NPK -- “Da Bulls” Part II

In the previous post I discussed my calculation that place the downside price target for National Presto (NPK) shares at $45 which is approximately $25 or 35% below today’s closing price of approximately $70 per share.

So what is the upside potential for NPK shares?

If we make an assumption that the company can grow revenue in the small apps business in line with inflation of 3% and stabilize EBITDA margins, the small apps business becomes a “going concern” and the valuation increases substantially to $54 per share.

If you assume that the defense business turns into a “going concern” and has annual free cash flow similar to 2007 and apply a below market average multiple of 10x the defense business value jumps to about $32 per share from the worst case scenario of $5 per share.

If the absorbents business every shows and operating profit or the company can sell it for more than 50% of what it cost to build the factory and buy equipment just a few years ago this also increases the upside for NPK shares.

Simply assuming that this 100 year old company's two main business lines are going concerns with no growth beyond inflation puts the target price close to $100 per share which represents about 40% upside from current levels.

If one is to assume that the company’s small apps business can grow even slightly above inflation or the company uses its cash to continue to build out the defense business or to make an acquisition with decent ROE potential the upside keeps growing substantially beyond $100 per share.

* DISCLOSURE: I or accounts I manage may be long or short any and/or all stocks mentioned in this post. This is not a recommendation to buy or sell any security. For informational and educational purposes only.

NPK -- "Da Bulls" Part I (Corrected)

I noticed that I made a pretty substantial error in the calculation of per share value for the small apps business posted yesterday.

Instead of subtracting tax expense from free cash flow, I was adding it back and therefore substantially inflating free cash flow estimates. The other change I made is to decrease the amount spent on CAPEX as the small apps business declines in revenue.

These changes produced a substantially lower per share value for the small apps business of $15 which lowered the worst case scenario share price estimate for NPK to $45 from previously estimated $61. Under this new worst case scenario the worst case scenario downside increases to aproximately 30% from the previously posted 8% downside risk.

Instead of reposting with the correct numbers here is the new calculation.

* DISCLOSURE: I or accounts I manage may be long or short any and/or all stocks mentioned in this post. This is not a recommendation to buy or sell any security. For informational and educational purposes only.

NPK -- “Da Bulls” Part I

The bull case for National Presto (NPK) is simply that at current levels the downside risk is very small.

To calculate the downside price target I did a sum of parts valuation using VERY conservative assumptions. Under this valuation methodology, NPK is worth only the value of the small apps business plus the liquidation value of the defense and absorbents business plus the cash on the balance sheet.

I assumed 1.6% revenue growth rate and an annual 50 bps decline in EBITDA margins to estimate the value of the small apps business which means that cash flow declines every year until the business is break even and assumed to be worthless. The net present value of estimated cash flows from the small apps business using a 7% discount rate is $30 per share.

In calculating the value of the defense business I assume the worst case scenario under which NPK delivers on its $250 million stated backlog for 2008 with similar margins as in 2007 which would produce $22 million in after tax free cash flow. At the end of 2008 the business is assumed sold at ½ the dollars invested in CAPEX over the most recent 4 years. Under this worst case scenario the defense business is worth $5 per share.

For the absorbents business I simply assume that its dumped on someone else’s lap at ½ CAPEX over the last 4 years which produces a $2 per share business value.

The last two pieces are the working capital from the two liquidated businesses as well as the current cash on hand which combined is estimated to be worth $24 per share.

My detailed calculations can be viewed here.

The sum of parts valuation under these assumptions is $61 per share which is $5 or 8% below the current price of approximately $66 per share. A worst case scenario downside of 8% is substantially smaller than the potential upside under even modest positive assumptions which will be discussed in the next post.

* DISCLOSURE: I or accounts I manage may be long or short any and/or all stocks mentioned in this post. This is not a recommendation to buy or sell any security. For informational and educational purposes only.

NPK -- “Da Bears”

As with all the stocks profiled on this blog the laundry list of problems with National Presto (NPK) is long and deep. NPK’s second largest business is facing both short and long term pressures, success of the company’s defense business is based on large government contracts that may not be renewed, the company’s management has invested both time and money into the diapers business with very poor results thus far, and the stock is highly illiquid.

National Presto’s appliance business has experienced 1.6% annual sales growth over the last 8 years with the company constantly stating that it cannot raise prices fast enough.

While the decision in 1999 to outsource manufacturing to China was certainly a positive it means that NPK will be negatively effected if the dollar continues to fall and/or inflation continues to stay high in China. These items have already taken their toll with EBITDA margin falling from a peak of 19.7% in 2005 to 18.7% in 2006 and 15.8% in 2007. With the company unable to raise prices fast enough its likely that operating margins in the appliance business will continue to contract.

There is very little visibility in the defense business. Management has not indicated what percentage of defense revenue comes from the Department of Defense (DoD) and what percentage from other sources (police force, etc.). The company has not provided any indication of whether they expect the Department of Defense (DoD) to expand the $1.3B contract after it is filled.

NPK’s fillings state that it expects to deliver $550M of the $1.3B contract (up from initial award of $300M) and based on my calculation the $550M will be mostly filled by the end of fiscal 2008. If this business is not replaced, company EBITDA will fall by approximately 50%.

There is not much to say about the absorbents business other than it’s a mess, no pun intended.

After combing through old SEC fillings, I calculate that since 2001 NPK has invested $36M in CAPEX for total EBITDA of $8M. The annual rate of return has been 3% and that is without including working capital in the equation. This is a very low margin, highly competitive business that is exposed to severe swings in commodity costs (wood pulp and energy) and NPK is never going to be a cost leader in this industry.

* DISCLOSURE: I or accounts I manage may be long or short any and/or all stocks mentioned in this post. This is not a recommendation to buy or sell any security. For informational and educational purposes only.

NPK -- First Look

Current Price: $51
Market Value: $350M
Enterprise Value: $210M
Investment Type: Classic Value

NPK (National Presto) is a designer of small electric appliances and housewares, produces armaments for the U.S. defense department, and absorbent products. Yes, this company makes toasters, bullets, and diapers.

While operating income from the defense segment now accounts for almost 2/3 of total, NPK has been an innovator in the small appliances category for almost 100 years (a very interesting history can be found here).

The last couple of years have been eventful for NPK, to say the least. Most importantly, the company defeated the SEC in appeals court reversing a decision forcing NPK to be classified as an investment company due to NPK’s large cash hoard. Being classified as an investment company means more government oversight and reporting costs. Keep in mind that the original SEC action in 2002 was not due to accusation of destruction of shareholder value or executive wrong doing, rather due to SEC’s jihad on public companies prompted by the still fresh memory of the Enron and Worldcom debacles.

NPK hired and than promptly fired its new auditors 12 months later. According to this press release from the company, it hired one firm to perform the audit and another to perform the tax work. It is common practice to have the same firm do the audit and the tax work so NPK asked for bids and the firm originally hired to do the tax won.

On top of all that, the company’s CFO resigned “to pursue an opportunity as a financial advisor.” While I have no evidence to the contrary, I have a hard time believing someone would willingly resign a high paying executive position to be a cold calling stock broker.

Despite all the “noise,” NPK had an outstanding operating year. Revenues grew 38% (on top of 65% growth in the previous year) and operating income great 50% (after growing 83% the year before). The company ended the 2007 fiscal year with $142M in cash & securities and no long term debt after paying $4.25 per share dividend on 3/2008 and $3.80 per share a year before.

In the posts to follow I will discuss the bullish and bearish aspects of NPK.

* DISCLOSURE: I or accounts I manage may be long or short any and/or all stocks mentioned in this post. This is not a recommendation to buy or sell any security. For informational and educational purposes only.

The Quintessential Buffet

I was cleaning out some old emails and ran across this NYT article dated 12/29/07 regarding Buffet’s decision to enter the bond insurance business but published prior to the offer he made to buy the municipal bond business of the troubled monolines.

This article follows the basic boiler plate for Buffet related articles, mentioning that Berkshire is doing well while others are suffering, that buffet has added to his positions in USB and WFC, and talks about new positions in BNI and KMX (it was later released that KMX was bought by Lou Simpson who is the CIO at GEICO and a Superinvestor in his own right).

However, about half way through the piece came this gem of a quote from the maestro himself:

"We had no compulsion at the start of the year to do anything ….. On the other hand, there was no limit to what we could do."

I think most agree that Buffet and a select few other professional investors are simply better at their chosen profession than everyone else, much the same way that Michael Jordan and Tiger Woods are better and will always be better than everyone else.

However, what many don’t realize and this quote again proves is that Buffet is playing a completely different game than everyone else. I feel lucky to be able to watch and learn.

FTAR Makes it Official

Yesterday morning FTAR filled the long expected 8K stating that the KMart contract will not be extended beyond 12/31/08 which effectively means the company will wind down and cease to exist shortly after the end of this year. KMart will pay $13M for FTAR’s intellectual property (i.e. ThomMcAnn) as well as honoring the post-bankruptcy master agreement which stipulates that KMart will buy all inventory at book value. Also, the company will be terminating retiree benefits and life insurance which will remove $14.7M of long term debt from the balance sheet and result in a one time earnings gain.

This announcement essentially puts in writing what everyone already knows and makes the investment thesis even simpler. I have updated my figures ( for the most recent news and believe that at worst FTAR is worth $7 per share (up 45% from current levels) and at best $8.4 (up 75%).

[**I am still trying to figure out how to post Excel tables in Blogger so I will add my calculations for the $7 and $8.4 price as soon as I get a hang of this. If you have any suggestion on how I can do this other than posting a picture file that is all but unreadable let me know at offthebeatenpathinvestments@gmail.com]

The biggest difference between the worst and best case scenarios is my estimate of 2008 FCF generated by FTAR. In the worst case I assume sales down 10% over 2007 and some margin erosion while in the best case I assume flat YoY sales and slight margin expansion.

There could also be upside if FTAR sells its HQ for higher than book value, if the non-KMart business is worth more than $0, $80M in NOLs are worth more than I expect, and wind-down costs are less than I estimate.

FTAR currently represents 10% of the “Best Ideas Portfolio” (and roughly that much of my own account) and I plan on raising the stocks weight to 15%.

* DISCLOSURE: I or accounts I manage may be long or short any and/or all stocks mentioned in this post. This is not a recommendation to buy or sell any security. For informational and educational purposes only.

NOOF -- Final

The key bearish case for NOOF is that the company has no bargaining power against the cable/satellite companies and any above average profit margins will be constantly eroded which means the stock deserves a low multiple. Also, the company is allocating a lot more cash to the very volatile content creation business essentially trying to build a tiny movie studio. Due to the nature of the “content creation” business, movie studios have generally been very poor investments.

The key bullish case is the recent positive earnings news and trading at 7.3x EV/FCF the company continues to look cheap. Also, all indication point that NOOF is the premier name in the business and should continue to win distribution partnership with brand owners like Penthouse.

Based on my estimates of FCF, the $0.50 per share annual dividend is safe. However, there will be nothing left to reinvest in the business which stifles future earnings growth and any future dividend increase.

Keeping in mind that NOOF is hostage to the cable/satellite companies, I have a hard time envisioning any valuation expansion from current levels. Even if growth returns to 10% annually and I assume a multiple of 10x FCF/EV in 3 years, I get an implied 3 year total return of 80%.

While 80% upside over 3 years certainly looks attractive, the downside is also substantial. I think NOOF will continue to face both long term and short term revenue pressure from its other 3 customer who will expect to renegotiate their contract and get the same deal as EchoStar. Any abnormal earnings return will be taken away by the network providers.

Adding to this company specific issue is the fact that traditional media companies will continue to face pressure from online players and while they will adjust their business models I have a hard time seeing much valuation expansion in a more competitive operating environment.

Simply stated, I don’t feel the downside justifies the upside and since I am not willing to buy more shares at this price I have now choice but to take the loss and liquidate my position.

* DISCLOSURE: I or accounts I manage may be long or short any and/or all stocks mentioned in this post. This is not a recommendation to buy or sell any security. For informational and educational purposes only.

NOOF -- “Da Bulls” (improved earnings + very low valuation)

The Bull case for the stock is that there has been some positive earnings news recently and the fact that the stock continues to look tantalizingly cheap based on free cash flow.

NOOF has come off the $4 lows on the recent positive earnings news released on Feb. 5. Total sales were up 8% while the market expected a double digit slide experienced in the previous two quarters. EBITDA was up slightly which compares favorably to the 40%+ decline in EBITDA experienced in the previous two quarters.

Looking at the revenue breakdown in detail, one notices that the company’s largest business – Pay TV –is still experiencing double digit revenue declines. The upside came entirely from huge increase in revenue in the Film Production group as the company completed a “producer-for-hire” arrangement which was not there last year.

The CEO, Michael Weiner, stated on the latest conference call that he believes that the YoY revenue decline in Pay TV is over and next quarter will show positive YoY revenue growth. This implies that the company has been able to offset the re-rate with new products which is a very good sign.

The stock also continues to look very cheap despite the huge decline in profitability. Here is how I am looking at free cash flow:

Reported EBITDA $5.43M
Adjust for large one time deliverables in Film Group $(0.4M)
CAPEX $(0.5M)
Tax $(1.8M)
FCF* $3.0M
Annualized FCF* $12M
EV / FCF 7.3x
Cash Yield 14%

*Excludes “Content Amortization” expense and “Cash Investments in Content”. NOOF uses “film accounting” where they capitalize NOT expense the cash costs spent to produce films and than expense it over time in the form of amortization.

There has been some insider purchases recently as 3 different directors bought a combined $50K of NOOF on the open market. It should be noted that one of the largest shareholders, an activist fund called Steele Partners, has been dumping shares recently.

If NOOF can string together a few consecutive quarters of free cash flow growth, the stock would look even cheaper.

* DISCLOSURE: I or accounts I manage may be long or short any and/or all stocks mentioned in this post. This is not a recommendation to buy or sell any security. For informational and educational purposes only.

NOOF -- “Da Bears” (The Hammer Comes Down)

The Bear case is simply that NOOF has no bargaining power with its distribution partners – the cable and satellite companies – and future earnings will continue to be eroded by tough negotiations with these network owners.

The hammer came down in the first fiscal quarter of 2008 (6/2007) when the company reported that total revenue fell by 21% and decline by 17% in Pay TV segment, the company’s largest and most profitable. On top of the sharp revenue decline, administrative expenses actually INCREASED so EBITDA fell by a staggering 49% and operating eps declined by 47% to $0.08 per share (eps declined slower than EBITDA due to slightly lower depreciation).

The market did not take this news lightly and the stock cratered from approximately $8.50 to $6 in the first two weeks of August.

Why the sharp drop in revenue and earnings?

The company renegotiated its contract with EchoStar and under the new terms they will be receiving less of the revenue split. While not much more about the deal other than the 3 year duration was announced, it appears that EchoStar was able to increase its share of the split by 20%-25%.

Because the company has such high operating leverage—high operating leverage means that a larger portion of each dollar of revenue drops to the bottom line—a 20% decline in revenue caused a much larger decline in operating earnings.

The following quarter (second fiscal 2007) the performance was not much better. Revenue was down 23%, EBITDA fell by 40% and eps was down 40% YoY. On a free cash flow basis, NOOF earned $2.8M from $5.6 generated the previous year.

The recent fundamental and stock performance has clearly highlighted NOOF’s Achilles heel. Despite all indications that NOOF is the premier adult entertainment content distributor in the business, the company has no pricing power with its distributors. Future above average earnings will continually be eroded by cable/satellite operators.

* DISCLOSURE: I or accounts I manage may be long or short any and/or all stocks mentioned in this post. This is not a recommendation to buy or sell any security. For informational and educational purposes only.

NOOF -- First Signs of Future Problems

Looking back, the first signs of problems to come appeared in fiscal 2007 (fiscal 2007 ended in 3/2007 calendar) despite the fact that by all indications fiscal 2007 was a great year for NOOF. Total revenues were up 35%, EBITDA increased 19% and the stock had a total return of 26% (3/2006 to 3/2007) and traded above $10 for a little while.

So where is the problem?

Per the 10K, total Pay TV revenue in fy2007 grew by 9.5% while the number of households reached increased by 39%. While you can’t simply assume that total Pay TV revenues and network households are immediately and perfectly correlated but such a huge divergence in reachable households and revenue should have set off warning bells that NOOF has no pricing power.

In the 2007 10K, NOOF stated that network households increased due to addition of new channels to a current platform (good sign) but they also renegotiated a rate split in place since 2000 with that platform provider.

Clearly, one of the bullish aspects regarding NOOF at that time was the valuation. Based on the stock price in June 2007 (when the fy2007 10K was filed) and the last 12 months of free cash flows the stock looked abnormally cheap:

Market Value at $8.5 per share = $209
Enterprise Value = $181
Latest 12M FCF = $22 (EBITDA-Cash Tax-CAPEX)
EV / FCF = 8.2x

When taking into account the fact that NOOF has grown revenues and EBITDA in each of the last 4 years and that average EBIDA margins for the last 4 fiscal years were north of 40%, NOOF seemed like an abnormally cheap stock.

* DISCLOSURE: I or accounts I manage may be long or short any and/or all stocks mentioned in this post. This is not a recommendation to buy or sell any security. For informational and educational purposes only.

NOOF -- First Look

Share Price: $4.5
Market Value: $107M
Enterprise Value: $88
Investment Type: Value Investment

New Frontier Media, Inc (NOOF) is one of the largest distributors of adult entertainment (aka porno) through U.S. cable and satellite networks. The company estimates that it can reach almost 140 million households. Recently, NOOF has started creating its own erotic and mainstream content.

The company is made up of several business lines:

1) Pay TV (recently renamed “Transactional TV”) has historically been NOOF’s largest source of revenue and income. This business unit has provided content for cable/satellite operators either in the form of subscription channels or Video-On-Demand (VOD). The company makes money buy paying the content providers and splitting the revenue with the network operators. It’s key to understand that historically NOOF has not created the content, primarily serving as a middle man between the content creator and owner of the distribution network.

2) Film Production is a new business segment for NOOF, created almost exactly two years ago when the company acquired MRG Entertainment. This group creates original erotic content, acts as a representative for content created by others (porno agent), or as a “producer-for-hire” hired by major studios to deliver a movie or TV series. NOOF paid $21.1M for MRG in an all cash transaction in February 2006.

3) The Internet Group does exactly what the name implies – sell porno on the internet—and is the smallest revenue and profit generator for NOOF. NOOF provides the large cable/satellite networks with new channels and selected content and splits the revenue generated based on negotiated rates. Growth comes mostly by adding new channels to current networks.

Historically, NOOF has not created the content or own the network allowing for very little working capital and Capex costs. Due to low investment requirements, the company has produced an average ROE over the last 4 years of 27%. The other side of that coin is that NOOF has very little bargaining power when renegotiating revenue splits with the network providers.

I purchased NOOF in 3 parts between June 2006 and May 2007 for an average cost basis of $9.09. In that time I have received $0.875 in dividends (one of my 3 purchases occurred after the special dividend of $0.60) which brings my costs basis to $8.215. With the stock so much below my initial purchase price I can no longer just hold it, I have to make a decision to either buy more or start liquidating the position.

* DISCLOSURE: I or accounts I manage may be long or short any and/or all stocks mentioned in this post. This is not a recommendation to buy or sell any security. For informational and educational purposes only.

Thornburg’s Pain will be Chimera’s Gain

Thornburg Mortgage (TMA) has declined from $3.56 two days ago to $1.65 today. The stock traded at $26 in May 2007. The company is in technical default and it appears to be heading towards an actual default.

Thornburg Mortgage has historically been one of the best managed mortgage REITs in the world. These have always owned AAA rated paper and did not change their stripes in the go-go days of the housing market to boost short term profits. The management is dedicated, transparent and has put their own money on the line by buying in the open market.

There is no better way to describe what is happening to TMA other than a Black Swan event. Make no mistake about it, we are witnessing a dislocation in the credit markets that can be best described as tectonic plates shifting against each other and causing all kind of havoc with TMA caught in the middle.

What is happening to TMA?

The market for non-agency paper is all but closed. Trades that are completed price these mortgages at lower and lower levels. That means that large holders of non-agency paper—like TMA which owned a $36B portfolio of non-agency, AAA rated, ARM loans at the end of the last quarter—have to constantly mark-to-market at lower prices. At some point the portfolio gets marked so low the people lending money to TMA get scared and start asking for some of it back.

This is where things get interesting, since the repo provider can either try to work out a deal with TMA and avoid a forced liquidation or ask for their money back NOW (a.k.a. margin call).

It appears that one or more of TMA’s lenders got spooked. Faced with a margin call, TMA was than forced to sell at the worst possible time which caused further price erosion and decline in the stated value of the rest of their portfolio. JP Morgan may have dealt the fatal blow, putting the company into technical default and triggering a waterfall of other debt covenants. The rating agencies lowered their ratings on the company (not the mortgages they own) further into junk making it impossible for the company to borrow more money.

So how does all this effect CIM?

Well, for every seller forced at gun point to liquidate there is a buyer with cash and time. When TMA and others--and there are many others, just today it was announced that UBS is dumping its Alt-A loans and Citi will be liquidating $45B in mortgages over the next 12 months--are selling CIM will be buying at better spreads than they were even a month ago.

The short term price drop of CIM and other mortgage REITs does not change the thesis I laid out in these posts.

CIM is still managed by some of the smartest people in the business. They are still one of the only buyers in the market and can set their own price. They have only been in operation since November 2007 and still have a very small portfolio that was already bought at the discount. And now CIM is trading at below book value of $14.25.

I have added to my initial position in the “Best Ideas” portfolio as well as my personal accounts. I will continue to add to my position if the stock continues to fall.

* DISCLOSURE: I or accounts I manage may be long or short any and/or all stocks mentioned in this post. This is not a recommendation to buy or sell any security. For informational and educational purposes only.

INFS -- Comments from the Conference Call

As I discussed in the previous post, INFS reporting their first operating profit was certainly better news than the alternative. However, while analysts were congratulating the CEO on “a great quarter” there were two statements made that seem extremely disconcerting to me.

First, the CEO enthusiastically pointed out that 80% of the company’s products have been refreshed over the last 2 quarters. New products are the only way a technology company can grow as they replace the old technology that’s quickly falling in price with newer, more expensive products.

So am I the only one concerned that with 80% of the product line upgraded over the last 6 months, ASPs (average selling price) are DOWN 20% year-over-year?

Q4:2007 ASP=$856 94K units shipped
Q3:2007 ASP=$882 85K units shipped
Q2:2007 ASP=$1,022 72K units shipped
Q1:2007 ASP=$853 91K units shipped
Q4:2006 ASP=$1,090 79K units shipped
Q3:2006 ASP=$1,097 74K units
Q2:2006 ASP=$1,162 84K units
Q1:2006 ASP=$1,191 94K units

The second comment that is making me lose sleep at night is the following:

“the projection market is fiercely competitive excluding a few notable segments has been commoditized. … We [InFocus] will be faster to market with new products and better price points.”

My interpretation of this statement is that instead of trying to use its industry relationships and intellectual property to move up-market, INFS is going to try to compete on price. Compete on price against giant Asian manufacturers (Sony, Sharp, Panasonic, etc) with unlimited financial resources, diversified streams of revenue which means they can lose money on projectors for a few years, and cheaper labor pool.

When I look at INFS I see a company that can’t raise ASPs even with brand new products and a company that has decided to pick a fight it has a very small chance of winning. This is why I am not bullish on the long term prospects for my INFS shares.

So why am I still holding on to my position and buying more?

Despite the long term problems, I feel that INFS is trading at least 50% below liquidation value. And that’s just to good of a deal to pass up.

I am not particularly bullish on Las Vegas real estate but if someone offered to sell me a house in Vegas for half of what the cabinets, shingles and tiles inside were worth if sold separately I would jump on that opportunity.


* DISCLOSURE: I or accounts I manage may be long or short any and/or all stocks mentioned in this post. This is not a recommendation to buy or sell any security. For informational and educational purposes only.

INFS -- Operating Income Turns Positive

Last time I posted on INFS I was pretty critical of the new CEO and stated that I am “seriously rethink[ing] my investment …. and I am considering cutting my losses.”

I still stand by my statements and more I think about the long term prospects for INFS the more I want to push the SELL button. However, the current undervaluation seems so egregious that I am willing to overlook the crumby business and less than inspiring CEO and hold on to my shares.

INFS reported fourth quarter earnings last week and posted an operating profit for the first time since anyone alive can remember. Excluding the $3.7M charge for lease losses on vacated facilities, INFS posted Operating Income of $1.1M or $0.09 per share in the company’s seasonally biggest quarter. Since I did not cover the 3^rd quarter, I will cover both at the same time.

The financials broke down as follows:

Q3:2007 results
Revenue $76M -- down 7% YoY
GProfit 13.8
GMargin 18.2% -- vs. 16.3% in Q2, 10.9% in Q1, 12.7% in Q3:06
EBT $(3.56)
D&A 1.0 -- estimated number since no CF statement yet
EBITDA $(2.56)

Q4:2007 results
Revenue $81M -- down 3% YoY
GProfit 16.5
GMargin 20.4%
EBT $1.1 -- excluded $3.7M lease write-off charge
D&A 1.0 -- estimated number since no CF statement yet
EBITDA $2.1

Q4:2007 ASP=$856 94K units shipped
Q3:2007 ASP=$882 85K units shipped
Q2:2007 ASP=$1,022 72K units shipped
Q1:2007 ASP=$853 91K units shipped
Q4:2006 ASP=$1,090 79K units shipped
Q3:2006 ASP=$1,097 74K units
Q2:2006 ASP=$1,162 84K units
Q1:2006 ASP=$1,191 94K units

Operating expenses excluding the lease charge were $15.4M, which was the target set previously by management. Based on comments made on the conference call, investors should not expect any further significant improvements in gross margins and operating expenses.

The balance sheet continues to be a thing of beauty with $84M in cash and zero debt or $2.11 per share in cash. In addition to the cash on hand, INFS still has over $200M in NOL’s.

In this post I calculated that if only half of the NOL’s can be used over the next 10 years they are worth roughly $1.50 per share today. So a stock trading at $1.70 has approximately $3.50 in cash on hand and NOL’s. The company also has an intellectual property portfolio that maybe worth something.

While I am not particularly bullish on the long term prospects for this company I believe that the stock is currently trading substantially below liquidation value. INFS represents 2.75% of the “Best Ideas” portfolio at a cost basis of $2.03 per share. I will be increasing the weighting to 4% of the portfolio.

* DISCLOSURE: I or accounts I manage may be long or short any and/or all stocks mentioned in this post. This is not a recommendation to buy or sell any security. For informational and educational purposes only.

CIM -- Taking a look under the hood ….

CIM released their first ever quarterly earnings report a few days ago. It appears that things are moving along and the company is ramping up its portfolio.

The key number from this report is the average spread on assets which is currently 134 bps annualized Here are my ballpark estimates of what earnings power for CIM will be over the next 12 months:

Book Value $539M
Earning Assets @ 8x - 10x leverage -- $4.85B to $5.93B
(book value * leverage factor + book value)
Spread on Assets -- 130 bps
Net Interest Income -- $63M to $77M
Base Management Fee -- $9.4M (book value * 1.75%)
Incentive Fee* -- $7 to $9.8M (assume 3% LIBOR)
Core Earnings -- $47 to $58M
Estimated EPS -- $1.24 to $1.54
Yield at current price of $19 -- 6.5% to 8.1%

*The incentive fee is even more of a moving target than net income estimates because it depends on net income and LIBOR which constantly changes.

Currently, CIM’s portfolio is almost entirely AAA rated mortgage backed securities and they are still building out the portion of their portfolio that will be in the form of securities. The next step will be to build the portfolio of the portfolio consisting of actual loans. The yield on raw loans should be higher and should help push the spread beyond 130 bps.

What is a realistic estimate for Core Earnings going forward?

I think looking at NLY is the first step in answering that question. NLY also reported earnings a few days ago and ended the quarter with spread of 99 bps. NLY is currently priced for that spread to increase.

I think its safe to assume that CIM will earn a higher spread than NLY, they already do. At a spread of 150 bps I get a current yield of 7.5% to 9.5% (P/E of 10x-13x). At 200 bps spread which is not unreasonable I get a yield of 10%-13% (P/E of 8x-10x).

I think at current levels CIM represents an attractive opportunity to earn a decent return on investment. If the stock were to sell off closer to book value of $14.26 the stock would become even more attractive.

I initiated a ½ percent position in the “Best Ideas” portfolio, and I will be raising this position to 2% after this earnings report.

* DISCLOSURE: I or accounts I manage may be long or short any and/or all stocks mentioned in this post. This is not a recommendation to buy or sell any security. For informational and educational purposes only.

BOOT -- 4th Quarter Earning Analysis

When BOOT last reported earnings, I wrote that next time I will be watching for “trends in gross margins and SG&A as % of sales and if revenue is trending above or below the 8% level set by management as the goal. I will also be watching the change in A/R relative to sales.”

In that post I also stated that analysts (in BOOT’s case just one analyst) were underestimating the earnings power and I felt the company would report 45c per share in Q4 earnings.

BOOT reported Q4 earning on Januray 29^th of 38c per share which is up 8% YoY however below the 40c per share analyst estimate and my 45c per share estimate.

I am not going to waste time by regurgitating the earnings release which you can read yourself and will just state that the company blamed the unseasonably warm October and November for the 2% decline in outdoor footwear sales and the earnings miss.

The work market continued to chug along with 8% top line growth and both gross and SG&A margins improved on a YoY basis. The large inventory growth vs. sales was blamed entirely on the warm weather with the CEO stating on the conference call that BOOT is not going to take markdowns on this access inventory as its all basic, high turnover outdoor hunting products.

The CEO also hinted on the conference call that the decline in weather in the beginning of the first quarter is helping sell this access inventory. I believe the CEO’s is hinting that almost everything that was not sold in Oct/Nov is being sold in Dec/Jan. It was also announced that the company instituted a 3%-5% price increase across the board on its products in January.

Today, BOOT announced a special $1 per share dividend as well as its regular quarterly dividend to be paid March 18^th.

So, how attractive is the stock today? Here is how the numbers break down at ...

Market Value $89M
Cash on Hand $15M
Enterprise Value $74M

Estimated fcf over next 12 months $7.5M - $7.8M
Current Cash Yield 10% - 10.5%
Current Multiple 9.5x - 10x

If in fact the weather effected Q4 sales, than there should be another few million that will be dislodged from inventory and into cash in Q1 as sales catch up and that will lower the EV/free cash flow multiple to 9x – 9.5x.

At the time of the Q3 report I also wrote that “I think a fair price to pay is somewhere between $17.5 to $20. I am not wildly excited about paying 13x-15x forward cash earnings but would allocate new money to this tock since you do get a growing company with growing margins and a fortress balance sheet.”

I think the recent earnings miss is just a short term bump in the road and I am getting more excited about the long term capital appreciation prospect as the multiple falls below 10x. At this point, you get to buy a company with premium brands, fortress balance sheet with cash being returned to shareholders and you are paying a sub-10x cash flow multiple. Even if the next 12 -24 months are a little bumpy, in the long term BOOT shareholders will benefit from 8%-10% earnings growth as well as multiple expansion from the current sub-10x level.

In the next quarter I will be primarily looking for indication that the misstep in Q4 was due to weather rather than some broad negative trend. As always I will be looking for margin trends and changes in inventory and A/R relative to sales.

* DISCLOSURE: I or accounts I manage may be long or short any and/or all stocks mentioned in this post. This is not a recommendation to buy or sell any security. For informational and educational purposes only.

My favorite commercial of all time ......




Am I watching SBUX?

Of coarse I am.

Starbucks is the kind of company I dream of owning but never get to buy because of the valuation. The stock has almost been halfed in the last 2 years but I am still not buying shares. My guess is that Frapaccino's are susceptible to the laws of economics just like any other consumer discretionary item and as the recession plays out there will be more pessimism and a better opportunity to buy the stock.

Buy I will enjoy this commercial while I wait.

CIM – Final Thoughts

To get to this point I have written 4 long posts on CIM covering just about every aspect of this investment and company in great detail. I can probably summarize all this verbiage by simply saying that CIM represents a pool of capital that will be invested by some of the smartest minds in the business at a time where they will be one of the very few buyers in the market and should be able to produce above average returns on invested capital over a 3 to 5 year period.

At this point there is not much to CIM other than cash and the investments the company has made since going public 2 months ago. For this, investors buying the stock today have to pay more than $4 per share premium to book value or 1.3x book value.

While CIM certainly deserves to trade at a premium to book, I think many investors are overlooking the fact that CIM’s earnings are going to be very volatile and in this kind of market environment I believe the stock is going to move hard and fast around these data points.

I think CIM is going to be a long term winner and I will be adding it to the “Best Ideas” portfolio, however at current prices I am only willing to initiate a very small position in the stock.


* DISCLOSURE: I or accounts I manage may be long or short any and/or all stocks mentioned in this post. This is not a recommendation to buy or sell any security. For informational and educational purposes only.

Abscense from posting ........

I have not concluded my post on CIM as I left on vacation last week without writting out a few posts in advance. I don't plan on writting anything the rest of my vacation and will resume when I get back.

In the meantime here is an example of a fairly common occurance when dealing with small/micro cap stocks -- unrelated and uncommon businesses. Attached below is a business description for EEI, a stock I decided to not research further for a reason I don't remember and a company I looked at for a reason I can't now recall. The highlighted part made me chuckle.......

"Ecology and Environment, Inc., an environmental consulting firm, provides professional services worldwide. The company offers a range of environmental consulting services, including environmental planning, management, and regulatory compliance support. It provides engineering design, and operation and maintenance; environmental emergency management; and environmental sustainability. Ecology and Environment, Inc. offers environmental services encompassing audits and impact assessments, surveys, air and water quality management, environmental engineering, environmental infrastructure planning, and industrial hygiene and occupational health studies. ....................In addition, it produces tilapia fish for markets in the Middle East."

* DISCLOSURE: I or accounts I manage may be long or short any and/or all stocks mentioned in this post. This is not a recommendation to buy or sell any security. For informational and educational purposes only.