Published: Aug 22, 2024
By: Ben Stadelmann
Conventional wisdom has it that investors should look for companies with consistent profitability and growing revenue. No doubt, that is a potent combination, but the difficulty is that such enterprises are seldom cheap, so they require a “buy high, sell higher” approach.
Oscar Wilde famously quipped that “consistency is the last refuge of the unimaginative.” At the Contra the Heard Investment Newsletter, we search for lesser-known companies who are off their form. It is the swing of corporate fortunes which fuels our “buy low, sell high” philosophy and has enabled us to beat the market by a healthy margin over the long haul.
One small medical and cosmetic products company that Ben has followed closely for several years is Hauppauge, N.Y.-based United Guardian ( UG-Q +2.86%increase ). UG has been around since 1942, first making industrial products before shifting to medical lubricants with the introduction of Lubrajel in the 1970s, shortly after its IPO.
The company has a remarkable history of profitability, but the magnitude has waxed and waned from an EPS high of US$1.04 in 2019 to 56 US cents in both 2022 and 2023. The dividend has been even more erratic, fluctuating from a generous $1.42 in 2017 to a thin dime last year. Talk about feast or famine!
There are several reasons for UG’s lumpy earnings and dividends. A large proportion of product is sold through partners who distribute to the end users. The tendency is for these distributors to stock up on inventory and then reorder irregularly because of poor visibility for demand in its niche end markets.
Manufacturing of some products is subcontracted to other companies. That has led to shortages of Renacidin, a specialized product to decalcify catheters made by healthcare products maker Amsino, which had to shut down a facility for maintenance. The product is a key item in UG’s portfolio, has no competing generics, and is responsible for about a third of top-line revenue.
UG has a lovely balance sheet. Not only does it have no debt, but it has a considerable rainy-day fund that is invested in various securities. Warren Buffett has long grumbled about how GAAP market-to-market rules – the generally accepted accounting principals businesses are required to follow – on such assets obscure a corporation’s true earnings power. It is a rather nice problem to have, but it does increase bottom-line volatility.
Ben bought the stock in 2021 at an average US$14.06 and spun it out less than a year later at US$24.42. Then came a downdraft, and he has accumulated an even larger position at an average of US$10.03. The target is again in the US$24 zone, a bit better than double the current price.
For about 80 years, UG was led by only two people. First, by founder Dr. Alfred R. Globus, then by his nephew, Ken Globus. When CEO Ken was ready to retire, the company was put up for sale. Unfortunately, no buyer came knocking, or at least not at an acceptable price for such a venerable cash cow, so the board finally went outside the family with the hiring of Beatriz Blanco. She didn’t last long, though, resigning just eight months later; apparently, it is difficult for an outsider to fit in at UG. Long-time manager Donna Vigilante is now the president, steering the course.
Recently released results for the first half of 2024 highlighted a recovery of revenue and profitability from last year. Cosmetic ingredients were the bright spot, vaulting 115 per cent higher, while medical lubricants showed a respectable 9-per-cent gain. The fly in the ointment was a 13-per-cent drop in pharmaceuticals, owing to the aforementioned problems with Renacidin. Earnings per share moved up to 41 US cents from 26 US cents and a dividend of 35 US cents was declared last month.
One risk to contemplate is a possible victory by U.S. presidential candidate Donald Trump in the November election and a renewal of the trade war with China. Although on the face of it, most of UG’s sales are domestic, a lot of product is eventually sold in China by partner Ashland (ASH-NYSE), a specialty ingredients manufacturer. If Mr. Trump pushes through higher tariffs, China will retaliate, and that could hurt.
Essentially, the thesis here is that at some point, United General’s business lines will be firing again on all cylinders. When that happens, their historically high margins will kick in and the company will make bags of money, which will be dutifully directed towards shareholders. For investors willing to accept the risk, big lumps in earnings can be far more palatable than the ones in mashed potatoes!
Benj Gallander and Ben Stadelmann are co-editors of Contra the Heard Investment Letter