Sevcon ( Nasdaq - SEV ) -- Customers Retrench

Sevcon (SEV $3.75) reported lower than expected Q4 (Sept.) results.  Earnings were bolstered by a non-recurring gain caused by the company's decision to close its pension plan.  Required contributions were skyrocketing due to plunging long term interest rates.  That saved Sevcon $.15 a share.  Non-recurring inventory adjustments clipped income by $.06 a share.  Reported earnings were $.08 a share.  Adding everything together, the company essentially broke even during the period.  Lead times dwindled to 4-5 weeks from a more typical 6-8 weeks.  Sevcon did generate good results in the forklift and motorcycle markets.  But the larger off road (construction and mining) and automotive segments posted large declines.  The off road business suffered from poor macro economic conditions.  The city car operation experienced a setback due to re-engineering issues by Renault.  Demand in that line appears likely to recover in upcoming periods.

Sevcon is continuing to expand its engineering force.  The company historically has focused on control systems for electric vehicles.  That emphasis will be continued.  Electric off road machines already have demonstrated superior price performance characteristics.  And automotive demand is poised to increase in response to rising (fleet) fuel efficiency standards.  Sevcon's expansion is aimed at the high potential hybrid sector.  That technology delivers good performance and attractive pricing while being compatible with the existing re-fueling infrastructure.
 
We have reduced our fiscal 2013 (Sept.) estimates.  Sevcon has several high potential projects in the pipeline.  But poor macro economic conditions could cause those programs to be delayed or scaled down.  Existing business is difficult to predict, as well, for the same reason.  The long term outlook remains bright.  Ineffective government involvement presents a risk, however.  And with the re-election of Barack Obama it's hard to see reason why that participation will yield better results in the future.  Despite the government's negative showing the industry remains likely to make progress over the next several years.  Sevcon has a very small share base, so it won't take much to get the stock moving.

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Sevcon ( Nasdaq - SEV ) -- Legacy Business Slows

Sevcon (SEV $5.00) reported lower than expected Q3 (June) results.  The company is the leading independent provider of computerized controls for electric vehicle engines.  Revenues increased 8% to $8.88 million.  Earnings fell 75% to $.01 a share (fully taxed).  Engineering talent was added in the period to support anticipated growth.  Margins were crimped when revenues grew less rapidly than predicted.  Rising expenses were offset to a degree by better manufacturing margins.  Sevcon outsources most production work.  The entire supply chain demonstrated improving productivity. 

Industrial vehicle demand slowed due to economic considerations.  Sevcon provides the brains for a wide range of electric powered work machines.  Those include fork lifts, aerial lifts, mining vehicles, airport trucks, floor polishers, turf equipment, and a variety of other units.  The company's technology maximizes battery efficiency so the engines can hit higher speeds and last longer before recharging.  Before the recession began sales in that segment were pushing $40 million a year.  Rising energy prices and tighter environmental rules promised to support further gains.  Demand collapsed when the worldwide economy slowed.  A rebound appeared to be underway.  But the latest woes in China, Europe, and elsewhere put the brakes on that during the June quarter.

The on-road market continued to advance.  Sevcon entered the electric car segment a few years ago, building on technology it already was delivering for motorcycles and all terrain vehicles.  Bolstered by government regulations, but primarily economics, the electric car market has been expanding rapidly and is continuing to go.  Rising fleet fuel efficiency standards are accelerating demand among auto makers.  But consumers are clamoring for the product, too.  Based on the size of the worldwide car market, which is mammoth, and the regulatory path that's in place, and growing consumer support, there's a strong consensus among industry observers that unit volume could expand 25%-35% annually over the next ten years.  A recent deal to supply controls for Renault's new "city car" is generating near term momentum.

Sevcon is well positioned to grow even faster in the on-road segment.  Even if it doesn't, though, overall performance should be reinforced by a return to normal by the industrial segment.  That would entail a 100% jump just to get back to to 2007 levels (an extra $20 million a year in sales). 

These shares require a long term orientation.  The share count is so low, however, and the potential market is so big, a patient investor could enjoy enormous appreciation.  A rebound by the economy likely will drive conventional energy prices higher, making electric cars increasingly attractive.  In 2-3 years income could attain $.75 a share.  Applying a P/E multiple of 20x suggests a target price of $15 a share, potential appreciation of 200% from the current quote.  Beyond that, it might be a long runway.

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Sevcon ( Nasdaq - SEV ) -- Scaling Up

Sevcon (SEV $7.25) reported excellent on target Q2 (March) results.  Earnings improved 8% to $.14 a share.  Sales expanded 30% to $10.1 million.  The company is a leading provider of drive train controls for electric vehicles.  In the past Sevcon emphasized the off road market.  That segment was hit hard by the recession and remains far below historical levels.  The company has been picking up the slack with on road programs including scooters, bikes, and small city cars.  Those are niche markets as far as the automobile industry is concerned.  So the big drive train producers haven't participated in those markets in a meaningful way to date.  Sevcon is taking advantage of its opportunity to cultivate a number of relationships that could become substantial contributors over the coming decade.  It also recently formed a manufacturing relationship with outsource giant Flextronics to ensure it can meet higher levels of production if demand suddenly arises.  Sevcon is establishing an arsenal of engineering know how that promises to yield additional contracts in the future.  Profits are rising in the meantime as the off road business recovers and the new programs kick in.  The electric vehicle market holds ample potential even if it remains a niche business.  If new battery technologies are developed the industry could expand dramatically in the future, propelling Sevcon to substantially higher levels of business activity.

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Sevcon ( Nasdaq - SEV ) -- Boosts Battery Performance

Sevcon (SEV $6.50) is a leading provider of microprocessor based controls that maximize engine output in electric and hybrid vehicles.  The alternative vehicle market has bogged down in recent years due to economic reasons.  But a bigger factor has been the lack of progress in battery technology.  Incremental improvement is likely over the next several years.  But major breakthroughs are not in the pipeline and are unlikely to enter large scale production through the end of the decade.  Despite that, the electric vehicle market is poised to deliver substantial growth.  And those gains are likely to be amplified by hybrid vehicles, a market the company also serves.  Electric vehicle manufacturers are improving their products's price performance by introducing a higher concentration of computer controls.  Those microprocessor based units regulate temperature and other variables to minimize wasted power.  They also regulate the environment so batteries retain their ability to charge up at full capacity.  With the addition of more software electric vehicles promise to become increasingly powerful and long lasting.  Gasoline powered cars and natural gas fueled trucks and buses are likely to dominate the high volume transportation market for the foreseeable future.  But plenty of niche markets remain to be exploited. 

Most of Sevcon's business historically focused on off-road and industrial vehicles.  Sales reached $39.2 million in 2008, most of which was generated by work machines.  The subsequent recession collapsed demand, forcing Sevcon to develop new markets.  The company landed a large number of small deals with on-road electric vehicle makers, aided by its track record in the industrial area.  Most of the rebound witnessed over the past three years was produced by those relationships.  Last month Sevcon landed its largest partner to date (Renault).  The contract calls for the company to supply controls for two new lines of city-cars the auto giant plans to manufacture.  Sevcon also recently signed a manufacturing subcontracting arrangement with Flextronics.  That relationship will cover new business signed either by Flextronics or the company.

Growth is threatened by near term economic and political factors.  Sevcon's traditional off-road and industrial markets have gained momentum in recent quarters.  The company didn't lose any customers during the downturn -- just order volume.  That business now is coming back, albeit gradually due to the weakness in Europe and around the world generally.  The on-road market still is advancing.  But government subsidies are still required to underpin that segment.  And those are being threatened by deficits and other fiscal problems.

Sales advanced 24% in Q1 (December) to $8.52 million.  Earnings improved to $.08 a share from a break even showing the year before.  The near term outlook is difficult to predict due to the political and economic headwinds.  Despite those obstacles we estimate fiscal 2012 (September) sales will climb 24% to $40 million to provide earnings of $.40 a share (+90%).  Longer term margins promise to expand on rising sales.  Assuming no real change in character in the electric vehicle industry we estimate sales will attain $75 million in 2-3 years to produce earnings of $1.20 a share.  We use GAAP figures because stock option expense is minimal and there aren't any other material adjustments that need to be made.  Applying a P/E multiple of 16x to those earnings suggests a target price of $20 a share, potential appreciation of 200% from the current quote.

Sevcon is based in the United Kingdom.  It's official corporate headquarters are in Southborough, Massachusetts.

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