McRae Industries (MRINA)

• A nanocap equity (Definition: a market cap below $50 million). 
• A pink sheet stock that deregistered from SEC reporting back in 2005. 
• A dual class structure controlled (presumably) by the founding family. 
• Management that has yet to respond to information inquiries. 

Now that I’ve made sure no one is still reading this post, we can get started.

McRae Industries (MRINA) is a small North Carolina company that manufactures boots – western (cowboy) boots, work boots, and military boots. It sells its products under the Dan Post, Laredo, Dingo, John Deere, Johnny Popper, and McRae name brands. Annual sales over the last 5 years have averaged just shy of $70 million.

Now the above listed bullet points probably should have scared me off (and still might), but one overriding point peaked my interest – MRINA is one of those rare net-net stocks.  Even more uncommon these days, it is a profitable net-net.

As of October 29, 2011 MRINA reported liquid current assets (cash, accounts receivable, and inventory) of $42.416 million. This compares with total liabilities of $6.216 million for net current assets of $36.2 million. With total shares outstanding (A & B class) of 2.467 million, we get a net current asset value of $14.67. Closing price today (1/24/12) was $12.80 for a net current value upside of ~15%.

Over the past 5 years, MRINA has posted EPS numbers of (fiscal year ends last week of July):

Year	EPS
2007	$1.75
2008	$2.27
2009	$0.11
2010	$1.47
2011	$1.84

This equates to 5 year average EPS of $1.49. Keep in mind that this period includes one of the worst economic downturns since the Great Depression and saw only the second operating loss McRae in over 25 years (2009 reported an operating loss despite adjustments keeping EPS positive). On a price-to-earnings basis, this is a current P/E ratio of 8.6x, and earnings yield of 11.6%, and a Return-on-Equity of 7.6%. 

Cash Conversion	Jul-11	Jul-10	Aug-09	Aug-08	Jul-07
Reported Net Income	$3,829	$2,952	($514)	$5,041	$3,818
Cash From Operations	$2,234	$770	($1,075)	$5,420	$2,470
CFO/NI Conversion	58.3%	26.1%	n/a	107.5%	64.7%
Free Cash Flow
CFO - CapEx.	$1,412	$401	($3,131)	$5,232	$2,048
Net Income + Depr./Amm. - CapEx.	$3,636	$3,151	($2,006)	$5,338	$3,971
Free-Cash-Flow Yield
Shares Outstanding:	2,467
Current Price:	$12.80
Market Cap	$31,578
FCF Yield	CFO - CapEx		NI + D/A - CapEx
1 Year Avg. FCF	4.5%		11.5%
3 Year Avg. FCF	-1.4%		5.0%
5 Year Avg. FCF	3.8%		8.9%

(*all values in $,000’s unless otherwise noted)

One concerning item, however, is free-cash-flow (FCF). If we look at the statement of cash flows, MRINA’s Cash From Operations (CFO) has been substantially less than Net Income in 4 of the last 5 years. Depending on how you think of FCF, this may be a manageable risk since most of the drag on CFO has been additional working capital requirements. Does MRINA require additional working capital to maintain its competitive position and unit volume, or is this just balance sheet rebuilding after major inventory liquidation in 2009? Is the inventory build mainly in the military business, which MRINA cites in its 2011 annual report as “highly competitive as a result of troop draw-downs in Iraq and Afghanistan and the U.S. Government’s excess inventory of several styles of combat boots”?   Before I get a comfort level with MRINA more clarity on inventory will be an area of focus.

Still, I remain intrigued with this company. An 8.6x 5yr average price-to-earnings ratio, a 2.8% dividend yield, an invested and controlling family, and best of all – trading firmly in net-net territory. A few questions for management:

1. Can we get detailed financial information for 10+ years? 
2. Can you explain the dual class structure, class rights, and disclose who the primary owners of both A & B classes are? 
3. Sub question: Have any of the controlling shareholders announced share liquidation plans? What were the most recent insider transactions? 
4. Can you provide some segment level detail on inventory? Is the growth in inventory mainly military, western, or work boots? 
5. Can you talk about the operating loss in 2009 and how that adjusted to an EPS profit? Are the adjustments all related to the sale of Compsee or were there other events? 
6. What is management’s stance on the net-net status of the stock? Is there any plan to pursue value enhancing strategies (i.e. asset sales, additional share buybacks, etc.)? 
7. On the Statement of Cash Flows, there is a “Purchase of land for investment” line-item. Can you explain this investment? Is this property for future growth? Is it strictly for investment? 

I will keep you posted as I move forward with my MRINA research.

Disclosure: No current position, but reserve the right to initiate one at any time (if I can find the shares – MRINA trades extremely low volume).

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