Bonal International: Boring Products and Amazing Margins – BONL

Bonal International is a tiny Michigan-based manufacturing company that dominates its niche. Bonal creates products that use”Meta-Lax Vibration Stress Relief Technology” to reduce internal stresses and extend the life of metal components. According to Bonal’s website, the vibration treatment provides 80-90% of the benefits of traditional heat treatment, but saves 65-95% of the time and expense of heat treatments. The company boasts an impressive list of customers including Northrop Grumman, Boeing, the US Army and Navy and more.

62% of Bonal’s shares outstanding are owned by the Hebel Family or a trust for the benefit of the CEO, A George Hebel III. The Hebels recently attempted to sell the company, but the offer was insultingly low and shareholders rejected it. At 70 years of age, it seems Mr. Hebel is looking to sell the company and provide liquidity for himself and his family members. Perhaps an improved offer will forthcoming? Regardless, Bonal’s valuation and market position make it an intriguing company and possibly an attractive investment.

First, a look at recent results. Dollar amounts are in millions.

BONL results

Aside from tough years like 2008 and 2009, Bonal produces consistent profits and free cash flow. That’s great, but the truly astounding statistic is Bonal’s gross margin. In the five trailing full fiscal years, Bonal averaged a 76.2% gross margin. That’s practically unheard of! By comparison, Apple’s gross margin this year was 38.6%. Tiffany & Co.’s was 59.0% and Coach’s was 72.1%. Bonal’s products retail for more in comparison to production costs than stylish computers or designer jewelry and handbags.

The fact that Bonal’s customers will pay such a markup really says something about their faith in the products. It also indicates the Bonal faces practically no competition and does not have to compete on price. But will these margins endure? Who’s to say another company will not roll out a competing product that costs 30% less and destroy Bonal’s margins? It’s unlikely, and the reason is simple. The market for Bonal’s products is not growing. Sales over the last twelve months were up from fiscal 2012, but are still slightly lower than 2008’s figures. Given the limited size of the market, it’s probably not worth the trouble for another company to invest in a new product line in order to capture not even $2 million in gross margin. Bonal is likely to hum along for years to come earning excess these incredible margins, but unable to increase gross profit significantly in dollar terms.

Another notable line item is Bonal’s capital expenditures, which are absurdly low. In fiscal 2012, Bonal spent only 0.3 cents per dollar of revenue on capital expenditures. This has been the pattern for several years, resulting in lower and lower book value for the company’s property and equipment. As of the third quarter of fiscal 2013, Bonal showed only a net $48,609 in property and equipment versus a cost basis of $389,964. Bonal’s fixed assets are 88% depreciated, yet production continues. The extent of this book value depreciation is probably exaggerated, yet it seems Bonal will eventually have to shell out for new machinery. Free cash flow has averaged 11% of sales since 2008, but will be pressured if Bonal’s capital expenditures increase in coming years.

Onward to the balance sheet. Bonal’s assets total just $1.77 million, $1.48 of which is equity. The company holds just under $1 million in cash and near-cash investments and carries no debt. Liquidity is excellent, with total liabilities at just 17% of current assets. Bonal has long carried large cash reserves and eschewed debt, resulting in a balance sheet that is as pristine as they come. Despite the large amount of excess capital on the balance sheet, Bonal still produces great returns on equity, averaging 22% since 2008.

The market gives Bonal little credit for its excess cash or high returns on assets. As of the close of trading on March 20, Bonal’s market cap is $2.40 million. Trailing P/E is 6.5 and price to book value is 1.6. Assuming half the company’s cash is excess, an acquirer at the current price is paying just 5.2 times earnings for a highly profitable operator.

Bonal’s biggest challenge is its limited opportunities for reinvestment in the business. Rather than engage in poorly-planned investments or mergers, Bonal has an excellent record of returning cash to shareholders through dividends. Since fiscal 2006, Bonal has paid out over half its market capitalization in dividends, 30 cents per share in 2012 alone.

As a niche operator with excellent margins and an aging CEO and founding family, Bonal would make a great acquisition for a smaller manufacturing company or even a wealthy individual. Bonal’s consistent free cash flows could be harvested for reinvestment in other productive businesses. Whether or not an acquisition happens in the near future, investors will benefit from Bonal’s continued profitability and dividend habit.

 

Disclosure: I hold shares in Bonal International.

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18 Responses to Bonal International: Boring Products and Amazing Margins – BONL

  1. Don says:

    Great idea. A few questions…
    Do you know why the merger offer was significantly lower than the market value before the announcement? Don’t you find it strange that such an offer was accepted by the board….

    Also, what do you think about Paul Y. Hebel resigning from the board of directors, and Thomas E. Hebel being relieved from his duties as acting Interim President?

    • otcadventures says:

      I am afraid I have little insight on the failed proposal. The would-be acquirer originally extended the purchase offer only to insiders. An outside shareholder pointed out the gross unfairness of that maneuver and the proposal was ultimately extended to the whole company. It was a ridiculously poor offer and I was shocked to see management accept it. Perhaps the acquirer is a friend of management? Unfortunately, you will see shady deals like that go down from time to time in nano-cap/unlisted land. I was encouraged that enough shareholders were paying attention to put the awful deal to rest.

      Can’t offer any insight on the management moves.

      • Don says:

        With 60% of the shares outstanding owned by the family, how wasn’t the deal executed. Is it not so that only the majority of shareholders need to approve such a merger?

        • Value Act says:

          My guess is either someone in the family would not go along or they got advice from counsel that they would get sued. Either way, hard to believe it went this far. Apparently a $100k break up fee must be paid as well. Not a good decision to go down the road at that price.

  2. John says:

    Interesting little company. Good find.

    This has the ADVC vibe: small niche, owner operator, OTC, high ROE, paying dividends…

  3. Pat says:

    Companies like these tend to do very little in the way of spending on Cap X. Generally, they will spend on maintaining older equipment and keep it going for years, assuming they have some “get r done” types in the manufacturing area. Also, last quarter looked pretty good. Can’t believe they were going to sell at $.86. That’s like about 2x free cash flow. Someone needs to hold their feet to the fire and get a fairness opinion (hired by shareholders) if they try this crap again.

  4. I ran a small manufacturing company for several years… When it came to capital investments I always chose to fix old equipment instead of buying new — the reason is that you can expense a lot of costs as “repairs” instantly where as new equipment has to be depreciated over time … Also I know some companies (especially if they are profitable) that choose to build their own equiment (from scratch) in house instead of purchasing new equipment, for the same reason …..

  5. If a company has been building and repairing equipment in house for a number of years you could get a situation where equipment book value is greatly understated … Bonal Int. may be that type of company — would be worth looking into…

    • Value Act says:

      You are right. I think the value in this company though is the ability to generate consistent cash flow as opposed to assets. Customer keep coming back and obviously like the product. I am trying to come up with a scenario where a stock buy back doesn’t make sense. Current free cash flow yield is about 30% so I don’t understand why they don’t do this and owners could get some liquidity without selling for peanuts.

      • I agree, cash flow is the bottom line… However, the equipment review would help me evaluate this company as a red or green light for a couple of reasons…
        -if equipment is way underpriced you get a down side buffer …
        -often the equipment could shed some light on the competitive moat that this company has (is the equipment (and or manufacturing process) proprietary )… If the equipment and manufacturing process is complicated, or difficult to replicate, that would be a plus…
        -a company with a nice manufacturing facility would be more attractive as a buy out (even if their patented technology is coming off patent soon)…
        -lastly, a factory tour will likely tell you immediately if the company is a fraud or at the least give you valuable insight into the inner workings and thinkings, of the operators..
        When I ran a manufacturing company we often had competitors agents posing as “lost truck drivers” caught wondering around our facility…

        • otcadventures says:

          Thanks for your input. You obviously have a good deal of experience with these small manufacturing firms!

  6. Don says:

    The alternative to Meta-Lax treatment is heat treatment stress relief. A key competitive advantage for using Meta-Lax treatment over heat treatment is the cost savings. Heat treatment requires lots of natural gas to heat up the furnace. With the discover of natural gas in the Midwest, there is a possibility that end-users of Met-Lax treatment revert to heat treatment due to cost savings. End-users who use thermal stress relief (TSR) will also be more resistant to switch from their current practice to Met-Lax treatment if TSR price’s decreases. (Vibratory stress relief (VSR), despite being put to good use in many different industries world-wide for several decades, is still often regarded with distrust born out of ignorance of it capabilities and limitations. – http://www.twi.co.uk/) Finally, VSR is more complicated than just plugin the machine in and hooking it up to the metal that needs relief… Training on how to use the product is needed (switching costs).

    “The cost of thermal stress relief (TSR) is approximately proportional to a metal component’s weight or overall size, estimated to be $ 2500 USD for the structure pictured, plus transportation costs, which might involve special transport permits, to and from a furnace. VSR Treatment would cost a company owning appropriate equipment less than 15% as much ( ≈ $ 400 ) as TSR Treatment, chiefly amortization of equipment investment plus labor, and a modest amount of electrical consumption, and treatment would take less than two hours, with no transport required.”

    http://en.wikipedia.org/wiki/Vibratory_stress_relief

    • otcadventures says:

      Thanks for providing some additional info on the competing processes. Very helpful. Your points on energy expense and switching costs provide more reason to believe Bonal’s market is very limited. However, third quarter revenues did hit a record, so they are doing something right.

  7. Jonas says:

    Great post!
    At the company website they state that the process is patented. Does anyone have more information on this patent, i.e. does it provide a moat to competitor entries and for how long?

  8. Kevin Naylor says:

    What brokerage did you use to buy BONL?Always appreciate your insight and help.

    • otcadventures says:

      I don’t actually own Bonal, but you ought to be able to trade shares using practically any discount broker.

  9. DTEJD1997 says:

    Hey all:

    Traded in & out of this today! Sold out at $4.50/share….

    Last couple of days there has been unusually heavy volume. No news that I can find.

    Price backed off late in the day. Might get back in….What a wild, profitable ride!

    • otcadventures says:

      Way to play it! I admit I haven’t followed this one in quite some time. I was turned off when management tried to steal it.

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