DMG Mori Running On A Global Tool Recovery

Companies appear to be opening their wallets for capital investment once again, and that has been very good news for DMG Mori (OTCPK:MRSKY) ((6141.TO)). This Japanese (and German) leader in the machine tool space has seen its share price almost triple from its early 2016 lows and rise almost 80% in the last year as the company starts to leverage its strengths into an improving order cycle.

With 2017 being the first year of growth off a trough, DMG Mori ought to be looking forward to at least a few more years of solid order growth, fueled by underlying drivers that include a need to replace aging machinery, a need to automate to remain cost-competitive and deal with a skilled worker shortage, and new technologies. Even so, the strong run in the shares has already captured a sizable chunk of the value, and I would note that analysts don't seem ready to believe that this cycle will be as strong as past cycles.

DMG Mori is more richly-valued than Hurco (HURC) (which I own), and there are valid reasons why it should be - it's the largest player in the field, and it has exceptional scale and operating leverage, among other reasons. What's more, there would seem to be room for analysts to raise their expectations in the future if this cycle matches prior upswings. That said, a lot here is riding on the overall health and growth of global manufacturing, so the current spread between the share price and fair value isn't as robust as I'd like.

I would also warn U.S. investors that the ADRs for DMG Mori are not liquid at all. The Japanese shares, however, have no such problem and are a better option for those investors able and willing to go to the added trouble.

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DMG Mori Running On A Global Tool Recovery

Hurco Rebounding With The Machine Tool Cycle

With machine tool orders picking up around the world, these are better days for Hurco (HURC), a small and somewhat specialized manufacturer of machine tools. The shares have reflected at least some of the improving market conditions, with the stock up over a third over the past year, beating the S&P 500, but lagging fellow small-cap tool manufacturer Hardinge (HDNG) over that time.

This past year (2017) marked a return to growth in the industry and a switch from the “peak to trough” to “trough to peak” cycle. If this next cycle is anything like the past, there should be another three to five years of growing orders, fueled by ongoing factory automation, the replacement of older, inefficient tools, and growth in markets like aerospace. Even if this cycle is on the shorter end, Hurco should be looking at a few years of revenue growth and margin leverage opportunity, and management has shown in the past that they can capitalize on healthy markets.

Valuation is tricky. Cash flow-based modeling in such a cyclical industry is hard and it tends to lead toward undervaluing companies on the way up and overvaluing them on the way down. Moreover, there are opportunities for Hurco to exceed my expectations in the U.S. and with gross margin improvement. So although the shares aren’t especially cheap on a DCF basis, a 7.5x multiple to my 2018 EBITDA estimate offers some additional upside.

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Hurco Rebounding With The Machine Tool Cycle

Hurco Doing A Little Better

I can't really complain about the post-election performance of Hurco (NASDAQ:HURC), as this small manufacturer of machine tools has seen its shares rise almost a third since the election. That's not out of line with what many smaller industrial-focused names have seen, as fellow machine tool company Hardinge (NASDAQ:HDNG) is up close to 30% since that time and welding equipment manufacturer Lincoln Electric (NASDAQ:LECO) is up more than 20% while the much larger (and less U.S.-focused) DMG Mori (OTCPK:MRSKY) is up around 15%.

I believe Hurco can still look forward to stronger economic conditions in both the U.S. and Germany, and the company should start to see even more benefits from its 2015 acquisitions of Milltronics and Takumi now that it has used a recent industry trade show to reintroduce and relaunch the brands. I'm not expecting Hurco to get back to the pre-2008 experience of gross margins in the mid-to-high 30%'s and operating margins in the mid teens, but I do expect the company to modestly outgrow its sector and generate solid consistent performance, supporting a fair value closer to $40 today.

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Hurco Doing A Little Better

Hardinge Offers Meaningful Leverage To An Industrial Recovery

It's been a decade to forget for many machine tool companies, as the 2008 recession hit many of them hard and the more recent weakness in natural resources and heavy machinery has knocked them back yet again. Hardinge (NASDAQ:HDNG), a small U.S. player in the space, has certainly seen better days, as the shares are about one-quarter lower than they were a decade ago on lower sales and weaker margins.

Why bother paying any attention to Hardinge? This is a small (less than $150 million in market cap and enterprise value) pure-play on the industrial economy and if/when manufacturing activity recovers, sales, margins, cash flows, and valuation multiples should all improve, and potentially quite significantly. While the shares have participated in the widespread post-election run, I believe relatively modest financial performance would be enough to lift these shares into the mid-teens.

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Hardinge Offers Meaningful Leverage To An Industrial Recovery

Hurco Laboring Hard, But With Little To Show For It

My expectations back at the start of this year were that it would be a very tough year for the machine tool industry. It has managed to be even worse, and Hurco (NASDAQ:HURC) has definitely seen a significant negative impact from that market weakness. While an upcoming trade show next week could help drive some orders, and market participants seem to think that the North American market is bottoming out, the reality is that there aren't a lot of leading indicators to make an investor feel really confident right now.

I suppose this may be a time where Hurco's relative obscurity is an asset. While the business has most definitely weakened, the stock is down 5% over the past year and about 10% since my last update. That's worse than comparables like Hardinge (NASDAQ:HDNG), DMG Mori Co. Ltd. (OTCPK:MRSKY), and Okuma (OTC:OKUMF), but it certainly could have been worse given the sharp declines in orders and the margin weakness. Looking ahead, I do continue to believe that Hurco is undervalued, but I think the recovery could be a more protracted, patience-testing process than some investors will want to endure.

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Hurco Laboring Hard, But With Little To Show For It

Seeking Alpha: Hurco's Tiny Boat Facing Choppy Seas

I don't envy the job facing Hurco's (NASDAQ:HURC) managers today. I believe that this small industrial company remains a very overlooked manufacturer of high quality high-spec machine tools, but that is a very tough business to be in these days. As I've written in past pieces on companies like MSC Industrial (NYSE:MSM), demand for cutting and metalworking tools has plunged in the U.S. during this industrial slowdown and demand appears to be even worse in Asia.

I still believe that patience will pay with the stock. The company has released an interesting new control console (Max 5) and the acquisition of Milltronics and Takumi meaningfully expands both the company's product lines and geographic exposures. A machine tool company is a quintessentially cyclical company, but Hurco does look undervalued to me today.

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Hurco's Tiny Boat Facing Choppy Seas