Key Technology ($KTEC): Value Stock or Value Trap?

Key Technology ($KTEC): Value Stock or Value Trap?

Key Technology ($KTEC): Value Stock or Value Trap?

Frank Voisin is the author of the popular value focused website Frankly Speaking, found at

Near the beginning of the year, I wrote about Key Technology, Inc (NASDAQ: KTEC), a manufacturer of process automation systems primarily aimed at the food industry. I noted that the the company was

Qualivian Investment Partners 2Q22 Investor Letter

TD1655 Newsletter Placement 1Dear Friends of the Fund, Please find enclosed our Q2 2022 investor letter for your review.  Qualivian reached its four-year mark in December of 2021. We are actively weighing investment proposals. Please refer to our Q2 2022 investor letter for our performance and commentary on the second quarter of 2022. A fact sheet is 

trading at a market cap just shy of $71 million, yet the company has $26 million in net cash, is profitable and generated $10.8 million in free cash last year (for an ex-cash yield of 24%!).

Since that write-up was published, the company’s share price has fallen another 27%, to lows not seen since the 2009 market trough. The company now (as of late May) trades for just $55 million. Unfortunately, net cash has also declined, and by an even larger percentage (33%) to just $17.5 million. Given the dramatic decline in cash, we turn to the company’s consolidated statement of cash flows, to ensure that there is a good reason (ideally expected to reverse in the near future) for the decline. We see the following as the three biggest uses of cash:

  • Trade Accounts Receivable: $2.351m
  • Customers’ deposits: $1.183m
  • Purchases of PP&E: $1.18m
None of these concern me, particularly because PP&E is less (by half) than the same period last year and doesn’t otherwise stand out as extraordinary, and the other two will likely reverse in the near future (though, you always want to watch for consistent growth in accounts receivable beyond revenue growth, as this can signify financial shenanigans).

Another reason I am not worried about the accounts receivable and customer deposit growth is due to the nature of the company’s business, which is such that it receives a relatively small number of large orders which drives its revenue quarter to quarter. This contributes to greater volatility as the delay of orders (or collection of payment) from one quarter to the next can have a big effect on the company’s financial performance.

Turning to the company’s discussion of the quarter, we find these explanations:

David Camp, President and Chief Executive Officer, stated, “Net sales and the results of operations were unfavorably affected by the postponement of two shipments due to customer-requested delays. These orders, totaling over $2.5 million, will ship in the third fiscal quarter of 2012. The Company anticipates that net sales in the third quarter of fiscal 2012 will be significantly higher than in the second quarter of fiscal 2012.”

we are experiencing substantial quote activity for potential large-scale projects in these markets.

This seems to confirm my belief that the fluctuation in the company’s cash balance is driven primarily by timing differences in projects. However, never one to take management comments at face value, I like to look for confirming evidence. In this case, to get more comfortable with the fluctuations over the last few quarters, it is worth looking at the Book-to-Bill ratio, which is useful in any industry where orders are taken well in advance of revenue recognition. Here we compare the company’s disclosures regarding new orders to its reported revenues.

Here’s the company’s book-to-bill data for the last ten quarters:

Quarter New Orders Revenues Book-to-Bill Backlog
1Q 2010 28.3 22.4 1.26 35.5
2Q 2010 26.9 30.7 0.88 31.6
3Q 2010 29.7 31.6 0.94 29.9
4Q 2010 36.2 31.0 1.17 35.1
1Q 2011 24.8 28.2 0.88 31.6
2Q 2011 34.3 27.9 1.23 38.2
3Q 2011 23.8 33.8 0.70 28.3
4Q 2011 33.9 26.5 1.28 36.2
1Q 2012 26.6 26.0 1.02 37.0
2Q 2012 24.9 27.3 0.91 34.7

We see the Book-to-Bill ratio has dropped below 1.0 for the first time in several quarters, and is the second consecutive quarter of decline. This is something we should keep track of going forward and hopefully we see a reversal in coming quarters, but I wouldn’t get too upset about this until a few more quarters continuing in this direction. Other reasons I am not too worried is that the company’s Book-to-Bill is pretty average, and its current backlog is above its average for the last 2.5 years.

So overall, it appears to me that KTEC has is experiencing its usual operating volatility and that its decline in cash is likely to reverse in coming quarters. I don’t think the decline in share price is justified and given the company’s long history of strong free cash flows (especially relative to invested capital), I see little reason the company should be this cheap.

A few other things to note. First, Rutabaga Capital Management, a value fund specializing in microcaps, owns a significant stake in the company (11.2%) and has increased its position over the last year (from 570,561 to 612,111 shares).

Second, on May 18th, the company announced that its President and CEO would be stepping down and the CFO would be taking his place. I like having a finance guy run the show, and this creates a rare opportunity whereby we might see a shift in strategy for the company’s traditionally high cash balance. Ideally we will see the company deploy some of its cash to repurchasing shares while they stay at depressed levels.

What do you think of KTEC?

At twenty years old, Frank opened the first of what would eventually become four successful restaurants while completing concurrent undergraduate degrees. He later sold these businesses and returned to school to complete concurrent JD and MBA degrees. During this time, he wrote and passed the three CFA exams. Frank takes a value perspective in his commercial real estate endeavours, hunting for unloved and undervalued investment opportunities to add to his investment group’s portfolio. Frank has traveled extensively and lived in Auckland, London, Toronto, and is currently living in Hong Kong with his wife, Danielle, a successful entrepreneur, MBA, author, blogger and international manager for one of the largest global financial institutions. Frank splits his time between consulting and searching for new value investments.
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