So far, it’s been another difficult year for small-cap value stocks. Year to date, the segment has produced only a 6.0% return, as measured by the Russell 2000 Value index. This is meaningfully behind small-cap growth stocks, which have returned an impressive 17.3%, and large-cap stocks overall, which have generated an 18.9% gain year to date.
Worse, the long-term record of small-cap value is dreary. Over the past decade, small-cap value has produced only a 7.0% annualized return, lagging small-cap growth (at an 8.5% annualized rate) and large caps as a group (+12.3% annualized rate).
Are small-cap value stocks destined to underperform for another decade? Or is it finally time for these obscure and out-of-favor stocks to shine?
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To provide a blunt and honest answer, we have little if any idea how the collection of 1,454 stocks that comprise the Russell 2000 Value index will perform. Our focus is on individual stocks regardless of where we find them. And, currently, we are finding several small-cap stocks worth a closer look. These include companies with in-demand products, a competitive edge, capable management and a reasonably solid balance sheet whose shares are undervalued. One such company is Ammo, Inc. (POWW).
Ammo, Inc. is a small-cap ($260 million market value) Scottsdale, Arizona, company that produces ammunition for law enforcement, military, sport and other rifles and pistols. It also owns gunbroker.com, the world’s largest online marketplace for firearms and accessories, which uses only federally licensed dealers as transfer agents. Setting aside the controversial and legal liability-rich nature of its operations, Ammo is intriguing from a turnaround perspective.
The shares have slid nearly 80% from their 2021 high and trade below their public debut price (via SPAC in 2017). Weighing on the shares: strong profits a year ago have turned into small profits this year. The causes: lower revenues and rising raw materials costs.
Ammo was founded in 2016 by a now-81-year-old entrepreneur, Fred Wagenhals. This old-school “American success story” previously built from scratch an industry-leading maker of NASCAR toys, which became an NYSE-listed company that he sold for over $245 million in 2005. He also has earned several high-reputation academic and professional accolades.
To drive a turnaround, Ammo has hired an impressive new president, Jared Smith, who previously was a senior executive with the American segment of venerable Italian ammunition giant Fiocchi Munizioni. Under Smith, the new strategy is to shift away from commodity ammunition toward premium, specialized ammunition that offers significantly higher margins. Further likely to boost its margins is the rising utilization of its modern Wisconsin factory, which should provide lower incremental production costs. Importantly, Smith brings considerable skills in improving the basic operations of the business.
One additional opportunity: in a new world where the Ukraine war has created a global shortage of basic ammunition, this company could benefit from a ramp-up in friendly-government ammunition purchases.
Ammo’s balance sheet holds $40 million in cash compared to $11 million in debt, providing considerable financial flexibility. Also, the gunbroker.com business is growing rapidly and could be worth more by itself than the market value of the entire company. Overall, Ammo’s shares trade at a modest 7.6x estimated 2024 EV/EBITDA.
Potential investors should be aware of the long list of risks that this company faces. Yet, with risk, there may be considerable return.
Cabot Value Investor and the Cabot Turnaround Letter offer stock ideas, commentary on the markets and other topics relevant to contrarian and value investors, all supported by our rigorous and disciplined methodology, research and analysis. Let us help you sort through the market to find the best contrarian and value stocks.
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Disclosure: The author of this article personally owns shares of Ammo, Inc. (POWW).
