By: Joseph Hogue of Street Authority
No matter how well run a company is, sometimes there is nothing management can do to avoid steep losses. Sometimes these outside forces are so strong that investors write a stock off altogether and wonder if the industry will ever be profitable again.
Few industries were hit as hard by the Great Recession as recreational vehicles. The plummeting stock market could not have come at a worse time for baby boomers approaching retirement, and fear over retirement savings caused motorhome shipments to drop more than 50% between 2007 and 2009. Even when gasoline prices fell during the recession, they quickly recovered, making cross-country trips unrealistic for many Americans.
One company has been a symbol of the industry for more than 50 years, but it came close to bankruptcy during the recession. Now shares look ready to move higher as some of the forces that worked against it change in its favor.
Back From the Dead and Ready for 2 Strong Catalysts
Winnebago Industries (NYSE: WGO) has been a leader in recreational vehicles since 1958. It has been the top-selling motorhome brand every year since 1974, but even its status as an American icon looked like it might not be enough to save the company.
WGO plunged more than 80% in the two years to February 2009, and the company was forced to suspend the dividend it had consistently paid since 1985.
Even after a surge in price from 2012 to 2014, the stock is still down nearly 40% over the past decade.
But just as everything seemed to stack up against the company in the recession, shares of Winnebago may be ready to take off as factors line up in its favor.
Nearly half of Winnebago owners are over 60, and the demographic trend in the United States could start leading to strong sales growth. Thanks to the boomers, roughly 10,000 more people will cross the retirement threshold every day for the next 14 years. Nearly a fifth of the U.S. population (19.5%) is between 53 and 67. That's 60 million Americans who are or will soon be in Winnebago's key age demographic.
The rebound in the stock market is giving new confidence to retirees, and we may already be witnessing a boom in RV sales. Retail registrations for motorhomes were up 30% year over year in the 12 months ended in November. Even on the strong increase over the past several years, motorhome shipments are still 36% below their 2004 peak.
But the demographic boom isn't the only factor supporting sales. Falling gasoline prices have again made long road trips an option for retirees. The national average for a gallon of gasoline has fallen to $2.24, down 33% from year-ago prices. And surging global oil production may mean cheap fuel is here to stay.
The outlook has improved so much that management reinstated the company's quarterly dividend in November with a $0.09 payout, the first payment since 2008. Shares currently yield 1.7%.
Winnebago carries no debt and has $27.8 million in cash on the balance sheet.
Turning an American Icon Into a Cash Machine
With a favorable outlook, strong cash position and attractive valuation, I would expect management to increase the repurchase program this year. Winnebago doubled its share repurchases to $26 million in 2014 and still has plenty of cash to increase further. Cash flow is consistent, and the company may even consider leveraging its balance sheet with some debt to increase returns and shareholder cash.
If dividends and a growing share repurchase program aren't enough, investors can further increase their cash return by using a covered call strategy. With WGO trading at $21.47 per share at the time of this writing, we can buy 100 shares and simultaneously sell a WGO Mar 22.50 Call, which is trading around $0.57 ($57 per contract). This gives us a net cost of $20.90 per share, which is 3% below current prices.
If WGO is above the $22.50 strike price at expiration on March 20, our shares will be sold for that price. In this case, we will make a $1.60 per-share profit, or 7.7% in just 32 days. If we were able to make a similar trade every 32 days, we could earn an 87% rate of return in a year.
I like the trade as long as we can get in for a cost basis of $21 or less, which still leaves us with a gain of 7% and a slight discount to current prices.
If WGO fails to rise above $22.50 by expiration, we keep the shares and the option premium. We'll then have the opportunity to sell another call to generate more income and lower our cost basis further. I like the long-term potential of the company and the demographic and economic tailwinds at its back, but I also want to generate a short-term cash return on my investment.
Not selling covered calls is like passing up on free money. One of my colleagues likens it to owning a rental property and not collecting rent. You wouldn't do that, so why would you pass up on the opportunity to generate income on the stocks in your portfolio?
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