Kodak, Take Two

The upswing I caught in shares of film giant Eastman Kodak during 2003 and 2004 pretty much defines the kind of contrarian calls I tend to look for. The stock had fallen from nearly $100 down to the low 20’s. Sentiment was about as negative as it could get. Nobody was recommending investors buy and nearly everybody had a sell rating on it. The story was pretty bleak from a fundamental point of view. Consumers were all shifting from film-based cameras to digital and Kodak was far, far behind.

To diversify away from the traditional film business, EK started to beef up their digital camera product line and made some acquisitions in the medical imaging business, hoping for higher margins. In fact, they borrowed money to pay for the acquisitions. You can imagine how much Wall Street liked that. Investors hate it when companies take out debt for mergers or dividends, and usually they’re right.

However, what the Street failed to realize was that medical imaging was indeed a faster growing and more profitable business than film. Kodak cut their once 7% dividend to help fund the turnaround plan. Did it work? Well, the stock went from the low 20’s to the mid 30’s. Few people noticed because nobody owned the stock, but I was happy to cash out with a more than 50% gain in less than a year.

All of the sudden a weak first quarter earnings report has sent EK shares back down to $25 each. There haven’t been many downgrades though, as only 2 analysts have buy ratings on the stock, versus 6 with sells. Most people have dropped coeverage completely. The strategy must have failed, right?

Well, not exactly. Do you know who is the leading digital camera maker in the United States? That’s right, it’s Kodak. Just because they got a late start and didn’t think the digital revolution would sweep the world as quickly as it did, they still are selling a lot of cameras. After all, Kodak is a pretty good brand, so consumers have warmed to their products very quickly.

The stock is down 30 percent. The P/E is 10. The dividend is 2 percent, and sustainable. The company’s total debt load was cut from $3.2 billion to $2.3 billion during the 2004. Sounds like it’s prime time to start focusing on Kodak stock once again.

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4 Thoughts on “Kodak, Take Two

  1. ptkelly on May 5, 2005 at 6:34 AM said:

    try to get kodak to tell you how much money they make in digital photography. it’s great to be #1 but doesn’t mean a thing if there’s no return to it. the digitial business will never be a replacement for the cashflow the traditional business once provided.

  2. Chad Brand on May 5, 2005 at 7:09 AM said:

    Nobody is saying Kodak can get back to the levels of profitability that they once had. That’s why the stock is down 75%from its peak. However, if you look at what the company can earn in the future (the past is irrelevent for current shareholders) I think $25 a share will prove very conservative over time.

  3. ptkelly on May 5, 2005 at 4:37 PM said:

    i just don’t trust them to get to what that future steady state profitability will be. they are a serial restructurer with more reserve accounts running thru the balance sheet than can be counted and there’s just no way to know where the intersection of increasing cashflows from digital will hit the decreasing cashflows from traditional – they certainly won’t tell you.

    i guess i’m just on the side of there’s still more danger to come, especially given this management team.

    Do you have a back of the envelop estimate of what future FCF will be?

  4. Chad Brand on May 6, 2005 at 11:42 AM said:

    I understand where you are coming from. The bear case is certainly out there for the grabbing. I just think Wall Street is being too pessimistic.

    I don’t have any long term financial models on EK, as I tend to avoid projecting things too far in the future. Rarely will they prove accurate, and therefore I find them less-than-helpful.

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