Tuesday Losers: Bank of Ireland, Arkansas Best and Sealy

David Sterman's picture

Tuesday, May 25, 2010 - 11:06am

by David Sterman

Among the biggest losers in Tuesday's early trading are Bank of Ireland (NYSE: IRE), Arkansas Best (Nasdaq: ABFS) and Sealy (NYSE: ZZ).

Top Percentage Losers -- Tuesday, May 25, 2010
Company Name (Ticker) Intra-Day Price Intra-Day
% Loss
52-Week High 52-Week Low
Arkansas Best
(Nasdaq: ABFS)
$21.35 -17.9% $34.56 $21.39
Bank of Ireland (NYSE: IRE) $4.61 -9.1% $20.18 $4.33
Sealy (NYSE: ZZ) $3.02 -5.0% $4.24 $1.51
*Table includes companies with minimum market capitalizations of $200 million and three month trading volumes of at least 100,000 shares. All percentage returns are listed as of 11:00AM Eastern Standard Time. Click on ticker symbols for up-to-the-minute price quotes and percentage gain data.

European Bank Stocks Portend Darker Clouds

Tuesday’s -19% drop in shares of Bank of Ireland (NYSE: IRE) are a fairly big deal - for American investors. The sharp decline highlights the increasing likelihood that some sort of major intervention - on behalf of the bank or the entire Irish economy - will be necessary. Similar weak action in Spanish banks such as Banco Santander (NYSE: STD) implies similar distress on the other end of the continent. And that threatens to turn the already-expensive bailout of Greece into an even larger rescue.

At some point, taxpayers in healthier economies such as France and Germany may start to balk, and the notion that every country is “too big to fail” will come into question. At a minimum, access to credit may become very difficult, as banks pull in their horns. Notably, a wide swath of companies that make up the S&P 500 rely on Europe for a hefty chunk of annual sales and profits. It’s only a matter of time before analysts lower forecasts on companies with a high exposure to Europe.

Action to Take --> Right now, this is a great time to stress-test your portfolio for European exposure. If you are looking for stocks to unload, this is a fine place to start. You can find out the regional sales exposure in a company’s 10-K filing. And don’t think about bottom-fishing distressed banks such as Bank of Ireland. Any attempts to shore up its capital will likely sharply dilute or even wipe out existing shareholders. Concerns of a European meltdown may prove to be overblown, and these lagging banks may rebound, but no one can know for sure right now.

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Arkansas Best’s Mixed Message

Shares of Arkansas Best (Nasdaq: ABFS), a leading freight carrier, are off nearly -20% this morning after its unionized labor force voted against taking pay cuts. Management usually asks for wage cuts when a company is in financial distress. Yet Arkansas Best still has ample cash, and is starting to see the signs of a rebound. When first-quarter results were released a month ago, management noted that: “We are encouraged by the first quarter increases in ABF's tonnage versus very low totals last year. However, in order for ABF's operating results to improve in a meaningful way, we need further increases in freight demand, strong improvements in pricing and the positive financial impact of wage concessions."

Absent any wage concessions, analysts still think that Arkansas Best will still generate profits again by the second half of this year, with expectations for full-year profits in 2011. Were the company to have secured wage concessions, any profits in 2011 would have been sharply higher. A hoped-for 15% reduction in wages (which would stay in place until 2013), would have saved around $75 million annually, or $1.80 per share.

More than likely, though, management and labor will go back to the table, and some sort of compromise will be hammered out. Management has threatened to cut jobs if an agreement could not be reached, and labor will blink before that happens. Moreover, trucking price wars that began over the winter are likely to eventually abate, as they have been a lose-lose for all truckers.

Action to Take --> This is a very sloppy situation as industry pricing is weak, and costs have not fallen commensurately. But the pricing dynamics will eventually revert back to historical rates, and wage concessions of some sort still appear likely, despite last night’s rejection. When the economy is at a normal pace, Arkansas Best typically earns $3 to $4 a share. With shares now down in the low $20s, they represent real value and are poised to rebound when labor comes back to the table or freight rates and volumes improve further.

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Sealy’s Debt Load Magnifies the Stock’s Moves

Shares of Sealy Corp. (NYSE: ZZ), maker of several leading bedding brands, are off -5%, extending a slide that has pushed shares down roughly -25% in the last month. The sell-off comes at a time when the bedding maker’s prospects are materially improving. In its most recent quarter, sales rose +10% from the year-earlier period, and should continue to grow in the high single-digit range for the remainder of the year as well.

Sealy was the victim of a botched private equity transaction and eventual new IPO that saddled it with far too much debt. Long-term debt still stands at $800 million and the company pays out roughly $22 million in interest payments every quarter. And that eats up more than half of the company’s quarterly profits. But this is where leverage can pay off. Any jumps in gross profits can yield even larger jumps in net profits, as the interest costs remain in place. That’s why analysts think that per-share profits can rise roughly +40% in Fiscal (November) 2011, even though sales should rise less than +10%. Looking further out, consumers have been replacing their beds at a much slower-than-normal pace, and once the economy is back on its feet, the move to replace old sagging mattresses could push up annual sales growth above +10% annually. Thanks to that debt leverage, profits could grow at a much faster clip.

Action to Take --> Shares have fallen to about 15 times next year’s earnings, and earnings should grow at twice that rate - or more. The current sell-off creates value for long-term investors who can stomach the high debt load.

David Sterman does not personally hold positions in any securities mentioned in this article.
StreetAuthority LLC does not hold positions in any securities mentioned in this article.