Inside Wall Street: Undervalued anti-terror stock

Boston bombing ignites investor interest in maker of thermal energy-camera, night vision gear.

By Gene Marcial Apr 29, 2013 10:08AM
Arrow Up © Photodisc SuperStockIt took a horrific tragedy like the Boston marathon bombing for investors to discover -- or rediscover -- the value and huge potential growth of Flir Systems (FLIR). One of its arrays of specialized surveillance equipment was directly helpful in capturing Dzhokhar Tsamaev, who has been identified and accused by the U.S. as one of two persons who used a weapon of mass destruction in the two explosions during the Boston marathon on April 15, 2013.


Flir's Star Safire HD System, used by the Massachusetts State Police in a helicopter, helped spot Tsamaev who was hiding in a parked boat behind a house in Watertown, leading to his arrest. The bombing killed three people and wounded more than 170 runners and watchers.


Flir's Star Safire, with its powerful thermal sensor, television camera, and laser range finder, tracked the fugitive hiding under the boat's tarp. With its infrared technology, Flir makes sophisticated thermal and multi-sensor imaging systems primarily used in applications for the commercial, industrial and government markets.


Last year, its business with the U.S. government weakened due to crimped spending, reducing sales from that market to 44% of total 2012 revenues from 51% in 2010. Such a drop, in addition to the general economic softness, will affect the company's top line over the short haul, analysts concede, but the recent public and government focus on the apparent rise in terrorist threats should drive up demand for various explosives and bomb detection devices, both from the government and commercial enterprises.


"In the near-term, we believe the mobile surveillance capability will act as a cornerstone program that will reinvigorate the government systems growth engine," says Michael F. Ciarmoli, analyst at KeyBanc Capital Markets, who rates the stock as a "buy." And in the commercial market, he sees the increased infrared penetration into new adjacent markets, including security, firefighting, and traffic management, augmenting volume growth.


Flir's stock is trading at $24 a share, up from its 52-week low of $17.99 last summer, but down from a high of $37 reached on May 19, 2012. It is currently trading at more than 13 times Ciarmoli's earnings forecast of $1.80 for 2014, slightly above its peers' multiple of 12. The analyst expects the stock will continue to trade at a premium to its peers. His 12-month price target for the stock is $29 a share, which is 16 times his 2014 earnings estimate.


Analyst Peter Arment of investment firm Sterne Agee, who is also a bull and rates Flir as a "buy," has a price target of $30, based on his earnings projections of $1.65 a share for 2013 and $1.90 for 2014, up from 2012's $1.47 a share. He argues that while "macro and government headwinds persist, internal/external investments will continue to drive Flir to higher sales and earnings growth." He is confident that Flir is well positioned for growth in 2013 coupled with deploying its free cash flow for share buybacks. So far this year, Flir has repurchased 4 million of its own shares.


In the government sector, Flir's products are used mainly for surveillance, force protection, drug interdiction, search and rescue, special operations and target designation. Usually Flir customizes its products for the government's specific purposes, such as adding specialized visible light cameras, low light cameras, laser rangefinders, laser illuminators, and laser designators.


In the commercial sector, Flir's vision systems are used for situations where conditions are adverse in terms of lighting. And its thermography unit offers specialized cameras with analytical and image processing capabilities, apart from the cheaper ones with less demanding applications.


"While Flir is seen as a value-based supplier to the global military market, we see it as best of breed in the commercial and industrial markets, which are ever expanding in application and size," says Peter Skibitski, analyst at investment firm Drexel Hamilton, who also rates the stock as a buy.


Beyond near-term earnings, Skibitski says the key catalyst he sees is the expected introduction in the first half of 2014 of Flir's next-generation core cameras, which should help expand new markets and create new ones.


He projects higher earnings of $1.72 per share in 2013 and $1.94 per share in 2014, and sees "compelling characteristics" of 20% in operating margins, strong free cash flow (it had a more than $320 million of cash at the end of December 2012), and a clean and solid balance sheet.


With the renewed vigilance against rising global terrorist threats, Flir is among the companies with sophisticated surveillance products and technology that should attract renewed investor interest.
  
gene

Gene Marcial wrote the column Inside Wall Street for Business Week for 28 years and now writes for MSN Money’s Top Stocks. He also wrote the book "Seven Commandments of Stock Investing," published by FT Press.


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