The past six months have been a windfall for Methode Electronics’s shareholders. The company’s stock price has jumped 99.1%, setting a new 52-week high of $13.96 per share. This run-up might have investors contemplating their next move.
Is now the time to buy Methode Electronics, or should you be careful about including it in your portfolio? Get the full breakdown from our expert analysts, it’s free.
Why Do We Think Methode Electronics Will Underperform?
We’re happy investors have made money, but we're sitting this one out for now. Here are three reasons we avoid MEI and a stock we'd rather own.
1. Long-Term Revenue Growth Flatter Than a Pancake
Examining a company’s long-term performance can provide clues about its quality. Any business can put up a good quarter or two, but many enduring ones grow for years. Unfortunately, Methode Electronics struggled to consistently increase demand as its $978.2 million of sales for the trailing 12 months was close to its revenue five years ago. This was below our standards and is a sign of poor business quality.
2. New Investments Fail to Bear Fruit as ROIC Declines
A company’s ROIC, or return on invested capital, shows how much operating profit it makes compared to the money it has raised (debt and equity).
We like to invest in businesses with high returns, but the trend in a company’s ROIC is what often surprises the market and moves the stock price. Over the last few years, Methode Electronics’s ROIC has unfortunately decreased significantly. Paired with its already low returns, these declines suggest its profitable growth opportunities are few and far between.
3. High Debt Levels Increase Risk
As long-term investors, the risk we care about most is the permanent loss of capital, which can happen when a company goes bankrupt or raises money from a disadvantaged position. This is separate from short-term stock price volatility, something we are much less bothered by.
Methode Electronics’s $367.8 million of debt exceeds the $133.7 million of cash on its balance sheet. Furthermore, its 7× net-debt-to-EBITDA ratio (based on its EBITDA of $33.5 million over the last 12 months) shows the company is overleveraged.
At this level of debt, incremental borrowing becomes increasingly expensive and credit agencies could downgrade the company’s rating if profitability falls. Methode Electronics could also be backed into a corner if the market turns unexpectedly – a situation we seek to avoid as investors in high-quality companies.
We hope Methode Electronics can improve its balance sheet and remain cautious until it increases its profitability or pays down its debt.
Final Judgment
Methode Electronics doesn’t pass our quality test. Following the recent surge, the stock trades at 8× forward EV-to-EBITDA (or $13.96 per share). This multiple tells us a lot of good news is priced in - we think there are better stocks to buy right now. Let us point you toward a fast-growing restaurant franchise with an A+ ranch dressing sauce.
Stocks We Would Buy Instead of Methode Electronics
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