take Stock
Data	Hemscott	Hemscott	S&P	Hemscott
Date	5-5-08	5-24-08	Same	5-24-08
Current Price	$42.11	$47.73	Same	$47.73
Still a SSG Buy at:	$60.82	$49.81	$49.27	$93.22
Garmin 52 week High and Low Price = $125.68 and $39.75
Sales Growth Estimate	15.00%	07.00%	Same	20.00%
EPS Growth Estimate	15.00%	07.00%	Same	20.00%
Forecast High PE	20.0	20.0	Same	22.6
Forecast High Price	$156.40 (30% > VL)	$110.00	$110.00	$218.75  (82% > VL)
Estimated Value Line High Price in next 3-5 yrs = $80-120 as of 4-11-08
Forecast  Low PE	10.0	9.6	Same	13.1
Forecast  Low Price	$29.00          (Recent Severe Low)	$29.00          (Recent Severe Low)	$29.80         (Same)	$51.48
Upside/ Down	8.7	3.5	3.3	Impossible to Calculate
Total Return	31.2%	19.9%	19.4%	37.2%
PTPM – 5 yr ave	34.7% Trend down	34.7% Trend down	Same	34.7%    Trend N/A
ROE – 5 yr ave with   End Equity	28.1%  Trend up	28.1% Trend up	Same	N/A
ROE – 5 yr ave with Begin Equity	37.5% Trend up	37.5% Trend up	Same	37.5%    Trend N/A
Debt to Equity	-0- Trend even	-0- Trend even	Same	N/A
Quality	Hemscott = None	Same	S&P =    Not Rated	Take Stock = 3.2, not acceptable

Discussion:

– GRMN’s share price reached an all-time high of $125.68 in 2007 and is now trading near its 52-week low at $47.73. This means that just about any SSG will result in BUY signals (Upside/Downside Ratio > 3.0 and Total Return > 15%). It also means that estimating the future is even more of a guess than usual since forecasting the future is especially uncertain when trends are going down.

– When I did my SSGs, the analysts were estimating long-term EPS at around 18-20% with Value Line high at 23.00% and First Call low at 17.50%. Zacks was 17.94%, FactSet CallStreet 18.00%, and S&P was 20.00%. Sadly, Reuters has stopped making long-term estimates.

– Usually, a downtrend in the SSG’s Pre-Tax Profit Margin or Return on Equity is a negative, red-flag warning sign. Here, Garmin’s PTPM downtrend is the primary reason why Take Stock gives GRMN a low rating for Quality. However, GRMN’s PTPM (and ROE) is way, way superior to its Industry Average so that the downtrend is not troubling, at least not at this time. At MSN Money, for example, Garmin’s 5 year average PTPM is 33.2% compared to it industry average of 6.6% where GRMN is tops out of 97 companies in the Scientific and Technical Instrument Industry.

– However, sinking margins could become a problem. GRMN’s Pre-Tax Profit Margin has declined from 39.4% in 2003 to 30.8% in 2007 and Wikinvest says that other makers of electronics (like Sony and LG) have begun to introduce GPS devices. And, Nokia just outbid Garmin for NAVTEQ, the largest GPS map maker in the U.S., which should improve NOK’s GPS and increase its competition.

– Take Stock doesn’t use the Upside/Downside concept and it is impossible to calculate for GRMN because its current price ($47.73) is lower than Take Stock’s Forecast Low Price ($51.48).…which is a SSG no-no.

– Here, Take Stock is unusually and incredibly optimistic with a 20% EPS estimate that is much higher than IAS and as high as the highest analyst’s estimate; with a Forecast High Price that is 82% or $98.75 per share greater than Value Line’s estimate; and with a $93.22 SSG Buy Price that is a whopping 96% greater than GRMN’s current price. This rosy assessment is likely to change as soon as GRMN shows some further performance deterioration, particularly sales and/or EPS.

– Armin