Start your engines

At Fat Prophets we adopt very much a top down approach to investing. However, we are also constantly on the search for pockets of value in industries which we are not overtly bullish on. A case in point is this week's recommendation of Speedway Motorsports (NYSE, TRK).

The North Carolina-based motor racing track operator is not a play on a sector in which our portfolio is overweight. However we believe the stock offers significant value on a number of fronts.

Key attractions include the company's significant cash pile, robust margins, and ability to deliver consistent earnings growth. Yet despite such apparent allure, the stocks trades at relatively undemanding levels and at a significant discount to a larger (and more fashionable) competitor.

We however believe this value gap will steadily close, particularly in light of a recent multi-year broadcasting deal which has served to de-risk the company's earnings profile. In our opinion now is a good time to buy ahead of first quarter results due next week.

Before we discuss where Speedway Motorsports is racing off to, let's look at some history.

The company got off the grid in 1959, and today owns and operates six premier speedway facilities, in California, Georgia, Nevada, North Carolina, Tennessee, and Texas. In 1995, TRK became the first motor sports company to list on the NYSE.

Within the industry, International Speedway is a more prominent brand (with 13 tracks including Daytona and Talladega). However, Speedway Motorsports is ahead of International on a number of fronts. Speedway Motorsports boasts one of the largest totally permanent seating capacities, and the highest average number of seats per speedway.

The lion's share of Speedway's revenues emanate from two main sources. Ticket sales and the licensing of broadcast rights account for around 35 and 30 percent of turnover respectively. Merchandising, race sponsorship, and catering commissions make up the bulk of the remainder.

And before you ask, the size and growth rate of the motor sports market is significant. NASCAR has an estimated fan base of 75 million (that's one in four Americans!). Meanwhile, annual attendances at racing events, after growing steadily in recent years, now exceed 15 million.

However one look at the weekly chart above shows that it hasn't been all trophies and champagne for Speedway International. Over the past decade the ride for investors has been as bumpy as that felt by some of the lesser drivers on Speedway's tracks.

A post-IPO honeymoon period in the late 1990's came to an abrupt halt in 1999 when poor attendances and cost blowouts saw results dip into the red. A tragic accident which killed three spectators at the flagship Lowe's stadium in North Carolina did not help sentiment.

A new century however brought a turnaround in fortunes as investment in tracks paid off, attendances began to recover, and as large media deals were secured.

With investor appetite improving, we believe a highly encouraging formation is developing on the charts. The stock has been quietly forming a large bullish pattern known as an ascending triangle over the past two years. Triangles are typically characterized by a longer-term upward trend, a flat upper resistance line and rising support. Typically, this type of pattern appears as a precursor to a decisive (sometimes explosive) resumption of the longer-term trend.

And there is every reason to believe this will occur in our view. First quarter results are due on Wednesday but a look back to full year numbers in March paints an upbeat picture of what is to come.

Results in 2006 were a record for the seventh consecutive year. Total revenues rose 4 percent to $567.4 million, despite a 1 percent dip in admissions. Net income was ahead 3 percent to $111.2 million.

Although gate takings were relatively flat at $175.2 million, this performance was a resilient one in our view. Unseasonally bad weather surrounded several major NASCAR event weekends.

We are also encouraged that Speedway continues to invest significantly in tracks, underwriting future attendances. Recently the company unveiled spectacular state of the art entertainment facilities (the "Neon Garage") at the Las Vegas Motor Speedway.

Unfavourable weather of course will always be a potential risk to admission revenues. However to this end we are highly encouraged by the diverse makeup of turnover.

Revenues from NASCAR Broadcasting leapt 15.4 percent to $162.7 million in 2006. However such stellar gains will not be repeated this year. A new eight year agreement through to 2014 will be worth around $505 million annually to the industry. As a result Speedways' broadcasting net revenues (along with the rest of the industry) will decline by around 10 percent in 2007.

Whilst a fee haircut is never easy to swallow, the earnings certainty the deal provides over the longer term is heartening. In addition the agreement allows for a 3 percent step up in revenues each year.

Meanwhile, Speedway's sponsorship business is exhibiting good growth, albeit from a smaller base. Last year revenues rose 10.9 percent to $59.2 million. And the near term outlook here is robust. Speedway reports that most of the NASCAR event sponsorships for 2007, and several for 2008, are taken. Pre-sales for other corporate event related revenues are also strong.

So bottom line we expect overall profitability to grow steadily in the years ahead as track investments flow through to attendances and sponsorship. Meanwhile the long term broadcasting deal with NASCAR will underwrite earnings stability. Nearer term, management expect 2007 to deliver turnover of $550-570 million and net income of around $107-111 million.

Expect then the company's cash coffers to get even larger - at last count Speedway had $121 million in the bank. With operating margins just shy of 20 percent the cash generating ability of Speedway should come as no surprise. As a result Speedway has been able to engage in capital enhancing initiatives. Last year the company invested around $17.7 million in stock buybacks.

Robust cash flows have also seen debt levels decline steadily in recent years. Gearing is now just over 50 percent and interest cover extremely solid at around 7 times.

With such a robust balance sheet, and strong capacity to turn out cash, Speedway Motorsports' valuation is compelling in our view. The stock trades at around 15 times forward earnings compared to larger rival International Speedway which is on a multiple of 25 times. In our view investors are paying up for scale whilst ignoring the fact that Speedway Motorsports is just as attractive as an investment proposition.

Rounding off our bullish view of the stock is an encouraging technical picture. In the weeks ahead, further consolidation is possible below the upper end of the triangle, at $41.29. Near term downside risk however is limited with the March low of $36.61 providing support. A rising trendline at $35.55 offers a further buttress.

Given the size and duration of the triangle pattern and the strength of the longer-term upward trend, we believe a sustained break above $41.29 will trigger substantial gains. In time, we believe there is potential for a retest of the all-time high of September 1999 at $47.50. Accordingly, Fat Prophets are waving the green flag on Speedway Motorsports and recommend Members buy around $39.53.