Aircastle is an aircraft leasing company which purchases passenger or freight planes and then leases them under long-term contracts to airlines and freight companies.  AYR has taken a very diversified international approach with its fleet of 129 aircraft spread out between 60 different customers in 30 different countries.  The focus appears to be passenger planes with only 29% of the vehicles being used for freight.  Looking at the length of contracts, the weight average remaining lease term is 4.9 years.  This gives investors a fairly stable picture of base revenues for upcoming quarters.

Since owning aircraft can be a very capital intensive business, AYR has a significant debt load of roughly $2.5 billion.  With access to capital curtailed over the last two years, you might think that the company would have struggled to meet its obligations.  However, management has done an incredible job getting the company through the crisis and the Aircastle which has emerged is much stronger than many would have expected if they had foreseen the coming economic struggle.

Near the peak of the market, management had the wisdom to pursue a conservative growth strategy, deciding not to purchase additional aircraft at excessive prices when the economic fundamentals appeared to be peaking.  This allowed the company to continue through the crisis with a stable balance sheet and positive earnings.  While management did decrease the dividend to maintain a healthy cash balance, investors likely understand and appreciate this move which was likely instrumental in causing the stock price to rebound sharply from the March 2009 lows.

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Since the economy has begun to turn, AYR has been able to order and take delivery of new and used aircraft at extremely attractive pricing which should lead to healthy growth in upcoming years.  In the fourth quarter, the company found homes for 11 of 12 new Airbus A330s which it will take delivery of in the coming quarters.  Six of these planes will be leased to South African Airways beginning in 2011 in what management calls “further evidence in the recovery of aircraft leasing.”

Fundamentally, AYR appears to be trading at a very attractive price.  The company is expected to earn $1.12 this year and $1.14 in 2011.  These numbers are likely conservative as AYR has a stable base of customers but could very easily pick up additional aircraft and put them to work in the lease pool which could immediately add to earnings.  With a current stock price of $9.73, investors are paying just 8.5 times forward earnings which is quite conservative considering the long-term nature of the firms leases.  On top of that, investors are being paid 4% annually through the dividend and it would not surprise me to see management increase that dividend now that cash balances are increasing and the global economy is considered to be more stable.

The stock is listed at 0.7 times book value which means that if the company sold all of its assets and repaid its obligations, investors would immediately realize a near 50% return.  The discount is likely due to questions about the book value of the aircraft.  In today’s weak economy, it would be difficult to sell all of the aircraft for a reasonable price – and instead investors are looking at the high debt levels.  But as long as the company is able to maintain payments on the debt and has healthy productive assets to back up any needed refinancing, the picture should remain rosy.

Aircastle might not double in the next six months, but the value of the income producing assets on the balance sheet along with the potential for upcoming growth should support the stock and lead to reasonable growth.  With the market looking a little extended, I prefer to own companies with a strong balance sheet, trading at a discount to book with the potential for increasing business.  Aircastle appears to fit that bill.

FD: Author has long positions in Sound Counsel client portfolios

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Force Protection is a manufacturer of armored vehicles and other products that increase survival rates on the battle field.  With the United States and a number of allies in a sustained war against terror on several fronts, there is significant demand for FRPT’s products.  This was made clear as the company announced revenue of$ 289 million which represents a 21% increase over the fourth quarter last year.  Management attributed the increase to modernization, spares, and its sustainment business lines.  Offsetting the strength was a lower number of vehicles which were shipped.

Initially, it might seem like a lower number of vehicles shipped would be a negative for the company.  But a transformation is underway in which the company is broadening the number of products it offers which in turn is building a healthier business.

We are transforming our Company into a full-service survivability solutions provider. This effort was rewarded in 2009 with over $450 million in increased modernization, spares and sustainment revenue during the year. We have expanded our operational footprint and significantly improved our capabilities in this business. We are continuing our product development efforts to ensure that we are delivering the best balance of survivability, mobility and readiness to our end-users. We are also continuing to push forward in the area of new vehicle development. ~Michael Moody, CEO

Not only did the company produce higher revenue in the fourth quarter, but profitability increased sharply as well.  The company earned 27 cents per share for the quarter (totaling 61 cents for the year) compared to 17 cents from the fourth quarter last year.  Gross margins were higher as FRPT transitioned to products that offered better profitability, and general and administrative costs were also kept in check.  In short, it was a strong quarter for the firm and investors now have a newfound confidence in the stock.

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Supplying military vehicles can be a difficult business.  The revenue trends are unpredictable as governments can increase or decrease contracts almost at will.  Research and development costs can be high and it is not always easy to recoup these expenses.  That is why FRPT’s diversification in business lines will be such a strength for the company.  Replacing parts for existing vehicles, modernizing those vehicles with the most up-to-date equipment, and providing other solutions will create a more stable revenue stream leading to a healthier company.

But that doesn’t mean Force Protection will abandon making vehicles all-together.  Quite the contrary, FRPT has a new vehicle called the Ocelot which is currently being tested by the UK.  As the prototypes are approved, FRPT should receive a good number of orders for new vehicles and it appears that there is a strong possibility that Australia could be a purchaser as well.  New vehicles sent to the field will help to generate additional maintenance and parts business for the firm as well.

Looking at the financial picture, FRPT appears to be in a healthy situation.  The company finished the year with cash reserves of $147.3 million – that’s equivalent to $2.00 per share.  With no debt, this leaves FRPT with plenty of flexibility for developing products, making strategic purchases, or simply riding out the ups and downs of the order cycle.  Management has paired down inventory levels as well which helps to increase the financial stability of the firm.

Whether you look at FRPT from an earnings perspective or a book value frame of reference, it appears the stock is attractively priced.  Analysts appear to have very conservative estimates for earnings this year (pegged at 0.45 per share) and while there may be some bumps in the road, I believe FRPT can easily beat these numbers.  Still as I write, the stock is trading at less than 15 times earnings which appears attractive considering the potential for growth and the financial stability.

Book value per share is roughly $4.44 considering cash, inventory, receivables and the company’s current liabilities.  So the stock is trading at about 1.5 times book value or the price per share investors would receive if they simply liquidated the company.  Since FRPT is actively growing value through positive earnings and a growth strategy, this price appears very conservative.  I would recommend waiting for a bit of the excitement to wear off after the earnings announcement and then try to pick up shares near $6.50 if possible.  The company is relatively small with a market cap of $460 million, but their profitability is proven and the long-term opportunity is exciting.

FD: Author does not have a position in FRPT

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Constant Contact is primarily an email marketing firm which allows small businesses to build a contact list of prospective clients, and send regular emails to this list in order to generate sales.  The platform is attractive not only to small businesses (who may not have the technical resources to design their own email marketing programs) but is also helpful for non-profit organizations soliciting donations or simply distributing information to interested parties.  With an attractive entry price of just $15 per month, the service is accessible to almost any venture and could easily pay for itself with a minimal level of converted sales.

Investors appear confident in the long-term growth of this company, as the stock is currently trading at more than 50 times expected earnings for 2010.  While this is certainly an excessive multiple for most companies, Constant Contact may actually deserve this vote of confidence as the company has recently crossed over the “profitability threshold” and should be ramping earnings substantially.  Often, growth companies focus on building revenue for years and are willing to operate at a loss in order to capture market share.  When this strategy works, there is a point where revenue growth exceeds expenses and earnings increase at an exponential rate.  This exponential growth almost never lasts for more than a couple of years, but the levels of earnings can often justify what originally was seen as an excessive multiple.

Such is the case right now as Constant Contact turned it’s first profit of 3 cents in 2008, generated 13 cents in 2009 and is expected to post 36 cents in 2010.  With revenue of $129.1 million in 2009 and expected revenue of $169 to $173 million in 2010, much of the additional cash flow should fall directly to the bottom line, increasing earnings per share and generating more confidence in the growing business.

We are pleased that the company’s revenue was ahead of our expectations for the quarter, closing out a highly successful year for Constant Contact. While the economic environment for small businesses was very challenging in 2009, Constant Contact was able to grow revenue by 48% and add over 94,000 net new email marketing subscribers, both of which represent significant accomplishments. ~ Gail Goodman, CEO

The currently high unemployment rate has many individuals considering striking out on their own, or launching a part-time business to help make ends meet.  Since our economy is making increasing use of internet marketing, Constant Contact is in the position to grow its client base and provide a valuable service to these new ventures.  Significant marketing expenses ensure that CTCT is staying in front of its target customer base which is very important as the company continues its exponential revenue growth.

While CTCT is certainly the most well known and aggressively marketed solution for email marketing, it is certainly not the only player in the space.  The ZachStocks Newsletter actually uses  AWeber Communications, a privately held email marketing firm.  Many larger corporations are able to set up their own platforms more efficiently, but for small businesses Constant Contact remains the leader with a very efficient and cost effective platform.

In order to truly get excited about Constant Contact, I would like to first see the stock break above $19.50 on strong volume.  That would help to indicate that institutions are buying the growth story and would provide an attractive entry with limited risk.  Once a trade was initiated, a stop could be placed under the most recent swing low (or for longer-term traders, below the $17 low from early February).  While I am not normally a fan of buying at extreme multiples, the impressive growth rate and inherent leverage in the business makes this an attractive candidate for a rising market.

FD: Author does not have a position in CTCT

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Portfolio Recovery operates in an industry that doesn’t have too many friends.  The company purchases receivables from financial institutions and other corporations and then attempts to collect enough of these receivables to cover its purchase price and generate a profit.  That’s a nice way of saying the company is a glorified debt collector.  This business has been profitable for quite some time, but in the last decade many market participants have faced competitive challenges.

As you can imagine, the name of the game is to buy these receivables at a steep discount to face value.  PRAA actually focuses on portfolios of defaulted consumer receivables – so they know up front that collecting on these debts will be challenging.  During the fourth quarter, PRAA bought $2 billion worth of loans (measured by the face value of debt owed by consumers).  The pricetag was a mere $75.1 million – or 3.755 cents for every dollar owed.  So with this low price, PRAA could theoretically see 90% of its face value remain in default and still make a nice profit.  There are administrative costs to consider of course, but the low purchase price goes a long way towards creating a strong business model.

A few years ago, there was much more competition for these loans.  Many financial institutions were holding on to debt longer or launching their own collection agencies.  Hedge funds were getting into the game too, buying the portfolios and hiring hourly workers to call and collect the debts.  Prices for these portfolios rose to a place where they were increasingly difficult to generate profits.  But during the financial crisis, many of these competitors went out of business or lost access to capital.  Today, the industry is much healthier and participants are able to generate strong profits.  According to the CFO of PRAA, the future also looks bright and should result in earnings growth:

Looking forward, we believe our strong financial position and continued access to capital will help position us well to take advantage of opportunities for continued portfolio acquisitions as we move further into 2010.” ~Kevin P. Stevenson, CFO

On February 11, PRAA announced strong earnings of 80 cents per share, and finishing the entire year with $2.87 in profits for every share.  Investors celebrated, pushing the stock up 18.3% in a single day.  A week later, the company priced a secondary offering, generating $71.6 million in new capital for the firm.  Before the offering, the stock had closed at $54.03.  The shares were offered at a discount with deal participants paying $52.50.  But during market trading the stock quickly rallied above the deal price and has maintained a stable price.  That’s a good sign considering the dilution effect of the deal.

Raising the capital gives PRAA more flexibility for growth in 2010.  At the end of the fourth quarter, the company had cash of $20.3 million and $319.3 million in borrowings.  With $45.7 million available for new borrowing, PRAA was getting low on options.  But now that an additional $71.6 million has been raised, PRAA has more than $100 million to work with if opportunities for purchases arise.  With continued concern over unemployment and weak consumer balance sheets, it is likely that PRAA will be actively buying debt at distressed prices.

Analysts are estimating 2010 earnings at $3.55 and those assumptions are likely conservative, based on the company’s current assets.  If PRAA makes a strong acquisition or two, these estimates could turn out to be low.  But even if the estimates are right, PRAA is only trading at a multiple of 15 which appears attractive considering the company’s growth.  While I believe caution is the most important trading strategy for the current environment, PRAA could turn out to be one of the better opportunities we have this year.

FD: Author does not have a position in PRAA

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But as is usually the case, fundamental valuations eventually became important and many of the high-flying internet darlings came crashing back to earth.  Some of the companies that were hit particularly hard (many of which had to declare bankruptcy), were the fiber companies which invested in the infrastructure which carried information across short or long distances.  The investment in these networks was huge and unfortunately, the companies couldn’t stick around long enough to reap profits from their ballooning costs associated with the network buildout.

Today, the picture is a bit different.  ”Dot com” investors who got burned at the turn of the century are leery of making the same mistake twice.  And so legitimate bandwidth companies who are turning a healthy profit are largely snubbed by the investment community as the industry has fallen out of favor.  Such is the case with Abovenet Inc. (ABVT) which provides bandwidth and fiber optic infrastructure to telecom carriers as well as individual corporations.  The stock only trades about 110,000 shares each day so it is widely overlooked by Wall Street, but the company carries a market cap of $1.5 billion and has posted profits for the last 13 consecutive quarters.

ABVT has had a strong run since the panic days of early 2009.  In fact, after trading below $15, the stock is now as high as $62 – more than a 300% return in just over a year’s time.  But despite the strong run the stock has experienced, it looks as if there is a good bit more room for investors to realize a profit.  When the company reports fourth quarter earnings in the coming weeks, it is expected that Abovenet will have generated $3.84 per share in earnings per share.  That’s a gain of 122% over the last year.  And the company’s growth should continue into 2010 although the rate will likely be much slower.  Given the stock price of about $62 and 2010 expectations for $4.12, ABVT is trading at an attractive multiple of just 15 times forward earnings.

Looking at the business, I’m impressed with the wide variety of customers Abovenet deals with.  In a February presentation, the company noted that 28% of its customers were telecom carriers while 72% of its customers were other enterprises.  The broad range of clients include major brokerages and insurance companies, media firms, and other businesses which have high bandwidth needs.  And since ABVT typically engages in long-term contracts, its visibility for revenues and earnings is very appealing.

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An issue that typically plagues infrastructure companies is capital spending.  In order to provide quality service and expand its network, the costs of laying fiber and developing a worldwide network can be prohibitive.  But Abovenet has been disciplined with its roll-out and as of the third quarter 2009, the company had realized earnings that exceeded the capital expenditures for the year.  With these statistics and a low debt level, investors can be confident that ABVT is handling capital decisions responsibly and shareholder value is being protected.

The broad market picture is unclear right now.  Macro issues such as Europe debt, China tensions, and high domestic unemployment continue to hamper recovery.  In 2010, equity markets have been weak, and yet the charts are becoming difficult to read as rebounds cast some doubt on the bearish thesis.  Investors must work through uncertainty and will likely do best with a long/short approach where capital is committed both to solid growth stories such as ABVT as well as to short opportunities where stocks are over-valued and sentiment is likely to fall.

ABVT should be an attractive candidate for the long portion of a growth oriented investment strategy.  A recent pullback offers an attractive entry point and technical traders could set a stop just below $55 where the stock found support earlier this month.  Risk control remains an important skill to develop, but if traded properly ABVT could offer significant profits.

FD: Author does not have a position in ABVT

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Healthspring offers health care programs primarily through Medicare in the states of Alabama, Florida, Illinois, Mississippi, Tennessee and Texas.  The company has grown since coming public in 2006 with earnings increasing consistently each year.  However, the stock has not performed very well during the period as the earnings multiple has declined significantly.  Currently the stock is trading at just 7.8 times expected earnings for 2010 – quite a bargain if the company continues to see such consistency in earnings growth.

Part of the reason the stock trades at such a low multiple is the fear that health care reform will reduce the profits available to the firm.  Since Healthspring works closely with Medicare patients, there is a reasonable fear that the company could see its margins squeezed as a result of the anti-business agenda of the current administration.  However, with recent changes in political sentiment and some very clear backlash from voters, it is unlikely that health care reform will have the teeth to curb competitive business.  My personal opinion is that a more competitive environment will result in higher quality care at lower prices.  But regardless of your political view, the news is good for Healthspring and should bolster the company’s stock price in coming months.

On February 8, the company announced strong earnings for the fourth quarter, earning 68 cents per share compared to 51 cents in the fourth quarter of 2008.  For the full year the company grew earnings by 13.7% to $2.41 per share.  Revenue grew at a 25% clip over the quarter and management issued positive guidance for 2010.  According to the CEO, Healthspring should earn $2.25 to $2.50 in 2010 and we should keep in mind that management typically “sandbags” earnings expectations promising low numbers so that they can beat expectations throughout the year.  Analysts weren’t all that impressed as the consensus estimates for 2010 earnings has the company earning $2.27, but the good news for investors is that these estimates are likely to be beaten.

Shortly after the earnings announcement, the company issued another press release stating that Healthspring had been able to refinance its debt with much more attractive terms.  Healthspring entered a $350 million dollar senior secured credit facility which is divided into a $175 million dollar 5 year loan, and a $175 million dollar revolving credit facility.  The company used the proceeds from the loan and cash on hand to pay off its entire existing debt which had been scheduled to mature in October of 2012.  This gives the company more flexibility time-wise, and still leaves Healthspring with a large war-chest of cash.

We believe that we are well positioned to capitalize on potential strategic opportunities created by both the current Medicare Advantage rate environment and healthcare reform. This new facility provides us with greater financial flexibility to, among other things, take advantage of such opportunities. ~Karey L. Witty, CFO

The “strategic opportunities” that Witty speaks about could easily be an acquisition of another provider in a different state.  This would allow the company to increase its footprint and significantly grow its business.  Since many firms are trading at a discounted value (both public companies and private providers), Healthspring would likely be able to make an acquisition that would be immediately accretive to earnings.  So the $2.25 to $2.50 in expectations for 2010 could very well be a conservative number.

So despite a strong run in the stock since the March low from last year, Healthspring is still a very attractive investment trading at a low multiple with significant potential for growth.  I believe investors could see the price more than double over the next 12 months if investor sentiment becomes more amenable to owning health care companies.  With a strong balance sheet, impressive opportunities and a low multiple, this stock appears to have a very attractive risk to reward ratio.

FD: Author does not have a position in HS

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Chimera’s business is classified as a REIT (Real Estate Investment Trust) which means that the company does not have to pay taxes at the corporate level.  As part of this designation, Chimera must pay at least 90% of its earnings to shareholders on a quarterly basis.  Chimera is in the business of purchasing residential mortgages and other Residential Mortgage Backed Securities (RMBS) with the goal of collecting interest payments and eventually selling these securities at a profit.  The company is able to borrow significant amounts of capital and use the proceeds to buy a larger pool of assets – thus leveraging their investment and theoretically providing greater returns for  investors.

The leveraging strategy didn’t work out so well over the past several years as the value of mortgage securities dropped significantly.  The bursting of the housing bubble along with the financial credit crisis had a profound negative effect on Chimera.  The company’s liabilities did not change with the crisis, but the value of its assets plummeted sending the stock from a high near $20 in early 2008 to a low near $1.50 at the height of the panic.  Since that time, Chimera appears to have learned its lesson and is now operating with significantly less leverage.

The mortgage investment market is a unique environment which is not typically available to individual investors.  Similar to many credit card loan originators, personal loans are originated by various financial institutions and then often securitized and sold to market participants.  But unlike a credit card processing service, many of these securitized loans are guaranteed in some way by the government in what is typically considered “Agency Mortgage-Backed Securities.”  For these loans, investors don’t have to worry about whether they will receive their principal back.  Instead, the risks are weighted toward prepayment (mortgage holders refinancing), and interest rate risk (if the cost of funds exceeds the return for the mortgage investments).

Chimera currently holds 25% of their portfolio in agency MBS positions with the remainder in non-agency mortgages which carry more risk.  But where there is risk, returns are usually higher.  For instance, Chimera’s average cost for non-agency mortgages is 58 cents on the dollar which leaves the company with significant potential for gains on these purchases.  And the company has begun to operate very conservatively with a current leverage ratio at 1.1 to 1.  In addition, the company has set aside $1.7 million in the last quarter to guard against loan losses in the coming months.

In our markets, demand for securities has improved from the depths of the financial crisis as investors take into account realistic performance expectations, new capital comes into the market and the securitization market continues to recover. While new non-government-backed mortgage originations remain well below prior levels, as we look ahead to the new year, we continue to see opportunities in the securities market and we look forward to the new opportunities that will arise when the primary mortgage securitization model becomes operational. ~Matthew J. Lambiase, CEO

Based on the last three dividend payments (CIM skipped a dividend during the March 2009 quarter) and the current stock price, Chimera sports a 12% dividend yield.  This measure will likely only go up as the company is expected to pay  a dividend during the first quarter which will offset the skip from Q1 2009.  The strong dividend should help to support the stock price and give investors some valuable income.

At the same time, I expect the mortgage portfolio to remain relatively stable and potentially increase.  As non-agency mortgages pre-pay or refinance to get better rates, Chimera will be able to mark some mortgages higher and realize a profit on investment.  The low cost of funds may also allow the company to pick up additional investments at an attractive price while paying a low rate on debt.  I wouldn’t like to see the company become heavily leveraged, but a ratio of 1.5 to 1 or even 2.0 to 1 might be reasonable and add to investor profits.

The bottom line is that Chimera is a risky investment with significant exposure to mortgage backed securities.  But with these investments marked down to reasonable levels, and with the potential for opportunistic purchases, investors could be rewarded with strong profits.  The recent lower trade in the stock may offer significant opportunity to pick up shares at a discount and I expect a healthy dividend yield to benefit investors while they wait for capital appreciation.

FD: Author has a long position in Sound Counsel Investment Advisers portfolios

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Without going into too much detail (I’ve unfortunately become intimately familiar with the process), KCI has developed a process by which a vacuum (or low pressure pump) is attached to the wound and continually sucks excess fluid and drainage out of the wound.  While it’s a bit disturbing to have tubes attached and watch the drainage be sucked out of one’s body, the process is amazing in that it truly does allow wounds to heal more quickly and efficiently.

KCI protects its patents and intellectual properties vigorously.  In a discussion with the doctor, I learned that KCI usually rents out many of its pumps instead of selling them outright in order to keep close tabs on the product use.  In fact, out of the several different versions of the wound vacuum pump, some are licensed for hospital use and some are licensed for home use.  When I was discharged from the hospital, they actually had to switch my pump in order to comply with KCI’s term’s of service.

Similar to Gillette or Hewlett Packard, KCI has adopted a business model where it makes a large portion of its revenue on consumable products while the margins on the actual pumps are often a bit lower.  The Negative Pressure Wound Therapy can only be applied with KCI brand dressings, tubing and other peripherals.  Since the wound dressing and tubing need to be changed several times a week, this is a stable and predictable source of revenue.

You might think that with these restrictions, healthcare providers would be hesitant to work with KCI, but at this point there are no other providers who are able to reproduce the Negative Pressure Wound Therapy system.  I spoke with my insurance company who had expressed reservations about paying for the KCI treatment but when they were informed that no other providers existed it appeared that they became willing to accept the claim.  Still, KCI works hard to keep close relationships with physicians, insurance companies and Medicare providers in order to maintain a healthy business.

And business does appear to be good.  A few weeks ago the company announced fourth quarter earnings with revenue up 7% to $526.8 million and non-GAAP earnings of $1.10 (up 12%).  For the full year, KCI earned $3.82 and is expected to report 2010 earnings near $4.40 which represents 15% growth.  KCI continues to expand its geographic footprint and will be focusing on growing its Japanese business in 2010.  While the global economy may offer investors plenty of surprises in the year to come, innovative and efficient health care technology like the Negative Pressure Wound Therapy system should lead to continued growth in profits.

For 2010, we look forward to several new product launches, the launch of V.A.C. Therapy in Japan, continued expansion of our LifeCell business domestically and in Europe, and stabilization of our TSS business. ~Catherine M. Burzik, CEO

KCI is currently trading below $40 and given the expectation for $4.40 in profits in the coming year I believe that the multiple is exceptionally low.  With an expected growth rate of 15%, it seems logical that the stock would trade for at least 12 times 2010 expectations which would represent a stock price of $52.80 – an increase of 37% from the current price.  Any positive surprises could not only increase the expected earnings for 2010, but could also lead to multiple expansion.  From this perspective it’s not difficult to imagine a scenario where KCI doubles from its current level.

One concern investors may have is that the company is saddled with $1.174 billion in long-term debt.  While this number is certainly no small matter, one should note that KCI actually reduced its debt y $242 million over the past year so it looks like they are on track to reduce leverage.  At the same time, the current cash flow is robust and should have no trouble covering interest payments for the foreseeable future.

Wound care is a need that does not ebb and flow with the economic cycle.  And since KCI can actually help to reduce the time a patient spends in the hospital, and expedite the healing process, the company should receive favorable treatment from insurance providers as well as government healthcare plans.  The future looks bright for KCI and I will be watching for attractive opportunities to get involved with the stock.

FD: Author does not have a position in CLI

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Typically, China receives a discount because of the large volume represented by the country.  As such, most market participants now consider $350 the “floor” for pricing with marginally higher prices for other buyers.  According to Credit Suisse, the economic dynamics favor a continually rising price for the next several years and they expect potash to sell for $550 per metric ton in 2017.

The supply / demand dynamics for fertilizer look especially attractive in North America today.  Most farmers in North America dealt with a late harvest which meant that fertilizer could not be spread in the fall.  This could lead to significant demand in the first and second quarter as farmers prepare the soil for the spring crops.  Most of the potash dealers currently have extremely low levels of inventory which should lead to heavy buying pressure.  Not only do these dealers need to buy enough potash to meet the demands of farmers in the spring, but they also need to replenish their inventory now that pricing visibility is in place.

The $350 per metric ton pricing is especially attractive to North America producers such as Intrepid Potash (IPI) and Potash Corp (POT) because of the low cost of production.  It is estimated that these companies can mine potash at a cost of roughly $100 per metric ton, leading to a gross profit of $250 – an impressive margin.  Normally when businesses have such a hefty multiple we would worry about competition, but global supplies of potash are limited and there are significant barriers to entry in this market.

The selling prices are now high enough to justify an increase in production for firms like POT.  The company is well known for matching production with demand, and in the past year the company has reduced its production as the global recession caused demand to wane.  But farmers cannot continue to grow crops much longer without replenishing the soil and demand for agriculture products is much more inelastic than other goods.  With an aging population in North America (which means more resources used per capita) and a rapidly expanding middle class in developing nations (again – more resources per capita), the demand for agriculture products will likely only continue to grow.

Potash Corp (POT) is probably the most stable investment in this area as the firm holds the rights to a very wide range of potash properties.  Intrepid Potash (IPI) on the other hand is a smaller and more nimble player and could theoretically grow at a more rapid rate than its competitor.  Both companies appear to be trading in a strong trend and could lend significant investment returns.

Aggressive investors may want to own the individual stocks or potentially buy out of the money options on POT or IPI.  A more conservative approach would be to own the stock and sell calls against the position.  Currently the POT June 120’s appear to offer a strong annualized return while at least partially protecting investors from a pullback in the stock.  Alternatively, one could own IPI and sell the March 32 calls for a bit over $2.30 per share.  The option premium would protect against an 8% loss in the stock, and the return over the next three months would still be attractive if the stock was called away.

Regardless of how you play this area, it appears the opportunity is strong.  An improving agricultural picture, visibility with pricing, and the fear of inflation could all help push fertilizer stocks higher to begin this new decade.

FD: Author has a position in Sound Counsel client portfolios

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In the darkest days of November 2008, the stock briefly traded below $2.00 per share and many believed that the company would not survive the credit crisis.  Chimera had borrowed huge amounts of capital and used the funds to invest in risky Adjustable Rate Mortgages (ARMs) which had often been issued to borrowers without the means to repay the loans.  The underwriters continued to write these admittedly irresponsible loans because they assumed that home values would rise and when the higher mortgage rates set in, borrowers could simply refinance based on the higher home value and net equity in the home.

As it turned out, trees don’t grow to the sky and home prices don’t rise forever.  Chimera’s 4.6:1 leverage rate meant that for every dollar of company equity, an additional $4.60 had been borrowed to invest in these assets.  As the value of the assets fell and the liabilities remained stable, Chimera was in hot water.

But rather than fold, management went to work improving their balance sheet and making wise strategic decisions.  The strategy was to lower exposure to these risky ARM investments and reduce the amount of leverage the company utilized.  Within four quarters, the company had paired down its leverage to a level of 0.9:1 – quite an impressive feat considering the environment.  In April and again in late May, the company issued additional shares to the public raising capital and investing these funds at much more attractive prices.

Today, the company looks much more healthy and the stock price just shy of $4.00 appears to be an attractive value.  The most recent quarter saw the company reporting adjusted earnings of $0.13 per share.  This is down a bit from the 16 cents reported in the third quarter of 2008, but the prior three quarters had earnings of 7 cents, 9 cents and 10 cents in the June quarter.  So it appears momentum has turned and is favoring this much more conservative approach.

After fully investing the proceeds of our capital raises earlier in the year, our team executed two re-securitizations that should enhance our return potential going forward. We continue to monitor evolving market conditions and prepare for a wide range of possible outcomes. ~Matthew J. Lambiase, CEO

Chimera briefly stopped paying a dividend at the height of the crisis, but the firm only missed one quarter and has been increasing its payout ever since.  Looking at the last year, the company has paid out 44 cents per share in dividends and that includes the one quarter when the company did not make a payment.  At this rate, the stock is offering investors a dividend yield of 11.3%.  If you assume that the company will be able to continue to pay 17 cents per share each quarter (which it announced for the fourth quarter) then the yield increases to 17.5%

Currently Chimera is realizing an annualized yield on its assets at 7.71% and has been able to lower its borrowing costs to 1.67%.  The interest rate spread of 6.04% is quite impressive and while that may narrow in a rising interest rate environment, the company should still be able to command a healthy margin.  The current loan portfolio is now made up of 59% fixed rate mortgages which are more stable and likely much less risky than the ARM component.

As far as the Adjustable Rate Mortgages, the company has already written a large portion of these loans down to a fair market value of 52.4 cents on the dollar.  So this means that if three quarters of these mortgages turn out to perform well, the company will recognize a large gain on this investment.  Looking at the entire book, only 0.6% of the loans are delinquent 60 days or more, and 1.37% are in foreclosure.  So the metrics are not particularly bad despite a difficult employment and economic picture.

I wouldn’t be surprised if Chimera were to sell additional stock in the near future to raise capital for more purchases.  If another wave of ARM resets sends mortgage prices lower, Chimara will be in great shape to pick up assets at discounted prices.  But for now, the company seems content to use low levels of leverage and enjoy its attractive interest spread.

FD: Author has long positions in Sound Counsel portfolios

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It has become a New Years tradition to combine forces with a few investment bloggers and put together some investment ideas for the coming year.  ZachStocks has bragging rights to the last place slot for 2009 as my recommendations for TBS International, TBSI (a dry bulk shipping company) and China Medical Technologies, CMED both faces significant challenges.  Shipping rates continued to be low throughout much of the year, and China Medical faced a surprise change in management and a heavy debt load.

Looking forward to 2010, I expect the ZachStocks recommendations to perform much more positively, while at the same time I want to caution against buying and simply leaving the positions unmonitored for the year.  We live in dynamic times where policy and economic trends are fluctuating very rapidly.  All investment decisions must be made with imperfect information, and then adjusted as new information comes to light.  Successful investors are able to allocate capital with purpose and confidence, but they are also able to switch gears and make new decisions when the situation warrants.

So with that said, here are my four recommendations for 2010 and as they become available you will see the additional recommendations from my competition at the bottom of the post:

The Blackstone Group LP (BX)

The private equity industry is set for a major rebound in the coming year.  Many of the funds that are managed by Blackstone are nearing their high water mark which means that the company will be able to participate in further gains in the alternative funds managed.  The market is offering ample liquidity which means that many of the companies owned by Blackstone’s private equity funds can be sold to the public in Initial Public Offerings (IPOs).  These transactions will allow the funds to book significant profits and lead to increasing shareholder value.  Finally, Blackstone continues to attract new capital with the most recent figure of $96.3 billion under management.  With these growth situations along with a healthy 9% dividend yield, I expect Blackstone to rally sharply this year.

Assured Guaranty (AGO)

Most financial insurance companies (which insure securities such as municipal bonds and Mortgage Backed Securities) have either gone out of business or are teetering on the edge.  Companies like Ambac Financial (ABK) and MBIA Inc. (MBI) may still be solvent, but they don’t have the capital available to go after new business.  But Assured Guaranty made some very smart, conservative decisions in the mania leading up to the housing crash, and now has the capital to write new business and capture market share.  Assured Guaranty recently made an acquisition that adds a significant amount of new revenue, and should be accretive to shareholders in the coming year.  While the stock has had a tremendous run since April, it still trades at an attractive level compared to its high quality assets and its prospective growth.  I expect the stock to continue to add to its gains as we enter this new decade.

IntercontinentalExchange (ICE)

As Congress works to overhaul the regulatory system for our financial markets, many of the banks and derivative dealers will face a new standard of disclosure and risk control.  OTC contracts which used to be private will be forced onto exchanges and the contracts will have to be cleared by a third party.  The CME Group (CME) and IntercontinentalExchange are the two primary clearinghouses which have the ability to clear derivative products and the additional business should add to profitability for both of these companies.  ICE has made several recent acquisitions to give the company a competitive edge and I expect the company to capitalize on the regulatory opportunities in the next several months.  The stock is not cheap, so there is a bit more risk in this opportunity, but investors should reward the company for its growth, driving the stock price higher.

iShares Silver Trust (SLV)

The fear of inflation could be a major trend for 2010 as most governments continue to utilize an accommodating monetary policy.  Printing presses continue to pump out more currency leaving more dollars (or euros) chasing fewer goods.  When inflation fears mount, the best investment strategy is to own “stuff” or hard assets because supplies are relatively stable (versus an increasing supply of currency).  Silver is unique in that it is both a precious metal (storage of value) as well as an industrial metal (there are real-world uses for it).  December has featured a sharp pullback in the shiny metal and that actually gives us an excellent entry point for silver heading into the new year.  I expect silver to be a solid place to store “real” value, and if inflation fears take off, silver could vault higher with a price that increases many-fold as investors look for an alternative to owning dollars.

Happy New year and I wish you the best of success in the coming year.  If you would like information on how to develop an appropriate investment program for your personal account, please email me and I would be happy to discuss ways to safely grow your capital.

Wishing you every success!

Other Bloggers 2010 Recommendations

The Financial Blogger

My Trader’s Journal

The Wild Investor

Four Pillars

Where Does All My Money Go

Intelligent Speculator

Dividend Growth Investor

To paraphrase a hedge fund manager that I follow closely, “Nothing has happened this year the way I expected it to.”  While this statement does little to instill confidence in this money manager, William posted returns north of 20% for the year in his long-short fund which remains fairly neutral as far as market exposure is concerned.  The point is that although 2009 was a year of major shifts in market direction, policy decisions, and investment risk; it was still possible to adjust trading style along the way to account for the changes and book significant profits.

My four picks for 2009 did not turn out to be very profitable despite a significant market rally from March through December.  Thankfully, portfolios managed for Sound Counsel Investment Advisers were able to trade actively throughout the year and performed much better than the 2009 recommendations.  As I choose growth opportunities for the portfolios I manage, I am careful to use stop points in order to exit losing trades, while letting winners continue to compound gains.  Often we use covered calls to manage some of the risk, and the advent of inverse ETFs has also been helpful in managing downside risks for entire markets as well as individual sectors.

So without further adieu, here is some commentary on the four picks for 2009.  Stay tuned for the 2010 picks which will be posted January 1.

1. JA Solar Holdings (JASO)
   While Alternative certainly received its fair share of headlines this year, the solar industry was plagued with rising inventory levels and falling prices for solar products.  On top of the supply dynamics, many countries which had implemented strong solar energy tax incentives had to pull back on the stimulus measures due to financial strain.  As a result, many solar companies experienced a difficult period and those with excessive leverage were especially hard hit.  At the time of writing, it looks like JASO will finish the year with a gain of 30.5% which is certainly healthy, but the majority of the gains came in the last few weeks of the year.  JASO could continue to post additional gains in the coming year, but there are still significant uncertainties surrounding the alternative energy market.
2. AECOM Technology Corp (ACM)
   AECOM is an international construction management company which is expected to benefit from global stimulus projects aimed at improving infrastructure projects such as bridges, roads, power plants and other developments.  Since AECOM has a well diversified client base, it was expected that the company would grow earnings (which occurred quite nicely) and see its stock price rise as a result (which unfortunately did not occur).  Much of the stimulus spending took longer than expected to reach the market, and investors have placed a lower multiple (paying a smaller price for every dollar that the company earns).  The lower multiple is likely due to a perception that the company will not continue to grow quickly after the stimulus projects are completed.  At this point AECOM still looks like a great investment with little debt and a low earnings multiple, but it has taken longer than expected for the stock to bounce.  Currently it looks like ACM will finish 2009 with a loss of 1.2% – not a very healthy showing considering the strength of the market.
3. TBS International (TBSI)
   At the end of 2008, it looked like shipping companies were primed for a significant rebound.  The financial crisis had sent many of the more leveraged players into the abyss, but companies with longer-term charters and reasonable debt levels were showing signs of improvement.  The wildcard in this industry was whether the day rates for dry bulk shipping would improve over the coming year.  Unfortunately, shipping has continued to be a challenging area for the economy, and since TBSI does not pay a dividend, it has been especially unattractive to investors.  The stock is down 27.2% for the year which is extremely disappointing.  Looking into the coming year, there is little evidence that this company will offer investors much hope of improving profits so I would not recommend an investment in this stock and have kept clients out of this name for some time.
4. China Medical Technologies (CMED)
   China Medical is another disappointing story as the stock is now down 30.2% for the year.  Midway through 2009, CMED had traded higher as the company’s rapid growth caught investor’s attention and the diagnostic company was expanding its base of customers.  However, a management change along with significant debt has caused investors to lose confidence.  At the current price, CMED is looking like a very solid value, but I am not invested right now because I want to know for sure that the business metrics are solid.  If management were to issue healthy guidance for the coming year (ending March 2011), I would consider working back into the stock, but for now it appears to hold excessive risk.

We have many risks and many opportunities in front of us as we enter this new decade.  Flexibility and damage control will be important skills to employ as the markets face the risk of inflation, mounting sovereign debt, and significant fluctuations in currency rates.  I would welcome the chance to help you develop a comprehensive plan for your investments in the coming year.  Please email me if you would like more information on Sound Counsel’s investment strategies.

Wishing you a happy New Year!

Other Bloggers 2009 Results

Intelligent Speculator

The Financial Blogger

My Trader’s Journal

The Wild Investor

Four Pillars

Where Does All My Money Go

Million Dollar Journey

House of Cards by William D. Cohan is a bit of a darker read as it chronicles the collapse of Bear Stearns over a fateful spring week in early 2008.  The Bear Stearns failure is especially interesting to me as I personally worked on the same floor as Bear Stearns’ Atlanta office during the time that the firm went under.  It is quite sobering to see just how vulnerable our major financial institutions were (and many still are) due to the enormous leverage used as these companies aggressively pursued profits.  Many of the derivative tools which were used to drive trading gains (and eventually to bring down companies like Bear, Lehman, and AIG) are still actively traded and could potentially cause market chaos again.

As the political machine moves from emergency bailouts to the much more difficult process of making sure a similar financial catastrophe never happens again, new regulations are being put into practice which are expected to discourage institutions from taking similar excessive risks.  Now I could write a number of pages on why political regulation will likely fail at reigning in human greed and fear, but rather than dive into the intellectual side of that argument, let’s look at some investments which could profit from the additional regulation.

One of the most recent regulatory reform bills which was debated in the House attempted to require all financial derivatives to be traded on exchanges and cleared.  The purpose was to provide both transparency and a sense of risk control.  As exchanges posted data on which derivative contracts were being traded, at what prices, and at what volume; investors would have a better sense of the liquidity of such vehicles and what price the market was willing to pay for exposure to particular investment and trading agreements. The risk control would come into play as the derivative agreements were “cleared” or guaranteed by a third party.  Companies like IntercontinentalExchange (ICE) and the CME Group (CME) act as intermediaries between trading counterparties, guaranteeing that the trades will be settled.  As the clearinghouses are taking on the counterparty risk associated with each trade, the market becomes less vulnerable to the risk that one of the parties will default on a major trade (or basket of trades).  The clearinghouse must manage its own risk and will therefore require each party to put up a certain level of margin or collateral depending on what is at risk with the particular trade. Clearinghouses must carefully manage their own risk, but if the business is handled appropriately the profits can be quite lucrative.  Not only does the clearinghouse get to charge fees for each trade cleared, but the firm holds a large amount of capital which it can invest while counterparties leave the trade on the books.  ICE and CME are both expected to be major beneficiaries of the push to have more derivative trades directed through the clearing function. Of course not everything goes according to plan in Washington (thank goodness), and it is unreasonable to expect that 100% of derivative trades will be forced onto exchanges.  Dealers and other market participants will still transact some business without a third party intermediary.  However, Morgan Stanley (MS) believes that the volume of derivatives cleared could increase from the its current portion of 20% to as high as 60% in 2012.  A tripling of market share could certainly boost the profits of the established players and potentially lead to sharp investment gains in 2010.

One of the benefits of operating a capital intensive business like a clearinghouse is that it is very difficult for new competition to enter the market.  With a clearing business, trust and reputation are the most important assets as traders do not want to clear unless they believe that the clearinghouse has the capital to truly absorb the risk if a counterparty defaults.  This reputation cannot be easily built without a significant amount of time in the business, and it is difficult to manufacture that experience without clearing major trades.  So there truly is a “chicken or egg first” difficulty in starting a new clearing franchise.  Also, large financial institutions are not likely to enter the clearance business because they would rather make their profits on the trading side.  So for now it appears that ICE and CME are the leaders and have a sustainable advantage in collecting profits from clearing derivative trades. Neither CME or ICE are trading at extremely cheap multiples.  That is because the market has begun to realize the strong potential for earnings growth.  However, as the political climate continues to drive banks and dealers toward greater disclosure and stronger risk controls, it is likely the earnings growth will be even greater than expected for CME and ICE.  The result will likely be a sustainable advance in the stock price of both clearinghouses and while there could be moderate volatility the trend should remain intact for months to come. FD: Long position in Sound Counsel Investment Advisers client portfolios Enjoy this article? Sign up for the ZachStocks Newsletter, Your source for Sound Market Commentary, Growth Stock Analysis and Successful Investment Strategies

Below is a sample of the ZachStocks Newsletter which was sent on December 18th…

Dear Subscribers,

Strength in the US dollar has begun what could be a major market shift.  Up to this point, international stocks and domestic companies with significant international revenue have been the beneficiary of a weak dollar.  But as the economic picture turns “less bad” traders are beginning to price in the probability of a rate hike and the long-term consequences of inflation.  This could cause a major shift away from international exposure at a time when the domestic risks aren’t much better.  It’s unclear exactly where investors will be able to put their capital that offers attractive returns and acceptable risk.  So continue to keep the defense on the field and consider lining up some short ideas for when markets begin to crack.

Below are some of the articles I found most interesting this week:

Zero Hedge: Prepare for the Hyperinflationary Great Depression

While the debate between deflationists and (hyper)inflationists has been a long and painful one, numerous events set off in motion by the Bernanke Fed (as a direct legacy of the Greenspan multi-decade period of cheap and boundless credit) may have well cast America as the unwilling protagonist in the sequel of the failed monetary policy economic experiment better known as Zimbabwe.

Some of the charts showing currency expansion and government debt can be very concerning.  I’m not sure why the US would be any different than numerous other historical cases where printing of fiat currency caused devastation.  While it’s not fun to think about the long-term ramifications of our current policy decisions, I fear that if we can’t learn from history we will be doomed to repeat it.

Sitka Pacific: November Letter to Clients

The US economy has indeed pulled back from the brink this year, as the positive Gross Domestic Product for the third quarter attests.  However, the question now is whether we have truly turned the corner, or whether this rebound has been just a lull in the storm… Unfortunately, the drop-off in mortgage resets seen in 2009 is only a temporary respite… The dollar amount of mortgages scheduled to reset in 2010 and 2011 is going right back up again, until finally dropping off in 2012.  Seen from this perspective, the conditions in 2009 appear to be more like the eye of the hurricane, not the end of it.

As more banks repay the TARP funds, the potential for further mortgage losses looms as an even larger threat.  If these banks which were bailed out by the government and then repaid the loans are forced to once again ask for assistance, you can bet that the public outcry will be fierce.  Many off-balance sheet assets (of the toxic sort) will be required to be put back on balance sheets in 2010 which could cause a weakening of capital ratios and lead to significant weakness.  I hope that these problems will remain contained, but for now I wouldn’t touch most major financial institutions.

Financial Times: Distressed Debt on the wane in US markets

Bonds trading at less than 50 cents on the dollar now account for only 1.1 per cent of the high-yield market, or $8.9bn in securities, down from 27.5 per cent, or $202bn in bonds, a year ago, according to JPMorgan data.  The intense demand for once-distressed bonds is stirring the debate about whether investors are acting wisely or piling into junk bonds because of a lack of opportunities elsewhere in the fixed-income markets.

Investment managers have become so intent on generating returns, that they are once again turning a blind eye to risk.  The quote above may appear to be a positive – after all, more bonds are trading close to their par value – but if the underlying fundamentals continue to be weak, and investors are just paying more for the debt, then we could be grossly mispricing risk.  A positive side to this coin is that small businesses are finding it somewhat easier to issue bonds and raise capital.  But is that really helpful if these bonds go into default in a few years?

WSJ: Spendthrift to Penny Pincher – A Vision of the New Consumer

Their (the consumer) value system is shifting from aspiring to material wealth to aspiring to a life better lived.  Businesses ranging from shoemakers to financial services to luxury hotels don’t expect American consumers to return to their spendthrift ways anytime soon. They see consumers emerging from the punishing downturn with a new mind-set: careful, practical, more socially conscious and embarrassed by flashy shows of wealth.

You can’t live through a decade like we are currently completing without having it affect you in some way.  A return to a grass-roots lifestyle is intuitively refreshing as there is nothing more obnoxious than a wealthy person trying to make sure that everyone knows he is doing well.  But a shift away from luxury goods also has a downside too.  Employees at retailing locations, manufacturing plants, and many other service industries will likely see hours cut and jobs eliminated.  Ultimately, a return to the basics will be good for the country, but in the meantime the pain can be quite difficult.

Sorry to be a Grinch this holiday season.  I truly am not a pessimist and despite the danger I see in the markets, I believe 2010 can be an incredibly profitable period.  We simply need to keep our eyes open and take advantage of the opportunities that present themselves.  This coming year, investors who embrace a conservative approach or who are willing to profit from declining profits will likely see their wealth increase.  But the simple buy and hold crowd will find it difficult to make money, much less outpace inflation.

Wishing you every success,

Zachary Scheidt
Chief Investment Strategist
Sound Counsel Investment Advisers
678-467-7064

Over the next month, the stock began to cool off as is often the case with new issues.  In early December, TLCR breached the all important IPO price of $19, but within two weeks the stock began to mount a recovery.  This is a perfect example of how underwriters and IPO investors can often be counted on to support a new issue very close to the IPO price.  It’s important for the underwriters to have the issues trade above the offering price, because it makes their job easier when peddling the next IPO to investors.  So often for quality IPOs, it is a good strategy to buy additional shares when the stock tests the initial price point.

The business model for Talecris appears to be very sound, as the company is experiencing strong revenue growth and generating impressive strength in earnings.  The company is a world leader in plasma based therapies and has strong command over its niche of the medical business.  One concern could be that the company receives 70% of its revenue from its two main products (Gamunex IVIG and Prolastin A1PI).  I’m not extremely experienced when it comes to the medical industry, but it appears based on market share and revenue trends that the company is very successful in its product lines. The third quarter was a strong period for TLCR with revenue growth of 12.9% and EPS of $0.38 which represents an increase of 72.7% over last year.  It appears that the company has been able to reduce expenses through vertically integrating its supply chain which has led to stronger gross margins.  The IPO transaction allowed the company to pay down a portion of its debt leading to lower interest expense which further helps to bolster earnings.

Our third quarter results reflect the continued demand for Gamunex, our brand of IGIV, as well our success in building a vertically integrated plasma supply chain to ensure a continual supply of Gamunex. ~Lawrence D. Stern, CEO

As far as debt is concerned, the company still has long-term liabilities north of $1 billion.  The liabilities are offset by $630 million in inventory and a healthy balance of accounts receivables, but the high level of debt could still become a concern should there be any unexpected changes in the revenue stream.  While it is still too soon after the IPO, I would not be surprised if the company issued additional equity in the first few quarters of 2010 in order to pay down debt.  This would dilute current shareholders, but would also lead to a more stable capital structure.

Analysts are expecting the company to earn $1.52 per share in 2010 which is probably reasonable given the strong management team, growing revenue base, and cost cutting initiatives.  At the current price near $21, the stock is trading at a multiple of 14 which seems a bit conservative considering the earnings growth.  Some caution is in order due to the debt level, but a multiple of 20 would not be unreasonable.  If we see medical stocks rebound in the aftermath of health care reform (as I expect we will), TLCR could ride the trend and see a much higher multiple.

So at this point it looks like the risk/reward ratio is very good.  $19.00 remains an important level to watch as a breach of this level would cause me to stop out my position.  On the other hand, the stock has the potential to trade through $30 and yield a 40% plus return.  The next six months should be a positive period for TLCR and its investors and I look forward to seeing what kind of growth management can generate.

FD: Author does not have a position in TLCR

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Fortress has seen its stock plummet over the past year as funds that the company managed took on losses while at the same time, investors pulled capital out due to the poor returns. This is the nature of private equity – it can often be a boom and bust business model even though funds are usually structured to be absolute return vehicles. When a fund or family of funds are performing well, the company recognizes very attractive incentive allocations (FIG gets to keep a portion of it’s investor’s profits) and at the same time, new capital comes pouring in.

However, when these funds face a few months of poor performance, investors pull capital out resulting in a smaller pool of capital available to generate gains. At the same time, the poor performance puts the funds below their “high water mark” and that level must be reached again before the fund can charge any incentive fees on investors who are simply making their money back. So even in a rebounding market environment, companies like FIG will see their profitability lag because it takes time to make up past losses on their investments.

But we are likely in the early stages of another boom in the private equity market and for Fortress particularly. There are two factors feeding this new wave of profitability which could quickly lead to a sharply higher stock price. First, the company isseeing new investment capital come in the door. Keep in mind that this capital does not have a high water mark. Gains on these new investments will immediately lead to FIG taking a portion of the returns as their own profit. In the past few months, FIG raised $500 million in a portfolio designed to invest in the Japanese real estate market. Other new fund launches will likely allow the company to substantially increase their Assets Under Management (AUM)

The second factor is that existing funds are nearing their high water marks. So while the funds have been struggling to make up past losses, these assets have basically been adding very little to FIG’s profits. But once the magical high water mark is hit, immediately new gains will tie directly to increased profits. As expectations ramp higher, the stock price will likely get a lift and potentially run several hundred percent higher.

Currently, analysts are expecting FIG to earn 28 cents in 2009 and 45 cents in 2010. This means that the stock is currently trading below 10 times next year’s expected earnings. To be fair, these earnings estimates are not very reliable. It’s extremely difficult to handicap exactly how well the company’s funds will do and what type of incentive allocations will be generated. But I do think that the Wall-Street analysts are excessively conservative given the difficulty we have experienced over the last year.

FIG is not an investment that you should make with your “safe” capital. In many ways, this is a risky bet that could go bust, or could pay off big. If the market experiences another decline (which I think is possible) its likely that the funds will be better prepared to handle the turbulence. But there’s no guarantee that they won’t lose money in the funds resulting in much lower revenue. However, there is a good chance that FIG will have some of its funds make wise investment decisions (short or long) which will yield significant profits and push earnings up significantly. A little confidence could go a long way and if FIG realized a multiple of 20 on earnings of 75 cents we would have a return of roughly 275%.

So consider taking a shot at FIG – buy a few speculative shares and tuck them away for 6 to 12 months. The potential is great and you are only risking roughly $4.20 per share.

FD: Author does not have a position in FIG

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One of the most recent companies to take advantage of the liquidity is Archipelago Learning (ARCL) which was offered to investors at $16.50 on November 20.  The Underwriters (Bank of America / Merrill Lynch and William Blair) did a good job of pricing the deal attractively for investors and developing interest in the company.  On the first day of trading, the stock closed at $18.77, good for an initial gain of 13.75%.  Since that time, the stock has pulled back to just above the IPO price, an important level that  BAC will likely defend.

Looking at the company, Archipelago has built a line of subscription based online educational products which are predominantly sold to the Kindergarten through 12th grade schools.  During the 2008/09 school year, the products were used by 8.9 million students through a relationship with 21,000 different schools in all 50 states.  While the company has already penetrated a very large geographical footprint, management estimates that they only represent 17% of the available schools with 94,000 public and 24,000 private schools as potential clients.

As a growth strategy, the company is not only looking to expand into new schools, but also to increase the revenue within its existing client base.  The products used by high-school students typically carries a higher price point and stronger margins than lower grade products, and there is potential to develop new products which could assist with the company’s existing initiatives to expand into the college and post-graduate markets.

According to the terms of the IPO prospectus, the company sold 3.1 million shares with selling stockholders also selling 3.2 million shares.  As it turned out, another 937,500 shares were sold by the selling shareholders to meet the strong demand for the deal.  The primary selling shareholder was Providence Equity Partners which still retains a 54.9% position in the company.  Over the next several months, investors are likely to worry that Providence will liquidate its position.  But for today, there is a lockup on these shares and so the overhang should not play heavily into the price of the stock. The company indicated that it would use the proceeds from the sale for “general corporate purposes” which means very little to us as investors.  Given management’s desire to grow the company and expand its client base, I would expect much of this capital to be used for marketing and promotional initiatives.  The company has $61 million in debt, so the additional capital could theoretically be used to create more financial stability.

Archipelago is at a critical spot where revenues are just barely covering fixed costs and beginning to provide the company with a profit.  The pro-forma model for the year ended 12/31/2008 shows that the company would have earned 3 cents a share, and with the lower interest expense this year, the company was able to clear 17 cents per share in the first three quarters.  If management is successful at integrating its programs in a wider base of schools, the earnings growth could expand exponentially.

Most IPOs are heavily influenced by the underwriters in the first few weeks of their existence.  It’s important to the underwriters that the deals are profitable to investors because that will allow them to efficiently market the next deal and investors will have confidence in the company’s ability to price the IPOs attractively.  With that in mind, ARCL is now trading just above the $16.50 IPO price and is likely being supported by Bank of America.  This offers us as traders a great risk/reward spot to buy on the expectation that the stock will be bid higher by IPO investors and the underwriters.

If we are wrong and the stock breaks below $16.50, we will quickly sell and realize a small loss.  (I would give the stock 20 or 30 cents below the IPO price but not much more room than that).  On the other hand, the potential for the stock to trade back up to $18.50 or even its high at $19.50 is fairly good.  I would welcome a trade that allows me to risk 50 cents with the potential for a 2 dollar or 3 dollar gain.

One caveat is that there is very little volume in this new issue.  That means it is much easier for large blocks of stock to push around the price – and so we will have to endure more volatility.  If the stock breaks $16.50, it could very quickly continue lower before you exit the stock.  But by the same token, if it is bought by a large institutional investor, there is a good chance the order would push the stock significantly higher.  So consider putting a small amount into this position and maintaining a close stop.

FD: Author does not have a position in ARCL

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This lumpy revenue stream is not without precedent.  In the fourth quarter of 2008, a similar revenue decline took place before shipments resumed and the company recorded a strong first two quarters of 2009.  During quarters where revenue declines, profit margins take a significant hit due to ongoing research and development as well as fixed costs which continue regardless of the number of doses shipped.  The bad news is that this uncertainty causes investors to bail and drive the share price lower.  But the good news is that once the company resumes its strong growth trends, investors will likely be rewarded with a strong rebound in the share price.

Looking at the results of the third quarter, it is obvious that the company is being managed for long-term growth and management is not overly concerned with any one quarter report.  This is encouraging in an age where most investors, management teams, and board of directors micro-manage each quarter at the expense of long-term performance.  The company continues to invest in R&D which will be instrumental in developing new products or improving products already on the market.  For example, the anthrax vaccine was recently improved to handle a longer shelf-life, and the FDA approved the longer expiration date.  As a result, EBS can charge a higher price, enjoy better profit margins, and offer a higher quality product.

During the third quarter, the company added to its cash base and now has $118.8 million in cash and equivalents.  This cash can be used for acquisitions such as additional manufacturing and testing facilities which the company closed on in November, as well as to create new products and market them in a broadening target demographic.

We also continue to make significant investments in our commercial product pipeline, most notably our tuberculosis candidate, which is in a Phase IIb efficacy trial in South Africa. ~ R. Don Elsey, CFO

Most recently the stock price has been hovering between $13 and $15 as investors try to determine whether the third quarter was a change in trend or if earnings growth will return.  Since EBS has a high degree of exclusivity (and management noted that it’s contract with the SNS is scheduled to remain in effect through September 2011), it looks like the revenue base is currently stable.

Analysts are modeling earnings of $0.75 per share next year which puts the stock at a multiple of 20 times expected earnings.  This estimate is likely to be very conservative as it represents a 19% decline from 2009 earnings.  The stable revenue with the SNS as well as potential for new products and new clients should beef earnings higher and likely lead to a higher multiple on the stock.

The company has several projects in place that could result in important new products.  Don Elsey noted the tuberculosis vaccine which could be rolled out in South Africa in the near future, and the anthrax vaccine could eventually be sold to a wider target market as well.  With the high cash balance, EBS could potentially purchase another product line from a competitor and leverage this to its existing client base.

The future is somewhat uncertain, but with the stock price trading at a low level, and potential for growth in place, it makes sense to make initial or add-on purchases to EBS here.  I wouldn’t be surprised to see the stock trading above its recent $20 high in the next few months, and if the company makes a major announcement, EBS could challenge its all-time high of $27.

FD: Author does not have a position in EBS

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The stock is up roughly 8% this week in strong volume, and more importantly, the stock is breaking above the high set in August before the stock began a basing pattern.  The strong volume indicates that institutional investors are likely accumulating positions and the vote of confidence certainly helps as we build our own position in this growth opportunity.

An interesting niche for the company is related to the price of gold.  As commodity (and specifically precious metal) prices increase, FCFS is accepting a significant amount of jewelry from customers who are cashing in on the higher price they can receive.  The weak economy and limited availability of credit has forced consumers to find alternate means of financing.  FCFS has been able to supply that needed liquidity and has seen its stock increase as a result.

Despite its recent price advance, FCFS still appears to be an attractive investment based on valuation.  The company should earn $1.39 per share this year, and will likely grow earnings by 16% to $1.61 per share in 2010.  So the current price of $20.50 indicates that investors are willing to pay a multiple of 12.7 times earnings.  Given the company’s stable financial position, the proven and expected growth, and the strong business model, I wouldn’t be surprised to see this multiple expand to 18 or 20 – which would yield a stock price between $29 and $32.  This represents an increase of roughly 48% and if management guides analysts to expect higher earnings in the years to come, both the expected EPS as well as the multiple could increase substantially.

Investors should pay close attention to regulatory issues which could crimp margins and cause store closings in some US regions.  The industry has come under the regulatory microscope at times because of unfair business practices.  It would behoove the company – and other players in the industry – to adopt a set of universally accepted standards by which the company treats customers (most of whom desperately need financing and will agree to difficult long-term arrangements in order to meet short-term needs).  Collection practices should be carefully monitored and fall within Federal guidelines, and fees and interest arrangements should be fair and equitable.

First Cash has set themselves apart as a reputable company with an international presence.  Their growth prospects appear to be strong, and the market has begun to recognize the value of this solid franchise.  We are holding a position in Sound Counsel client accounts and expect to realize a substantial gain over the next few months.

FD: Author has a long position in the Sound Counsel Aggressive Equity Model.

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AsiaInfo is actually broken into two separate divisions which meet different needs of institutional clients.  The first division is AsiaInfo Technologies which provides software and solutions to voice and data carriers.  The Chinese government recently combined the six major telecom players into three and has implemented measures designed to inspire competition and in turn drive demand for their services.  ASIA stands to benefit from the rapid integration as these three firms consolidate operations and struggle to create an efficient technology framework.

The second division is Lenovo-AsiaInfo which specializes in IT security, antivirus and network protection technologies.  Similar to Mcafee (MFE) or Symantec (SYMC), the division offers subscription based services to protect against malware.  The division has several government contracts which not only provide stable revenue, but also gives the company credibility and helps prove the legitimacy of their products.

But while ASIA has been a strong competitor, there is a new player which will likely issue a US based IPO in the next couple of weeks.  Lincage Technologies is expected to offer shares between $13 and $15 sometime near December 9th.  The ticker, ironically, will be BOSS and the shares will be sold through the underwriting branches of Citigroup and Barclays Capital.  Linkage receives most of its revenue through software development, and the software helps clients properly manage customer accounts, manage network issues, and generate helpful data for future planning.

Unlike many of the technology IPOs in the US over the past decade, Linkage is actually a profitable company with revenue of $66.6 million during the first half of the year and net income of $15.1 million.  Despite hefty competition in the market (including domestic rivals that are not traded on US exchanges), the company appears to be growing rapidly and winning significant contracts from the three major telecom providers.

The IPO transaction is expected to net the company roughly $129 million although this could vary depending on what price is received for the shares.  Linkage will set aside $30 million for research and development and use the remainder for “general corporate purposes.”  It’s encouraging that the company will actually be receiving capital from the transaction instead of the capital going to a private investment firm or directly to previous shareholders.  The additional capital should be able to fund growth and allow the Linkage to compete against rivals in this attractive growth market.

For the time being, ASIA still looks like an attractive investment although possibly a bit pricey.  The company is expected to earn $1.20 per share in 2010 which means that the stock is trading at roughly 20 times forward earnings.  That is a reasonable multiple given the growth assumptions, but does imply a bit of risk as any disappointment would likely cause the stock to drop quite a bit.

Buying BOSS on the IPO could be very profitable but also encompasses a decent amount of risk.  It is too early to tell how the deal is shaping up and whether there is sufficient buying interest to support the share price.  Usually when an IPO begins trading, the first few months are driven much more by perceived value and the supply and demand is centered around how much interest the underwriters are able to generate.  After that time, the stock will settle into a more predictable pattern based on the fundamentals of the company and the opportunities within the sector.

I would be willing to take a small position in BOSS and participate in the IPO unless there is a significant dislocation in the market between now and the actual transaction.  It appears equity markets are shrugging off the Dubai news and liquidity still continues to be strong.  While this can quickly change, under the current environment the prospects for this IPO remain very strong.

FD: Author does not have a position in ASIA

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With gold making new highs, some investors (myself included) fear that a correction could quickly hurt some of the gains that gold traders have accumulated over the past few months.  While I believe the secular trend for higher prices on hard assets will continue, volatility can knock a novice investor out of his position and eventually lead to losses despite this investor understanding the broad macro picture relatively well.

One possible alternative to owning gold today would be to diversify some capital into silver.  While silver has many of the trading characteristics of gold in that it truly is a precious metal and can be a good storage of value, silver is also a commodity that is used in various industrial processes.  Nearly every single ounce of gold that has been mined is now in circulation in the form of artifacts, jewelry, or bullion.  There are precious few actual uses for gold besides just being a precious commodity.

On the other hand, silver is used in soldering materials, in technology applications, for its reflective capabilities, for its anti-bacterial qualities, and is still often part of the X-ray process.  The vast majority of silver mined over the centuries has actually been used up or consumed.  So with shrinking supply and demand potentially building, silver could see its price rise much more than gold on a percentage level.

Skeptical investors may point to the fact that silver is still below it’s historical peak as an indicator that silver will not participate in a secular bull market in precious metals (at least not to the extent that gold will).  But in actuality, the volatility and potential investment gains in silver will likely dwarf the returns in gold.

Consider this…  Using SLV and GLD as proxies (they have very small tracking error to the actual commodities and are easier to buy for most investment accounts), gold has rallied 66% from it’s lows late last year.  However, SLV hit a low of $8.45 in the fourth quarter of 2008 and has since rallied to a current price near $18.40.  This gain of 118% is sharply higher than the gain in Gold, and could be a strong indicator of which metal will likely outperform in coming quarters.

When fighting inflation, it is important to diversify into different asset classes in order to minimize risk.  Gold is a well known vehicle, but silver should be considered an option as well.  Investors should also look at agricultural commodities, and companies who would benefit from increasing agriculture pricing.  Our recent article on Intrepid Potash (IPI) outlined the benefits of this strong fertilizer company.

Current government statistics would have us believe that the risk of  inflation is very low.  However, with interest rates still at emergency levels, government spending out of control, and currency flooding the market, inflation should be an important consideration for long-term investors.  Silver could turn out to be an excellent storage of value and is worth considering for at least a portion of most investor’s portfolios.

FD: Author has a long position in SLV and GLD personally and in the ZachStocks Growth Model

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Sometimes it takes quite a bit of time for a relevant theme to mature.  This year we have been bullish on fertilizer stocks such as Intrepid Potash (IPI) and Potash Corp of Saskatchewan (POT).  The trade has been a bit lonely from June through mid-November as a weak economy has dampened demand for fertilizer products.

In January, the ZachStocks Growth Model took a significant position in IPI based on the assumption that the stock would begin to rally back towards its $32 IPO price as demand picked up for agricultural goods.  On March 6, ZachStocks profiled Intrepid Potash, outlining three options which could help IPI better survive the economic uncertainty.  These conservative strategies included shutting down mines, deferring expenditures and reducing operating levels in order to preserve cash during the challenging period. It now appears that the company has survived the worst of the downturn and  is primed to benefit from any increase in agricultural demand.  Intrepid finished the third quarter with $94.9 million in cash and no outstanding debt.  The average price for selling a ton of potash declined to $458 per short ton compared to $623 last year, but this metric is relatively stable compared to the gyrating prices we were seeing last year.  It’s encouraging to see that the company was able to turn a profit even with lower sales prices and adapt to the changing market.

Management has been very careful to match production with customer demand in order to keep inventories at a reasonable level.  Production for the third quarter was actually down 44% which points to a disciplined approach and will likely lead to industry strength.  As demand picks up, IPI can quickly ramp production levels back up to meet rising demand.  And it appears that demand may be picking up:

The third quarter began to show some signs of a moderate recovery in the domestic potash market.  Although the potash market in the United States remains a just-in-time market, our forward warehousing efforts have provided Intrepid the opportunity to participate in sales that we would have otherwise not realized. ~Bob Jornayvaz, CEO

For the last several quarters, farmers have been reluctant to purchase fertilizer due to economic concerns as well as tight liquidity constraints.  Typical funding sources for crop investments were caught up in the financial market dislocation and the capital simply wasn’t available.  But as capital markets have thawed, the demand from farming institutions is beginning to pick up.  The pent up demand from several quarters of weak fertilization could drive significant sales increases. Agriculture stocks have lain relatively dormant for several months.  As the market has favored risk based investments in order to gun for above normal returns, these stable companies have largely been picked over.  However, it appears that we are in the early stages of a broad move back toward stability and away from risky assets.  If this is the case, agriculture stocks could easily regain popularity and see their earnings multiples increase.

The last two days of trading have seen IPI and POT run sharply higher on massive volume.  This most certainly points to institutions building large positions and will likely set off a significant trend.  Intrepid appears to be a better investment due to its smaller market cap and greater flexibility when it comes to adapting to the environment.  POT has a higher debt level and just appears to have more risk.

As IPI trades up close to the $32 level (which was it’s IPO price from early 2008), it could run into resistance and stall out for a week or two.  But I expect that inflationary pressures, rising demand, and low inventory levels will work together to push this stock significantly higher over the next six months.

FD: Author does have a position in IPI in the ZachStocks Growth Model

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Shares of Wuxi PharmaTech Inc.  (WX) are trading sharply higher this morning after the company announced a strong third quarter.  The company grew revenue by 10% over last year for a total of $70.0 million while adjusted earnings per share grew 32% to $0.24 per share.  More importantly, the company is increasing its guidance for the year which is giving investors confidence in the long-term growth prospects for this innovative company.

Wuxi has built a strong reputation as an offshore research and laboratory service company and its clients include many of the major drug developers in the US.  While the corporation is registered in the Cayman Islands, the majority of its operations are in China where it has built efficient laboratory and manufacturing facilities.  During  the third quarter,the company increased its headcount by 400 in order to ramp up for what is expected to be a strong growth season for the company.

With a strong balance sheet and a positive outlook for worldwide pharmaceutical demand, Wuxi is investing heavily in its future.  The company has ambitious plans to expand into toxicology and large-scale manufacturing which will not only increase the revenue and earnings levels, but will also provide diversification in business lines.  Through September, the company has spent $33.4 million for capital improvements, but is guiding analysts to expect $55 to $60 million for the year.  This means that at a minimum, the company will be spending another $20 million to expand its capacity.

Our confidence in the continued success of our business model leads us to continue to make investments to build our capabilities and capacities…  As a result of these investments, we expect Laboratory Services, toxicology, and large-scale manufacturing each to be major contributors to the company’s growth in revenues and earnings over the next several years. ~Dr. Ge Li, CEO

The financial stability of the company is what allows for this aggressive growth approach.  Currently, the company is sitting on $85 million in cash with another $22 million in short-term investments.  Long-term debt is minimal at roughly $2 million so it is easy to see how the company has the ability to spend another $20 million on increasing its facilities.

Investors have faced a bumpy ride with this technology position.  In mid 2007, the stock was issued to the public at $14. per share and immediately began trading at a premium.  Within three months, the stock had reached $40 as optimism for the prospects of offshore drug development became inflated.  As the global economy downshifted, the stock eventually reached a low of $3.67 as investors worried not only about the end demand for business, but also about the financial solvency for many major Wuxi customers.

Today, the stock is back above the IPO price, and cannot be considered a cheap investment.  Analysts expect the company to earn 65 cents per share this year and 72 cents in 2010.  Those estimates are likely to be revised higher as the earnings announcement is considered and after management concludes the conference call.  However, there appears to be the potential for significant growth in the stock price and I believe Wuxi offers an exceptional opportunity.

As demographic shift and the global population experiences increasing demand for pharmaceutical products, Wuxi’s large-scale manufacturing facilities will likely receive steady business.  The company already has established strong relationships with major drug developers so the manufacturing process would be a natural fit.  US health care reform initiatives will likely cause drug manufacturers to seek more efficiencies in order to cut costs.  Outsourcing many processes to China will likely help facilitate these cost cuts.

So WX is positioned to grow sharply over the coming years and I believe that analyst expectations may not fully account for this increase.  There will certainly be volatility in the shares and I wouldn’t be surprised if the stock came back to test the $14 level again.  But over the next six to 12 months, investors could see the stock cross $25 simply by analysts increasing 2010 expectations to 85 cents and investors using a 30 multiple due to the sharp growth.  So don’t put all your eggs in this basket, but a diversified account could do well to allocate capital to this strong growth opportunity.

FD: Author does not have a position in WX

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Suntech Power Holdings (STP) is trading sharply higher this morning after the company announced that they would be opening a manufacturing facility in Arizona.  The China-based solar panel maker has managed to remain profitable this year despite a difficult environment for solar manufacturers.  The expansion move instilled investor confidence as positive news flow out of the solar sector has begun to spark buying.

Late last week, Yingli Green Energy (YGE) also saw its stock lift after announcing a positive quarter and raising estimates for the coming year.  Management cited an expected improvement in profit margins for 2010 which is a significant change in trend for the company and for the industry as a whole.

In 2007, solar manufacturers bucked the topping trend in the overall market by rallying sharply as demand for solar power began to expand.  Rising oil prices and potential shortages of traditional fossil fuel sources had investors anxious to own a piece of the coming solar power boom.  However, as financial markets collapsed, the entire world entered a significant recession, and traditional energy prices dropped; the allure of solar energy began to decline.

At the same time that demand was declining, advances in technology caused supply to increase exponentially.  The manufacturing process to create and use polysilicon became more cost effective and efficient, leading to an inventory glut and sharply lower end prices.  This caused many solar players who had used excessive leverage to increase manufacturing capacity to struggle.  With profit margins dropping and the cost of capital remaining stubbornly high, many players in the industry had to capitulate.  Stock prices sank, and investors quickly saw significant losses.

Today, the picture is once again beginning to change.  As stimulus programs are in place with a bent towards decreasing our dependence on foreign oil and increasing the portion of renewable energy used, the consumption of solar energy is on the rise.  There are still significant financial, political, and infrastructure issues to be resolved, but the picture is brightening for this industry.

Investors need to carefully weigh their positions in the solar industry because not all solar opportunities are created equal.  Some of the major pitfalls which should be considered include the debt levels of individual companies, long-term contracts with customers or suppliers, and the specific technology used in the manufacturing process.  Nearly every major player in the industry has significant debt.  What varies is the assets backing up that debt and the level of cash flow available to serve that debt.

Yingli has a published debt to equity ratio of 40% which is fairly attractive for the industry.  While the company is expected to post a loss of 22 cents per share this year, analysts expect the increased profit margins to yield 76 cents in profit next year which puts the stock at a multiple of 18 times next year’s earnings.  That multiple looks relatively attractive given the company’s increasing fundamental prospects and the traction we are seeing in the industry.

Suntech has a much higher debt load, listed at 92%, but should manage to post a small profit this year.  The company will need to arrange financing for its Arizona plant which may increase the risk for the company to a small extent.  However, the market appears more confident in STP’s ability to generate profit growth as the stock is trading at 27 times 2010 expectations.

The solar industry could offer significant gains for 2010 but volatility will likely be high.  Aggressive investors may choose to ride out the swings and look for long-term gains.  Another more conservative approach would be to buy positions in individual solar names and then sell calls against those positions.  The calls will cap total gains available to investors, but will also serve to generate a “synthetic dividend” offering cash flow and a reduction in risk.  The premium on these options are relatively attractive depending on which issue you are considering.  Risk control is still the most important consideration, but there remains some attractive opportunities in play.

FD: Author has a long YGE position in the ZachStocks Growth Model

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Shares of AECOM Technology Corp. (ACM) are sharply higher this week after the infrastructure company issued the fourth quarter earnings announcement.  Since the company operates with a September year end, 2009 is now in the books and it has been a decent year.  For the fourth quarter, the company earned $0.48 per share which beats the street expectations which were at 46 cents.  The earnings represent a 20% increase in profit versus last year, and for 2009 in total, the company grew earnings by 19%.

Part of the strength of this company is the fact that AECOM receives a significant portion of their revenue from overseas.  With the dollar in a pronounced downtrend against most major currencies, this means that sales paid in Euros, Yen or other currencies are translated back to reflect higher dollar levels.  So international trade is not only helpful as far as diversifying between regions, but has also been helpful from a foreign exchange perspective.

The quarter was characterized by significant contract wins which will set the company up for success in the coming years.  A strong backlog of work is important for firms like AECOM which must complete some individual customer projects over the course of several years.  As existing projects near completion and are converted into revenue, the sales team must work hard to line up new contracts in order to remain stable.

During the quarter, we won over $1.8 billion in new projects, highlighted by several mega projects.  These wins, coupled with three recently announced acquisitions, make AECOM well positioned for continued success. ~John M. Dionisio, CEO

Total project backlog was listed at $9.5 billion at the end of September which represents a 10% increase over the past year.  That’s enough work to keep the company busy for another 18 months at the current rate of quarterly revenue.  The backlog is a record for the company and points to both the skill of the company in landing new projects and the strength of the industry as opportunities become available.

Has gold topped out for the year? (video)

While AECOM continues to operate on a global basis, management is expecting the US to play a major role in the profitability of the company over the coming two years.  During the conference call, management noted that US stimulus funds have begun finding their way to specific projects.  2010 and 2011 will be important periods for these projects and US stimulus should be a significant growth driver for ACM.

Management issued guidance for 2010, with earnings expected to fall between $1.90 and $2.00 per share.  While this is a touch below analyst expectations, there is a good chance that management is being overly cautious with its guidance in order to set the company up to exceed expectations.  The growth in backlog coupled with stimulus spending should allow the company to easily exceed this target.

After the announcement, the stock traded up to a level near $27.  The price level represents a multiple of 13.5 times management guidance for 2010 profits.  This is a conservative price considering the growth of the company, the stability of the business, and the strength of its balance sheet.  AECOM has acquired several attractive companies this past year which will add to earnings and allow the firm to reach a broader client base.  In short, it looks like the stock has much farther to run and I would encourage investors to continue to build positions in this solid infrastructure company.

FD: Author has a long position in the ZachStocks Growth Model

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