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Seeing Timkensteel as takeover candidate, Hodges fund buys its shares

By David Randall

NEW YORK, Jan 23 (Reuters) - Timkensteel Corp, a producer of high-quality steel used in products ranging from oil rigs to fighter jets, looks to be an attractive takeover candidate as its shares slide, said Eric Marshall, lead portfolio manager of the $1.3 billion Hodges Small Cap fund.

Marshall, whose fund is among the top-performing small-cap funds over the last five years, has added more than 100,000 shares of the $1.4 billion market cap company to his portfolio.

Shares of Timkensteel have fallen 20 percent since the start of the year, and are down more than 30 percent since the company was spun off from parent Timken Co last July as investors have moved away from anything related to the energy sector. Energy-related products account for approximately 30 percent of Timkensteel's revenues, according to Thomson Reuters data.

"If you look out across the universe of steel companies, Timkensteel is one of the best takeout candidates" because it makes higher quality steel that could be easily integrated into a larger competitor such as United States Steel Corp, Marshall said.

Marshall said the disclosure on Jan. 7 by privately-held Ellwood Group, which is a both a customer and competitor to Timkensteel, that it took a 5 percent stake in the company between the end of December and early January bolsters the chance that Timkensteel could be acquired.

"We think the stock is pretty attractively valued, and apparently Ellwood thinks the same," Marshall said.

Ellwood, in a filing with the U.S. Securities and Exchange Commission on its stake in Timkensteel, said it "purchased the Shares based on its belief that the Shares, when purchased, were undervalued and represented an attractive investment opportunity."

Timkensteel did not comment directly on whether the company is in takeover discussions with Ellwood.

"Ellwood Group is a customer of Timkensteel, and we've had a long and valued relationship with them. Now, they're also among our larger shareholders" company spokesman Joe Milicia said in a statement to Thomson Reuters on Thursday.

Only two analysts cover the company, according to Thomson Reuters data. Both have a buy rating on the shares, with an average target price of $45, or roughly 45 percent more than its closing price on Thursday. The company trades at a below-average trailing price to earnings ratio of 12.

Not all large shareholders of Timkensteel are as optimistic as Hodges. One fund manager, who is one of the 10 largest shareholders in the company and did not want to be identified revealing trades that are not yet public, has been selling his fund's stake.

"Not even the best activist investor is going to be able to do much" if there is a prolonged slowdown in oil production, he said.

(Reporting by David Randall; Editing by Linda Stern and Grant McCool)