BOOM Analysis by Tuff

My good friend Tuff has provided some articles for the blog before (here and here) highlighting fundamentals for certain stocks. I think articles like this can be very helpful for longer term traders and investors, and Tuff is the best I know at digging through financials and balance sheets to figure out a business. This post is on Dynamic Materials, and he knows this company about as well as an analyst. This is also a good post because it delves into the emotions tugging at traders and investors alike, and examines the decisions we ultimately make. Let me know if you like these types of articles and I will pester Tuff to provide more of these.


Dynamic Materials Corporation (Public, NASDAQ:BOOM)
by Tuff


Pigs get slaughtered…pigs get slaughtered….pigs get slaughtered.

In January of 2006, I sat at my computer with my finger on the trigger. Ticker Symbol…BOOM; Shares….All; Order Type….Limit; Price…..$34.89. My first ten bagger was about to go on the auction block. A battle of greed and fear raged in the back of my mind and I could hear a little voice whispering…pigs get slaughtered…pigs get slaughtered….pigs get slaughtered. I rolled my mouse over the Submit button but couldn’t find the strength to click. I stepped away from my computer, took a few deep breaths and tried again. Once again, I could not muster the strength to part with my shares. Did I commit the cardinal sin of investing by falling in love with a stock? I once dated a co-worker but this is seemingly worse.

Okay…so maybe I am being just a little dramatic. Nonetheless, I always like to take a little extra time in the New Year to evaluate my holdings. This past January, I paid extra attention to one stock in particular…Dynamic Materials Corporation a.k.a BOOM.

In early 2006, there were a number of short-term reasons for me to consider selling BOOM. The share price had a massive run-up in late 2004 and most of 2005 leaving it ripe for some consolidation. Furthermore, the strong financial results in 2005 were going to make for increasingly tough comparisons. While two major expansion projects were announced in 2005, they would not be complete until 2007. Thus, I had obvious concerns near-term about capacity utilization. The company’s AMK division announced a significant supply agreement with GE in late 2005 but timing on the ramp-up of the program was speculative at best. Despite these short-term concerns, I held my shares because I didn’t want to pay taxes on my gains when I was confident about the direction of the company and the long-term prospects.

As I look back on 2006, I am sure I made the right decision. In the first 3 quarters of 2006, revenues are up 46%, earnings are up 128%, and backlog is up 63%. On the balance sheet, cash is up $11.5 million to $19.2 million from $7.7 million at the end of 2005. Substantially all of the long-term debt has been paid-off. The company is funding its capital expansion projects from operational cash flow and there has been little to no dilution to shareholders.

So far 2006 has not been without its fair share of surprises. On April 27, 2006, BOOM reported record revenue, margins, earnings and backlog for Q1 2006. At the same time management had the following comment:

"First quarter financial results were positively impacted by deliveries on two large contracts. Our gross margin performance, in particular, benefited from shipments under these orders and an otherwise favorable product mix. Our sales, net earnings and gross margins are likely to continue to fluctuate from quarter-to-quarter and, in light of the record results posted in the first quarter of 2006, we expect that our sales, net earnings and gross margins for the second quarter may be somewhat lower than they were in the first quarter."

On top of management’s conservative comments, the company announced that its largest shareholder, SNPE, would sell all of its 5.1 million shares in a public offering. As I mentioned in a prior post, SNPE’s decision to sell its shares was not based on its expectations for BOOM but more of a move to improve its own balance sheet and focus on its core business. Despite the strength of the first quarter, the conservative comments from management, uncertainty over the SNPE transaction and overall market weakness sent shares tumbling from a high of $43.20 to a low of $25.05 in just a few weeks.

*Note – The SNPE transaction was non-dilutive because shares were already outstanding and the long-term impact of SNPE’s departure should be considered favorable for BOOM… but that is for another post.

On May 24, 2006, BOOM announced its largest single contract to date of $11 million for work related to a refinery in Eastern Europe. The order will ship in the fourth quarter of 2007.

On August 3, 2006, BOOM once again reported record revenue, margins, earnings and backlog for Q2 2006. Maybe I was hearing things but I thought management expressed some concerns in the first quarter earnings release about the second quarter. Once again the record results from the second quarter were tainted by conservative comments made by management regarding the third quarter..

"Second quarter sales were better than anticipated due in part to early fulfillment of certain orders originally scheduled for delivery in the third quarter. Our current expectations are that our top- and bottom-line performance during the second half of 2006 will be comparable to our results during the first half of the year. Although sales and gross margin during the third quarter may be below results reported in the first and second quarters, our fourth quarter performance should be strong thanks in part to our expected deliveries on the $11 million refinery order we received during the second quarter."

While BOOM’s share price showed some strength after the record quarter, management’s comments seemingly capped gains and it wasn’t long before BOOM was trading at levels prior to results.

On September 12, 2006, the company announced its second largest contract of $8.7 for work on a nickel processing plant in Madagascar. The order is scheduled for shipment in the first half of 2007.

On November 1, 2006 BOOM announced third quarter earnings. Results were reflective of management’s comments from the second quarter press release and slightly below analyst expectations. While results were lower than the last two quarters, it was still the third strongest quarter in company history behind the first and second quarter of 2006. Furthermore, the backlog increased 30% sequentially and 100% year-over-year. Order bookings in the quarter were an all time record. The increase in backlog was the greatest increase in terms of both percent and dollars going back to at least June of 2004. It may be an all time record increase but I only have backlog history back to June of 2004.

Having listened to the third quarter conference call and reading the press release, there are a few things worth noting:

First, an equipment breakdown at one of BOOM’s key suppliers impacted BOOM’s supply chain earlier in the year. While BOOM was able to work around the problem in the second quarter, it had a noticeable impact on the third quarter. This issue with the supplier was the primary driver behind management’s conservative comments in the prior two quarters. The equipment issue with BOOM’s supplier has been resolved.

Second, management stood by their comment from the second quarter that the second half of the year would be as strong as the first half of the year. In light of the lower results in the third quarter, management expectations suggest that the final quarter of the year will be a record quarter, surpassing the strong results in the first and second quarter.

Third, the backlog is being filled by all types of orders, large and small, across a broad range of industry groups. Management is confident that the level of bookings will continue to improve and this expectation was the primary driver behind the company’s decision to undergo two major expansion projects. Overall management is clearly optimistic about its future and is planning accordingly.

Fourth, management admitted that the ramp-up of work related to the GE supply agreement was a little slower than expected but that the level of activity at the end of the quarter was noticeably higher but still not 100%.

Fifth, management confirmed that the expansion projects are running on schedule. Furthermore, management confirmed that the Mt. Braddock expansion project, while primarily a capacity expansion, would include a product expansion. It was not mentioned on the call but the new product is a thinner line of clad, 3/16th of an inch. The type of industries, applications and processes being targeted with this new product line remains to be seen.

So here I am….YTD revenue and earnings are up 46% and 128%, respectively…the balance sheet is stronger than ever…backlog is growing at the fastest pace since at least early 2004…contract bookings reached record levels in the most recent quarter and management’s “Hot List” is as robust as ever…two major orders are expected to ship in the next three quarters… announced contracts are growing in size…management has increased capacity throughout the year and the two major expansion projects are nearing completion...AMK/GE production activity is increasing…Despite all of the above, BOOM shares are still trading at the same level as it was on the first day of the year….and, I am still holding my shares.

So I have to ask…Am I being a pig holding onto my position as I watch the price move substantially nowhere? I say no way. My decision to hold tight has nothing to do with greed and nothing to do with fear. My decision is based on cold, hard facts. Facts that I have uncovered from reading and evaluating the financial statements, listening to conference calls, calling investor relations, examining competitors, understanding customers, monitoring market activity, and educating myself as much as possible about everything possibly relevant to the company. Based on these facts, I am confident that holding my shares was and remains to be the right decision.

Good luck,

Tuff