Check out my last post on SPAN’s 2nd Quarter Earnings.

After announcing a sizable special dividend last quarter (and an overall bullish report), Span-America Systems, Inc (SPAN) followed by reporting fiscal 3rd quarter results last week.

After an initial glance at the financials, it was a tough quarter and the price took a corresponding dive. Despite the quarterly volatility, the stock remains significantly undervalued.

Q3 Results

Quarterly revenue and earnings dropped 8% and 17% respectively, as the company reported lower sales volume across each business segment.

The majority of the decline occurred in the consumer sales division (down 19% and part of the custom product segment), due to a market test program last year that was halted for 2010.

Without the effects of the test program, the division would have actually reported a sales increase.

Quarterly Cost Fluctuations

Although the company has done a great job of streamlining its manufacturing process to control and trim costs, quarterly earnings can still be affected by unavoidable changes in administrative expenses.

Example:

As of April 3, SPAN owned a $1.9m life insurance policy for its founder and former chairman. This policy is invested in mutual funds and fixed income contracts, and therefore exposed to fluctuations in equity markets and interest rates.

According to the company,

“The cash value decreased by $71,000 in the third quarter this year compared with a $68,000 increase in the third quarter last year. The $139,000 swing in cash value was the primary factor in administrative expenses rising 16% compared with the prior year’s third quarter.

Excluding the effect of the changes in cash value for both quarters, administrative expenses would have declined by 2% in the third quarter”

As with all stock investments, these short-term fluctuations can impact the stock price on a given day or quarter, but longer-term (where value investors focus), the business fundamentals and intrinsic value should win out.

YTD Financials

Despite the rough quarter, net income for the year was up 8% to $3.3m as the company continues to focus on controlling costs.

Going into the fourth quarter (usually the company’s strongest) SPAN is still on-track to produce its best FCF and earnings year in history.

Capital Goods vs. Consumables

The company’s product mix includes a mixture of capital goods (such as therapeutic support surfaces) and consumables.

As in most recessions, the recent economic downturn has forced many businesses to delay investments in capital equipment.

These delays have affected SPAN’s quarterly numbers, but longer-term, this scenario should lead to pent-up demand as the economy turns around.

“We believe this is due to economic pressures facing our customers over the short-term and should result in higher future demand as customers eventually replace and upgrade therapeutic support surfaces in their facilities.”

Investing in the Future

The company continues to invest in expanding its product line, with several new products rolling out in the fourth quarter.

I’m particularly interested in SPAN’s new high-end therapeutic support surface for the acute care industry, as this market reported significant growth across a number of product lines in the third quarter.

Outlook

Management has managed to control costs nicely, and seems to have positioned the company for a strong end to the year.

According to Jim Ferguson, SPAN’s CEO:

“We expect to report improved operating results in the fourth quarter compared with the third quarter. Our fourth quarter usually outperforms the first three quarters based on seasonal sales trends. We believe our consumer sales will grow due to a new program with a large retailer, and our industrial business should benefit from the expanding manufacturing activity in our region.

Q4 should be a big quarter for SPAN.  Mid to long-term investors should be rewarded as SPAN’s stock price rises to meet its intrinsic value.

Disclosure

Long SPAN

After dropping 5.25% during the month of June, the S&P came back to gain 7.31% in July. The ValueUncovered portfolio turned out a positive month as well, although it did lag the broader market.

YTD Performance

Earnings Roundup

July was a popular month for quarterly earnings, as several stocks reported results.

Iteris (ITI) reported solid earnings, with net income increasing 450% from the prior year quarter. Although Acme United (ACU) also reported a positive increase in profits, the jump was due largely to a one-time tax gain from 2009.

Both remain more than 30% below my estimate of intrinsic value.

Special Situations

The biggest worry in the current portfolio is the negative developments surrounding the EMMS going private transaction. While the recent judicial verdict was positive news, the deal remains on shaky footing, and the stock has dropped almost 10% over the past month.

EMMS’s CEO, Jeff Smulyan, needs to quickly come up with an agreement with the preferred shareholder group, as continued delays will lead to nervous financial backers and the deal potentially falling apart all together.

I will be monitoring the situation very closely.

2010 2nd Half Outlook

I’ve continued to screen for businesses selling at a discount to intrinsic value, but haven’t found many attractive opportunities.

I’m content to wait for the market to turn around, and will be aggressively pursuing special situations investments to round out the portfolio.

Disclosure

Long ITI, ACU, EMMS

Acme United Corp (ACU), a supplier of cutting, measuring and safety products, reported 2nd quarter results this week. ACU is another small undervalued stock in a boring business line that has been overlooked by the market.

The stock was hit hard during the recession, and is slowly starting to regain its 2006-2008 levels.

Sales Analysis

For the 2nd quarter, ACU reported $20.2m in revenues, a 7% increase from the prior year, and the second highest revenue quarter in company history.

Growth was driven by the company’s European segment, as sales increased 64% vs. a 1% increase in the domestic market.

Impressive growth? Sure…

But European sales accounted for only 12% of total revenue last year and didn’t record a profit.

Turning in a profitable year for the European segment could be one key to to the company’s growth going forward, especially if U.S. sales continue to lag.

Adjusted Earnings

Net income jumped 17% from the year ago quarter, but this increase was driven largely by a tax benefit related to a land donation transaction back in Dec 2009.

Adjusting for the lower tax rate, net income dropped 10% for the quarter.

Management

Despite the business struggles, management continues to deliver value to shareholders in other ways.

The company has increased the cash dividend for five straight years, and paid a dividend going back to 1990. The stock currently yields 2%.

The company is also aggressively buying back shares – 241k in the past twelve months (7.1% of outstanding). Another 83,376 shares are still available under the current repurchase program.

Valuation

My original analysis of ACU back in January assigned a value of $17-$19, but the business has not bounced back as quickly as I hoped.

Even with conservative assumptions, the company is still trading at a substantial discount to intrinsic value:

I’m revising my estimate of intrinsic value to $14-$16.

Conclusions

Since U.S. sales make up the vast majority of revenue, ACU’s future outlook is heavily dependent on the domestic economy.

Historically, the 2nd and 3rd quarter are the most profitable for ACU’s business, so the next earnings release will be good barometer for my future decisions with this stock.

Disclosure

Long ACU