Saturday, October 13, 2007

Sycamore Networks -- A Value Trap (SCMR)

SCMR at first glance is a valuation play, with $3.25 of cash and short-term investments on the books and the stock trading at $4.04. Their earnings have been all over the place, but it looks like their revenues are starting to grow slowly. With the acquisition of Eastern Research, pro forma results indicate growth of roughly 10% in revenues FY07 over FY06, but still the company was not profitable. The company is actually far from being profitable considering it had a $60 mln loss from operations, the reason SCMR came so close to breaking even is that the company earned over $47 million from the cash hoard. Analysts roughly project a 13% growth in revenues in FY08. The market is currently valuing SCMR as cash on hand plus 1.5x sales, that sounds about right.

Lets say an investor takes and tries to value Sycamore through their non-GAAP earnings trailing P/E. That would give a trailing EPS of $0.09, but once Interest Income is netted out, that leaves a non-GAAP loss of roughly $0.07 per share. Even in FY06 when the company was GAAP profitable, netting out interest income would give a loss of roughly $0.07 per share.

With Sycamore projected to grow revenues 10% over the the next 2 years, and no GAAP profitability net of interest income, this looks like it is valued properly on the market. Regardless of the sales multiple an investor value SCMR at, it will not be much different than the value of the company right now. There are also no catalysts on the horizon. It could be worth something when its trading closer to cash value, but there is not enough upside to get involved.

Disclosure: I don't have a position in SCMR.

Thursday, October 11, 2007

American Software is fairly valued (AMSWA)

So there has been a lot of talk regarding American Software on the Yahoo Message boards and in the MF Caps, everyone seems to think its undervalued and a great "Asset play." From further analysis, it is far from it. Here is the math:

AMSWA owns 88% of LGTY = $165.8 mln
Cash on the books is $75.6 mln, but $30 mln is from LGTY so net of $45.6 mln
So that gives a value of $211.4 mln for AMSWA so far.
The last portion of the calculation would be AMSWA the company, separate from LGTY. The last three years for AMSWA performance has been dismal separate from LGTY, their Net Income has roughly been $3.16 mln, -$2.03 mln, and $3.82 mln. They have roughly 26.8 mln shares outstanding which leads to roughly $0.06 per share on average over the past three years. Maybe a P/E of 10 in the best case scenario gives a valuation of $0.60 for AMSWA solo. Here are the revenue calculations:



So, $7.89 valuation of cash on the books plus LGTY stake. Plus a valuation of $0.60 for the co itself suggests roughly a $8.50 valuation for each AMSWA share. With a P/E of 20 that yields roughly a $9.10. Regardless of how an investor values AMSWA by itself, the stock is fairly valued. The only reason AMSWA stock has been moving has been because of LGTY.

Disclosure: I don't have a position in AMSWA.

Saturday, October 6, 2007

Forward Industries Update (FORD)

A few weeks ago a lawsuit against the company was dismissed, it roughly saves the company $200k a quarter. This won't have a significant effect on Q3 earnings, but its roughly $0.10 per diluted share a year afterwards. Not too big, but when the stock is trading for only $3.20, that is significant. There has not been much significant news besides that, except that price has been slowly rising and there has been a significant pickup in volume since the lawsuit was dropped. This could still be a case of the "value trap," but I think based on their past history, I think the company will be able to turn around falling earnings in the near future. Management has done a good job of managing their balance sheet, most of their book value is back by cash on the books. Accounts Receivables has also been shrinking. FORD still has $2.67 of cash per share and that gives a significant downside protection, that's roughly a 20% downside. Investors still have to watch for new contracts and if the Motorola contract will be renewed as it expires at the end of the year. Any positive news will send the stock running with the low float and small market cap. I think it is worth the risk at these prices.

Disclosure: I am long FORD.

Friday, August 17, 2007

Cash Rich Companies

I have been looking through lists of lists of companies and decided I wanted to something a little different than the usual Magic Formula Stock write up. I decided to find companies with rock solid assets. Basically, something I KNOW that the company has and I don't have to analyze or value. Well, there is nothing better for those purposes than cash. Here is a list of companies and a brief summary of companies that have at least 75% of their share price covered in cash + short-term investments net of debt. Thanks to CHEAP STOCKS as some of the companies I found were straight from them.

FORD - Forward Industries designs, markets and distributes carrying cases for portable electronics such as cell phones, cameras and other consumer electronic products. The majority of their business is cell phone cases/accessories and cases/accessories for diabetics. They have had a recent drop off in sales due to the change of strategy at Nokia and Motorola to not package cell phone accessories with their cell phones. They have $2.67 of cash per share, they are currently trading at $2.80. Insiders own 10% of the company. There has been recent insider buying.

USEG - US Energy is involved in a handful of businesses but their main business is in acquiring, exploring, developing and/or selling or leasing mineral and other properties. I can't figure out why they are down, most likely because most of the other miners are down as well. But here is the breakdown, they have $4.44 of cash and short-term investments and marketable securities on their books net of debt. They are currently trading for $4.60 a share. Insiders own 19% of the company.

ANDS - Anadys Pharmaceuticals, don't know anything about this company besides that it's a pharmaceutical. I just know they have $2.40 of cash per share, and they are currently trading at $2.10. 8% of the company is owned by insiders. There has been some major insider buying recently by the CEO.

ADPT - Adaptec provides storage solutions that reliably move, manage and protect critical data and digital content. They were a high flyer in the tech bubble. ADPT has been down trading in this range for a while, it's not new for them. They are sitting on $3.11 of cash and marketable securities net of debt per share and are trading at $3.54 a share. Steel Partners has been aggressively purchasing shares of ADPT, they own roughly 15%.

SCMR - Sycamore develops and markets optical networking products and provide services associated with such products for telecommunications service providers worldwide. Another tech bubble high flyer, they have $3.20 of cash per share, and trading for $3.90. They also have been trading in the lower range as of recent. Almost 36% of the company is owned by insiders. There is also a legendary value investing mutual funded invested in SCMR, Third Avenue Management.

All of these companies are sitting on piles of cash, that's an excellent margin of safety right there. You are buying the operations of these companies on pennies on the dollar. An activist shareholder or a buyout would be the logical solution to value these companies properly in the open market.

Sunday, July 15, 2007

New Frontier Media: 6% Yield Attractive

New Frontier Media is in the adult entertainment media business. They have three different segments that provide products for that market. First, they have a Pay TV Group which distributes adult TV to cable and satellite companies through pay-per-view and video-on-demand. This is the biggest segment and a majority of the revenues come from the Pay TV Group. They also have the Film Product Group which produces original adult themed movies and is a sales agency that helps independent filmmakers license their product; they were acquired in February of 2006. Their third segment is the Internet Group which distributes adult content through the internet.

They recently had earnings in early June and missed analyst estimates and that sent the stock down. The big contributor to the earnings drop was an increase of 43% in operating expenses. Organic revenue growth, not taking into account the Film Production Group acquisition, was negative compared to the same quarter last year.

Industry

Their primary competitor in the Adult Entertainment TV industry is Playboy and to a minor degree Hustler and Playgirl. They do face competition from other sorts of erotic material such as adult video/dvd rentals, adult books and magazines, telephone adult chat lines and other adult oriented services. Kagan Research LLC predicts that the adult pay-per-view and video on demand market will grow to $1.4 billion in 2014, the last recorded figure for this was 2004 when it was $761 million.

The adult entertainment industry on the internet is ultra competitive and websites are constantly competing with each other for new members. The Film group competes with other adult video producers like Girls Gone Wild and Jerry Springer Uncensored. The sales agency competes with other similar companies.

Company

There has been a very positive development in the TV segment in that Playboy is struggling with their adult entertainment TV and that could create a big opportunity for New Frontier Media to increase their penetration to more households. The big advantage that their TV has over Playboy’s is that they offer a wide variety of adult content from a lot of different independent producers, they do not use their own movies, this gives their TV channels an edge over Playboy’s. Their TV channels are the market leaders in adult oriented TV.

Their revenues have been growing at a very slow rate as of late; they actually had negative organic growth in Fiscal 2006, this is a concern. Their revenue growth rate over the past 4 years has been just under 8%. They have growth initiatives for this year such as their launch of a video-on-demand service for a New York City cable TV operator that has 3.1 million basic cable subscribers.

Valuation

NOOF is currently trading at a trailing price/earnings ratio of 16.93 and a forward price/earnings ratio for Fiscal 2009 of 13.79. They have $26 million of cash and cash equivalents and no debt. They pay a hefty dividend of 50 cents a year, which is a yield of about 6%, and it is sustainable due to the strength of their free cash flows. If just to assume that NOOF is a never ending stream of $.50 yearly payments, the stock is worth about $10 at today’s interest rates. Their cash flow from operations has been higher than their Net Income for each of the past 3 years, that shows the quality of their earnings and the strength of their cash flows. About 7% of the company is owned by insiders. Their ROE has not been exceptional with a 5 year average of 10.9%. NOOF was a top 25 magic formula stock for companies over $100m on 7/15/2007.

Technicals

NOOF had a significant run up in 2003 and most recently it has been trading in a range between $6 and $10 a share. It has been holding support at $8.5 for all of 2007. Volume recently has been relatively low. It has been in a down trend since around the start of 2007 and that has been carrying the stock down. The P/E ratio is in the middle of its trading range over the past 3.5 years.



Conclusion

I think at the P/E NOOF is trading, it is close to fair value since the growth prospects they are offering are not too exciting. However, during a recessionary environment, NOOF would be a great holding because of the stability and the 6% dividend it offers.

Disclosure: I don’t have a position in NOOF.

Thursday, July 12, 2007

Domino's: Not as Attractive as it Looks (DPZ)

Domino’s is the largest pizza operator in the U.S. All of their domestic stores and most of their international stores do not offer a dine-in option so their stores are very small and lean. That gives them a cost advantage compared to other pizza delivery operations that have dine-in sections. They have two basic operations in the U.S. where they make money, first the franchises that sell the pizza, and second the domestic distribution center which manufactures dough and distributes food. Domino’s has their own fleet of tractors and trailers to help them distribute the food to their franchises. Purchasing food from the domestic distribution centers is voluntary, but almost all Franchises purchase food from the domestic distribution centers anyway. This helps create cohesiveness.

Usually there is some kind of negative news or just a negative cloud surrounding a stock to make it a Magic Formula Stock, but Domino’s is unique in that it just completed a recapitalization plan that included a $13.50 special dividend. Well, the special dividend was just completed, the stock price dropped and now it’s just trading for $18.73 compared to over $30 per share before the dividend.

But before I go any further, I have to clear this up. I ran the screen for top 25 stocks with a market cap over $100m and DPZ was on it, but it should not be because the screener is not taking the new post-recapitalization $1.7 billion of debt into account because the recapitalization closed in the 2nd quarter. The last available quarterly statements do not take this into account. The Pre-Tax Earnings Yield should actually be about 7%. Here is the calculation involved:

EBIT last 4 quarters = $199.2 million
Enterprise Value = $1.7 billion in debt + $1.2 billion in market value
Pre-Tax Earnings Yield = 6.9%

Industry

The pizza U.S. quick service restaurant industry is very competitive. Domino’s main competitors domestically are Pizza Hut, Papa John’s and other local pizza restaurants. Internationally they compete with Pizza Hut and other local restaurants. Domestically, they are the #1 pizza delivery company with a market share of 19% based on dollar value. This is a very stable industry, it is growing at the rate of inflation, maybe a bit higher.

One issue I see with the pizza industry in general is that it does not follow any of the major trends happening inside the country, I don’t know about the rest of the world. People are becoming more health conscious and that will ultimately hurt the pizza industry. Basically, pizza goes against one of the major trends sweeping across the country.

Company

Domino’s has been making pizza for a while, almost half a century. In 1998 Bain Capital acquired a 93% stake in the company and in 2004 it went public, probably so Bain Capital can cash out of their big investment. They have economies of scale for their food manufacturing unit for their retail stores because of their big market presence which gives them a cost advantage over smaller competitors. They are very unique in their treatment of franchises because a majority of the time person has to work/train in the Domino’s system for some time before he/she is allowed to become a sole operator of a Franchise. They promote entrepreneurship inside their franchisees.

Domino’s Pizza is a strong brand being one of the most known consumer brands in the world. They spend a lot of money on advertising, over the past 5 years they have invested an estimated of $1.4 billion in the United States. Domino’s also has marketing affiliations with NASCAR and Coca-Cola.

They plan on growing through the growth of their store count. Additional stores will not cost a lot of money due to the size of the stores and the distribution system available. Domino’s has been struggling with their domestic stores same store sales growth, they were negative in 2006 and just in the past quarter they were negative as well. Their domestic distribution system and their international operations have been the two growing areas of the company.

Something to keep in mind, they are currently defendants in a couple of lawsuits all accusing them of bad working conditions in regards to breaks and meal time.

Valuation

One major factor that bothers me about Domino’s is their debt load, which is $1.7 billion, over half of the company is financed by debt. Their P/E earnings ratios look good at 13.58 for the trailing twelve months and 14.64 for fiscal year 2008. 2.9% of the company is owned by insiders. They have an attractive dividend yield of 2.6%. Domino’s is a great cash generator, cash flow from operations for the past 3 years has been higher than Net Income.

One great part of Domino’s is that they do a great job managing their working capital. Historically, they have had very little or negative working capital. This is because they receive their receivables a lot faster than they have to pay their payables.

Papa John’s (PZZA) is trading at a Earnings Yields of over 10% compared to Domino’s of almost 7%. Their cash flow from operations(ttm)/enterprise value is 22.3%. Domino’s cash flow from operations(ttm)/enterprise value is 9.7%. Analysts expect PZZA to grow their earnings a bit faster than DPZ in 2008 compared to 2007 earnings expectations.

Conclusion

There is a whole list of issues I have with Domino’s:

1) Their huge debt load
2) They are not a “real” top 25 magic formula stock
3) The lawsuits they are facing in regard to working conditions
4) They are facing the health trend head-on
5) Their pizza is not that good
6) They are overvalued compared to Papa John’s (PZZA)

I would not be a buyer of DPZ.

Disclosure: I don’t have a position in DPZ.

Monday, July 9, 2007

Cherokee's Drop Only Temporary

Cherokee is a company that markets and licenses its brands for apparel, footwear and accessories in the world. They also consult and provide services for companies or anyone looking to add brands for their own line of products. Some of their major brands include Cherokee (which is their best seller), Carole Little and Sideout. The reason they license and not produce on their own is because their mid-priced brands are better suited for larger retailers with economies of scale.

There is an opportunity in this stock because it recently missed analyst earnings expectations and the stock price dropped 25%. A big chunk of the earnings drop can be attributed to a revenue drop of 9% compared to the same quarter of last year, most of the revenue drop can be blamed on the sale of the Mossimo agreement last year, which cut the royalty stream, and the drop in sales of Cherokee products in Target stores.

Industry


The clothing industry is very competitive, although most of the competitors do not have the same business model Cherokee has. Trends can change quickly and it is up to Cherokee’s management and the retailers that they have agreements with to make sure they stay on top of the trends. And it is up to Cherokee’s management, to make sure that the retailers they have agreements with promote their products in their stores. The Cherokee brand, which is mid-priced apparel, competes with the big clothing firms such as Levi Strauss & Co., The Gap, Old Navy and VF Corp. The Sideout brand, which is in the active wear business, competes with companies like Nike and Quiksilver. In the international arena, they also compete with the countries’ local companies.

Company

Cherokee has been around for over 30 years. Their revenues heavily rely on their top two clients, Target in the United States and Tesco in Europe and Asia. Not including the one-time Mossimo gain, the two retailers combined for over 70% of Cherokee’s revenue in fiscal 2007. They run a very lean operation with only 18 employees.

After the price recent drop, there were two significant insider purchases, the CFO Russell Riopelle and a director named Jess Ravich purchased over $600k worth of stock combined. Their track record on purchasing Cherokee shares is good, with an average return of 27% for Ravich and 21% for Riopelle for the following 6 months after a purchase according to www.form4oracle.com. On a side note, insiders own over 16% of the company.

Revenue has been steadily growing over the past 5 years but growth has been slowing, not taking into account the one-time gain. On average, revenue growth has been a little over 7% a year over the same period.

Valuation

CHKE is trading at a trailing price/earnings ratio of 9.81, although that is a little misleading due to the one-time again, and a forward price/earnings ratio of 16.8. They have a very solid balance sheet with no debt and over $22 million in cash. There was rise in Accounts Receivable of over 63% compared to the same period of last year, this is even with revenue dropping. They have a dividend yield of 8% at current prices. Their Cash Flow is very strong, cash flow from operations has been higher than their net income for each of the past 3 years. Return on Equity has ranged from 52.1% to 96.3% over the past 4 years. CHKE was in the top 25 Magic Formula stocks with a market cap of over $100m as of 7/8/2007.

Technicals

CHKE is currently trading below its 3 major moving averages with all of them besides the 200DMA trending down. It just found support at a previous support level of $36 a share. The stock was in a very healthy uptrend before the earnings miss, the long-term trend is neutral, the medium-term trend is down and the short-term trend is up. Volume increased significantly on the way down. The stock mostly never moves quickly so I doubt the stock will run away from here, but if it breaks overhead resistance at $38 a share, this will probably be the last time you see $36 in the near future.



Conclusion

The major obstacles this company is facing is its drop in royalty revenues from Target and the need for new revenue streams. Target is Cherokee’s biggest client and the drop in revenue from Target has not been made up by the gains in Cherokee’s other contracts, but Target is expected to open new stores and that should increase Cherokee’s cut from them. Cherokee’s other biggest client, Tesco, has been growing at a healthy clip and just got Cherokee’s permission to be the sole Cherokee label distributor in new markets in Asia and Eastern Europe.

Although Cherokee will not be a high flier growing its revenue at 15% a year, it would be valid to assume they will continue to grow at their previous growth rate of 7% a year. They have a great business model and their 8% dividend is excellent. Management also actively searches for new brands to acquire. Target’s store expansion and Tesco’s territory expansion should help Cherokee get back to their growing ways.

Disclosure:
I don’t have a position in CHKE.

Wednesday, July 4, 2007

I'm Back

I just arrived back in New York in the wee hours of Tuesday morning, I will hopefully have something tomorrow morning on CHKE. A big thank you to all the readers that kept visiting my page while I did not have any new posts.

Saturday, June 16, 2007

Currently Out of Town

Sorry for the delay in posts, but I am currently in Israel on an educational visit scouting new investment opportunities. I will be back to doing my roughly once every two days posting routine once I am back in the states. Good luck to everyone!

Monday, June 11, 2007

Big Cap Value Screen

I ran a notorious value screen for companies with a market cap of over $10 billion and below $100 billion with a current price no greater than 5% above the yearly low. Some of the more notable names were Motorola, Starbucks, Newmont Mining, Southwest Airlines, and Gold Fields Ltd.



Motorola is the famous manufacturer of wireless products such as cell phones and network products. They recently have had issues with earnings due to struggles in the mobile device business. Motorola has had trouble replicating the success of their Razr phones and that has led to bad quarterly results. They also had a change in upper management with David Devonshire being replaced by Thomas J. Meredith as the CFO. Carl Icahn has also dabbled with Motorola. There are a lot of famous investors on the long side of Motorola such as Bill Miller, George Soros and Edward Lampert.

Starbucks is the world famous coffee company that everyone loves, including investors until recently. They have been growing just not as fast as the market expected, even an in-line quarter can’t keep the stock up. The expectations that the market has set on this company is that even a slight growth slowdown will beat up the stock. There is some upbeat happenings, there has been a recent insider buy and George Soros is an investor.

Newmont Mining and Gold Fields Ltd are both gold miners. They are both around 35% off their recent highs in early 2006. Even though gold prices are only 10% off its peak, both of these stocks have been significantly down since their early 2006 highs. They both pay a dividend of at least 1%. They are both trading at their 52wk lows. Newmont Mining is owned by George Soros and David Dreman.

Southwest Airlines is the famous low-cost airline. They are 10% off their multi-year lows of $13 a share. The recovering oil price has definitely affected their stock price negatively. Even though their earnings were in-line, their stock has been pressured recently due to slower than expected growth in the upcoming quarters by Wall Street analysts.

Disclosure: I don’t have a position in any of the companies listed.

Friday, June 8, 2007

Finish Line: Struggles Continue (FINL)

A few weeks I mentioned how Finish Line is currently struggling and will continue to struggle in the near future, well they just cut their 1st quarter estimate significantly. Analysts were estimating $.06 per share for the 1st quarter while the company guided $(.09) to $(0.11), which is a significant difference from the expected EPS. The Finish Line comparable store net sales continue to decrease and decreased 4.1% compared to the same quarter last year. Net Sales decreased 0.2% year over year.

On the bright side, even with this significant negative news, the stock only went down 3%. Seems like the market is at the point where any negative news from Finish Line is expected, and any neutral or positive news will send the stock higher.

What was surprising is that the company has so far failed to repurchase any shares in 2007 even though they still have shares left on their program that ends at the end of this year. They have repurchased shares at around this price in their current program. Does this mean they expect cheaper prices or they are running out of cash?

Disclosure: I don't have a position in FINL.

Thursday, June 7, 2007

Travelzoo: Smart Investments to Further Growth

Travelzoo is an internet company that provides travel companies with a place to advertise their deals and consumers with a great tool to search for travel deals. Their product provides consumers a free search to look for travel offers. Some of their big advertisers are companies such as airlines, hotels, cruise lines, vacation packagers and other travel companies. Their products include their Travelzoo website, the Travelzoo Top 20 e-mail newsletter, SuperSearch and their Newsflash e-mail product. Their operations are based in North America and Europe. Their founder, Ralph Bartel, is still with the company and owns 50.2% of the outstanding shares.

The recent stock downfall was due to a 1st quarter that did not reach analyst expectations. Analysts expected $0.32 per share but they earned only $0.25 per share. It was still an increase compared to the same time period last year, but that was only because of the smaller number of shares outstanding, Net Income went down. The increased expenses can mostly be attributed to a rise in sales and marketing expenses and an increase in the income tax rate. Its Canadian and European operations, which were just recently launched, are still experiencing losses.

They are also currently experiencing downward price pressure on the stock due to their program to make cash payments to people who failed to convert their shares of Travelzoo.com Corporation to Travelzoo Inc., this is due to their mergers of different Travelzoo companies. There is no estimate of how much this program will cost the company.

Industry

This is a booming industry, travel companies are involved in a lot of advertising and the internet offers them significant medium advantages over newspapers. First, the company can update their ads real-time, unlike in newspapers where you have to wait until their customer service opens and a delay to update the ad. Second, these ads are more effective, targeting people who are looking for travel deals. Third, these are cheaper than placing ads in the newspaper and the travel deals are being sold direct, not through a 3rd party such as a travel agent. The internet offers travel companies much more flexibility than a newspaper does. Travelzoo will continue to benefit in the shift to internet advertising.

Travelzoo faces competition from big competitors such as Microsoft, Google, Yahoo! and other internet websites that offer a travel search similar to Travelzoo’s. This industry is part of the internet mega trend.

A downturn in the economy will hurt their performance due to the sensitivity of the travel market to the economy. Also, terrorist attacks might severely hurt Travelzoo’s operation due to fear like after the horrific events of 9/11.

Company

95% of their revenue comes from the United States. They recently had a slip in revenue per employee due to new growth expansion. They currently have 94 employees. Technology is very important for Travelzoo, they will have to continue to innovate to compete with different internet travel websites. Brand awareness is essential for success in the internet travel industry. The amount of new subscribers to their two email services have been steadily going down. Their total subscribers has been increasing but the number of new subscribers has been increasing at a decreasing rate. Their goal is to continue expanding into other geographical locations and expand their reach. Their executives are relatively low paid compared to the outrageous salaries executives are earning now.

Valuation

TZOO is currently trading at a trailing P/E ratio of 25.12 and a forward p/e ratio for fiscal year 2008 of 18.75. Their full year 2007 and 2008 earnings have both been revised down recently. Their balance sheet is strong, they have almost $40 million of cash and cash equivalents and no debt. Insiders own almost 57% of the shares outstanding. Their share count has been shrinking with recent buybacks. They bought back 1,000,000 shares in 2006 and just authorized an additional 1 million share buy back. Their free cash flow is strong. Revenues have been growing at an exceptional level, even in a bad quarter like last quarter, revenues grew 17% year-over-year. TZOO was in the top 25 Magic Formula stocks with a market cap of over $100m as of 6/6/2007.

Technicals

Currently TZOO is trading at below its three major moving averages. The 50DMA just crossed below the 200DMA, not a good sign for things to come. The big recent drop on higher volume does not bode well for short-term momentum. It is currently right around very solid support of $25 a share. The $25 level has acted as support for over a year. TZOO has traded between $25 and $40 a share for the past year. RSI is giving an oversold signal with a slight bullish divergence. MACD is showing slight bullish momentum.



Conclusion

Travelzoo will continue to benefit from industry trends such as the continuous shift of advertising from newspapers to the internet and the wider use of the internet. This slipup in the first quarter was not major, they are continuing to spend on growth and short-term earnings will suffer because of that. Growth always involves an initial investment which will create downwards pressure on earnings. I would be more concerned if Travelzoo was not making new investments. If these sales & marketing investments were capitalized, similar to new equipment investments of a manufacturer, this would alleviate the pressure on earnings. Revenue is still growing at a brisk pace.

Disclosure: I don’t have a position in TZOO.

Tuesday, June 5, 2007

Select Comfort: Great Company and Great Price

Select Comfort is an upscale vertically integrated mattress and other sleep accessories designer, manufacturer, marketer and retailer. Their mattresses are marketed under the Sleep Number brand name and based on their proprietary air-chamber technology which adjusts the softness of the bed with the touch of a button. The bed’s two sides adjust separately from each other which increase each partner’s experience. Their beds are clinically proven to provide people who sleep on their mattresses better sleep than people who sleep on the traditional innerspring mattresses.

Select Comfort is a Minnesota based corporation which was founded in 1987. They were ranked as the 6th largest mattress manufacturer in 2005 according to Furniture/Today. At that point, they held a 5% market share of industry revenue and a 2% market share of industry units.

They run a lean inventory system with most of the mattresses manufactured after a purchase. Their inventory on hand is minimal. They are currently working on dual sourcing suppliers because their proprietary parts are mostly made by one manufacturer. This will help Select Comfort continue normal business operations if something happened to their main suppliers.

Industry


The mattress industry is stable and mature. It has been growing steadily. Over the past 20 years, the annual growth rate for U.S. wholesale bedding shipments is 6.8%. It is a very competitive and fragmented industry. There are also a wide variety of government regulations. The main competitors for air-bed products consist of Simmons and Sealy. Their largest competitors from the innerspring mattresses consist of Sealy, Serta, Simmons and Spring Air.

Select Comfort will benefit from the health mega trend and the aging of baby boomers mega trend. People will want better mattresses that will help them with a better sleeping experience. This in turn will help people be more productive during the day.

Company

Select Comfort makes some of the most expensive mattresses on the market, with prices averaging from $900 to $4,000 per mattress. They offer a 20 year warranty on all of their brand new Sleep Number mattresses. There is an exclusive Comfort Club for members who have purchased Sleep Number beds through company owned channels, members are provided with gifts if they refer someone to purchase a mattress. Select Comfort also provides a Home Delivery Service, which offers delivery, assembly and mattress removal services to improve the total customer experience, with the purchase of their mattress. Over 90% of their sales come from their three company owned distribution channels, retail, direct and e-commerce. Wholesale and e-commerce have been the two fastest growing channels; they are the only two channels that grew in the 1st quarter compared to the same time period in 2006. Select Comfort consistently spends over 40% on Sales and Marketing expenses. They have been working on expanding their presence in other retailers, they currently have 841 stores that carry their products. With all of this extra retail exposure, will it dilute their brand? Historically they have sold only through company controlled channels. Select Comfort has partnership agreements with Winnebago and Radisson Hotels to help promote their brand.

Valuation

SCSS is currently trading at a trailing p/e ratio of 21.43 and a forward p/e ratio for 2008 of 15.02. Their PEG ratio is .9. Their current ratio is .897, which is troublesome. Their balance sheet is solid, no debt and $66.8 million in cash and investments. 9.2% of the company is owned by insiders. Their accounts receivable rose significantly in 2006 compared to 2005, accounts receivable turnover decreased from over 110 times in 2005 to just over 66 times in 2006. They have been actively repurchasing their shares and shrinking the share count going from 59,252 outstanding diluted shares in 2004 to 51,798 outstanding diluted shares as of last quarter. Select Comfort just authorized an additional $250 million of share repurchases for a current total of $290 million. Their Capital Expenditures are a significant use of their cash, they had expenses of $31 million in 2006, $26 million in 2005 and $21 million in 2004. Their CAPEX are mostly due to their retail store openings and as of recently, for their SAP implementation. Nevertheless, they still provided Free Cash Flow of $28 million, $62 million and $31 million in the past 3 years. SCSS is owned by Ron Baron, who is a famous growth investor. He mostly invests in small and medium size growth companies. This was a top 50 Magic Formula Stock with a market cap bigger than $100 million as of 6/3/2007.

Technicals

It is currently trading at around $18 a share. The long-term trend is down, the short-term trend is up and the medium-term trend is neutral. It just recently crossed above the 20DMA and the 50DMA. It is still below the 200DMA. The $17 level is proving to be a very strong support level. It’s been trading between $17 and $20 a share in the past 6 months. MACD and RSI are both showing a positive divergence. Both of them are trending up while the stock has been stuck in the range. Volume is also showing a positive divergence with the On Balance Volume in an uptrend. All three indicators are showing positive signs, but the stock is still stuck in its range and not trading above its three major moving averages. This bears watching, it could be due for a breakout with volume accumulating in bullish hands.



Conclusion

Select Comfort operates in a mature and stable market with solid growth. They are a narrow-scope differentiator and they know what they are, they do not try to be everything to everyone. Management expected 2007 to be challenging for their company, but they still managed to beat 1st quarter analyst estimates. Their outlook for 2007 is earnings between $1.02 and $1.09 per share. Currently, the analysts estimate $1.00 a share. The resignation of J. Douglas Collier, who was their Chief Marketing Officer, should not be a problem since he was there for a very short time. The recent drop of stock price is due to the prospects of a challenging 2007 and their struggles late in 2006.

There is a lot to like about Select Comfort, their product, cash flows, management, growth and the price. I will be keeping a VERY close eye on it.

Disclosure:
I don’t have a position in SCSS.

Monday, June 4, 2007

Intevac: Great Run But Tough Business (IVAC)

Intevac is the world’s industry leader in the disk sputtering equipment market. What this equipment does is deposits “highly engineered thin-films onto magnetic disks used in hard disk drives.” That is their main business and constitutes for over 90% of their revenue. They are also involved in the imaging business, which consists of developing products which “allowing imaging or analytical detection in extreme low light situations.” The imaging group also works with the military. For their imaging department, most of their revenues have come from R&D contracts with the U.S. government. Their stock has recently fallen due to revised downward earnings guidance for the upcoming quarter.

Intevac has great growth plans. The internet and the digitalization mega trends taking place will benefit Intevac. First, the hard drive market is projected to grow at a brisk pace due to new products that require higher storage capacity. TrendFocus projects 14.4% annual growth in hard drive shipments through 2010.

Here is a list of the major growth drivers that will benefit Intevac:

1) New consumer electronics applications, are requiring bigger and bigger storage capacities for streaming video.
2) New PC growth in emerging markets in Europe and Asia.
3) Enterprises have increased needs to store data. The transformation from paper storage to digital storage is still taking place.
4) Security tapes are transforming from the historical tape standard to a new digital standard storage solution.

The imaging business is slowly growing. They also have a growth initiative to produce a manufacturing system that will work with the etch segment of semiconductors. Revenues from the etch segment manufacturing systems are not expected until 2008.

Intevac has support centers next to their major disk-sputtering equipment customers to help improve customer relationships. They also plan to build more support centers to help develop these relationships and work closer with their major customers.

Industry


This disk-sputtering equipment industry is very competitive due to the small number of customers and the high price of equipment. The customers consist of companies that operate in the hard drives industry. Those companies are large manufacturers such as Fuji Electronic, Hitachi Global Storage Technologies and Seagate Technology. It is very consolidated which could lead to price pressures in the future. Intevac’s competition consists of disk-sputtering equipment manufacturers such as Anelva Corporation, Ulvac and Oerlikon. Intevac is the industry and market share leader with a hold of 60% of the market share.

On the imaging front, Intevac competes with such military giants as ITT Industries and Northrop Grumman for military vision devices. For long-range vision, Intevac competes with CMC Electronics, DRS, FLIR Systems and Raytheon. They also compete in the commercial markets with companies such as Texas Instruments and Roper Scientific in the sensor and camera products market and with companies like InPhotonics and Ocean Optics in the portable Raman spectrometer market.

Both of these products have a long sales cycle which is due to the high degree of customization that customers require. Revenues and earnings for Intevac are very volatile due to the small number of customers and high average price of products. Intevac also benefits from the falling dollar since their international sales for the past 3 years have been 90%, 71% and 68% of total revenues.

Valuation

IVAC is trading at a trailing price/earnings ratio of 8.53 and a forward price/earnings ratio of 12.55. The price/earnings/growth ratio is only .7. Their balance sheet is very strong with over $102 million in cash, cash equivalents, and short term investments. They have done a great job in managing their accounts receivable, improving from over 73 days average account receivable outstanding in the same quarter last year to just under 40 days average account receivable outstanding this year. In 2006 it was just over 56 days compared to almost 114 days in 2005. Shares outstanding have been rising over the past few years, there was a big jump in 2004 due to a secondary public offering. Gross Margin has been healthy, it came in at 42.9% over the past quarter, which is a record for Intevac. Operating Margin has also looked good, checking it at 17.1% in the last quarter. They have consistently spent over 10% of revenue on R&D. Free cash flow was positive in 2006 for the first time since 1997. Insiders own 6.4% of the company. The current backlog is the lowest in dollar terms since the end of 2005. As of June 2nd, 2007, they were in the top 25 Magic Formula stocks with a minimum market cap of $100 million.

Technicals

The long-term trend is bullish but the short and middle term trends are bearish. It is currently trading below all three of its major moving averages. RSI is close to being at the oversold level and MACD is showing momentum to be negative although there was a recent bullish cross over. There has been an increase in volume in the recent drop which started in late February. The chart does not look very good right now, it looks like the stock will dip to at least $18 a share, which is the first strong support level. The second strong support level will be $15 a share.



Conclusion


Intevac seems to be very well run and has great technology and a great growth plan, but the industry is very cyclical and I don’t have the slightest idea of what point we are in the cycle currently. Their founder is still with the company and they have been making great advances in cutting costs such as selling, general and administrative expenses. They also stay true to their word and invest in Research and Development Expenses. One of the main issues I have with the company is their cash flow, they just had their first positive cash flow year since 1997, that does not bode well. Unless they are having a good year, their cash flows will be negative. I would stay away from Intevac due to the unpredictability of their earnings, the cyclicality of the industry they are in, and the cash flows that they produce, the chart isn’t exactly bullish either.

Disclosure:
I don’t have a position in IVAC.

Friday, June 1, 2007

OmniVision Earnings Correction

A big thank you goes out to Jim Hurley in California for this correction. Regarding earnings from yesterday's conference call, the actual earnings that I posted were actually for GAAP earnings while the estimates were for non-GAAP. They actually beat earnings by a wide margin and not missed as I reported. Earnings guidance was higher by a wide margin as well.

Non-GAAP earnings stood at 0.06 per share while the consensus analyst non-GAAP earnings estimate was (0.01) per share. Therefore, OmniVision beat earnings by 0.07 a share.

Guidance by management was between 0.13 to 0.21 non-GAAP earnings per share for the following quarter ending 7/31/2007 while the consensus analyst non-GAAP earnings estimate was 0.06 per share.

Disclosure: I am long OVTI.

OmniVision Turnaround Under Way (OVTI)

Just yesterday OmniVision reported earnings for the quarter ending April 30th. Revenues blew out analyst estimates and earnings missed.


Guidance, for the 4th quarter ending July 31st, 2007, blew away estimates.


Gross Margin was still low due to the lower-margin VGA products. They still have a very solid balance sheet with over $305 million in cash and cash equivalents and short-term investments. Starting with the 2nd quarter in the 2007 fiscal year, which ended on 10/31/06, they ramped up inventory production. Management was right in increasing inventories, since new demand is coming in right on target. Also, most of the high-cost inventory is gone, that should help the gross margin.

Demand is strong and is getting stronger. It was driven by entry level phones which use OmniVision’s VGA chip. They have gross margin initiatives that they will invest a lot of resources into and they are saying that it will rise. Their R&D expense was strong coming in over 13% of revenues compared to almost 9% in the same quarter a year ago. There are also new products in the pipeline. Just about a week ago, they came out with new 1.75 micron OmniPixel3 architecture.

There will be further demand strength driven by such sources as the automotive market, the medical market, and the laptop market. Their colonoscopy partner just got an FDA approval to make the colonoscopy products using OmniVision’s camera chips. The higher-resolution camera chips is OmniVision’s prime target because there is less competition there than in the lower resolution chips.

The start of the turnaround is in good shape, there will be further gains ahead.

Disclosure: I am long OVTI.

Tuesday, May 29, 2007

Stay Away from this Magic Formula Stock (ALOY)

Alloy Inc is a media and marketing services company. There are three main segments of the company:

Promotion – helps clients reach promotional goals with their target customer through event and field marketing, sampling, onsite promotions, and customer acquisition programs
Media – Provides advertising solutions for young adults, both online and offline, through such sources as Display Media Boards, websites, books and print sources
Placement – provides placement solutions for targeted customers in college, multi-cultural and military markets

They mostly target 10-24 year olds, but they do reach consumers outside of that group.

Their revenue growth has been very slow but their operating income has reached positive level this past year for the first time since 2003. On an aggregate basis, their last positive earnings per share was in 2002. In December 2005, Alloy spun off its subsidiary, dELiA’s, which was a specialty retailer operation.

Industry

This is a very competitive market, key competitors include MTV, MySpace.com, and Facebook.com. There is a lot of competition for the attention of this target market. This industry will suffer if there is a downturn in the economy since the companies that advertise with Alloy largely depend on discretionary consumer spending. It is also regulated by the government. The 2nd half of the year is where a majority of the income and revenue is earned due to the back-to-school and holiday shopping seasons.

Company

There are a lot of issues with Alloy. They place a big emphasis on acquisitions which they have been unsuccessful in. Their pace of dilution is too fast, there were 10,652,000 shares outstanding in 2004, and as of the close of 2006, there were 12,541,000 shares outstanding. That’s a dilution rate of over 8% a year.

They have been in business since 1996. 10.3% of the company is owned by insiders. The two founders, Matthew C. Diamond and James K. Johnson Jr., have been with the company since 1996 and both are executives with the company.

Valuation

They are trading at a forward price/earnings ratio of 13.89 for Fiscal Year 2007. They have almost $28 million in cash and cash equivalents and marketable securities on hand and almost no debt. They have lots of goodwill on their balance sheet. They are trading at a Price/Book ratio of .95 and Price/Sales of .79. Their Cash flow from operations has been positive the past 2 years. Alloy made it on the top 25 Magic Formula Companies with a minimum market cap of $100 million as of 5/29/2007.

Technicals

It is currently trading in the midpoint of its range over the past year at around $11 a share. RSI is close to being oversold. MACD is showing negative momentum. ALOY is currently trading below its three major moving averages. Recent volume has been very high on down days which signals that near-term momentum is down. They are in a long-term down trend.



Conclusion

There is really nothing to like about Alloy. They have had continuing losses for the better part of the new millennium, their acquisition strategy has not been very successful, and their stock price has mostly moved south. They do have valuable assets that could be profitable if they are used properly. A lot of their book value stems from Goodwill, their trailing price/earnings ratio is not applicable due to negative earnings, and I would not be too confident their earnings are going to turn positive all of the sudden as analysts seem to predict.

Sunday, May 27, 2007

Color on American Eagle Earnings (AEO)

American Eagle just reported earnings last Tuesday, May 22nd. The earnings came in at what the analysts expected at $.35 a share, but the outlook for the 2nd quarter came in below expectations, that sent the shares down 4%. Margins looked good, no signs of them decreasing.

They also authorized a 23 million shares repurchase program, they already had 4.2 million shares outstanding in their current repurchase program. Their policy on share repurchases was to offset dilution related to stock options. Could this mean that their growth is slowing down and they have to make up for it in other ways?

Tuesday, May 22, 2007

Finish Line Turnaround Coming? (FINL)

Finish Line Inc. is a mall-based specialty retailer which specializes in apparel and footwear. They have three different stores:

Finish Line – sells brand name footwear and soft goods, currently 693 stores
Man Alive – street fashion retailer, currently 87 open stores
Paiva – new store concept for active women, currently 15 open stores

While Man Alive and Paiva are recent growth strategies, the Finish Line stores have been open for business since 1976. Their biggest supplier is Nike, which accounted for over 50% of their total purchases the last 2 years. They have had some recent struggles. For Fiscal year 2007, their earnings were $.68 per diluted share compared to $1.23 per diluted share in Fiscal year 2006. This was due to a 5.7% decline in comparable store net sales. SG&A increased 10% year over year, that put further pressured earnings. Sales only increased 2.5% year over year, but 1.87% of that growth was aided by the additional week in the Fiscal 2007 year. That has led to a depressed stock price, it is currently trading around $12 a share.

Industry

Shoe retailers face a lot of competition. One aspect that they cannot compete on is price, the big retailers like JCPenney and Walmart will take market share away in a blink of an eye. Finish Line’s main competitor is Foot Locker, and they have had recent struggles of their own. Just earlier this month they issued a downside revision to their 1st quarter outlook. Foot Locker said that their USA stores suffered a big decline, which is the only market where Finish Line operates. There currently seems to be obvious issues in specialty athletic shoe retailers. An obvious question would be: are there major issues in specialty athletic shoe retailers or just a normal business cycle?

Company

The company has invested in an impressive inventory management system that should help them become more efficient. Most of their senior management has been with the company at least a decade, besides their President and the Chief Merchandising Officer. Their two founders are still with the company in senior management positions. Their new Chief Merchandiser Officer, Sam Sato from Nordstrom, is very experienced in this area and management is very excited about having him come aboard. Man Alive comparable store net sales were up 4.4% compared to the 4th quarter of the previous year, there is a bright spot. They are also currently working on a partnership with Nike that should be rolled out later this year.

Valuation

They are currently trading at a trailing price/earnings of 18.09 and a forward price/earnings ratio for Fiscal 2009 of 12.89. The trailing P/E seems a bit high for a company having so many short-term problems. They also pay a dividend of $.10 a year which is a yield of 0.8%. Their Price/Book ratio is 1.28 and Price/Sales is 0.44, which are both great valuations. They have a solid balance sheet with almost $63 million in cash and no debt. Their cash flows from operations is solid, but most of that cash is going towards capital expenditures on new stores, therefore, free cash flow is suspect. Return on Equity has been low, 7.2% last year and 14.1% the year before.

Technicals

Weekly Chart

The picture is not pretty. The long-term trend is down, it’s been in a long-term trading channel since 2005 and still has not broken that trend. There was some strength in FINL at the end of last year, but since 2007 it’s been trending down. It has not found support at the 50 Weekly Moving Average and it is acting as resistance. Short-term, it has been beat down because of the Foot Locker warning.



Daily Chart

FINL just recently crossed below the three major moving averages. RSI is showing almost oversold levels and MACD is showing negative momentum. Ever since the late November high, there have been lower lows and lower highs. It looks like it will be heading down to its late summer levels of $10-$11 a share.



Personal Experience

I worked at Finish Line as a sales associate a few years ago while I was still in high school. It wasn’t one of my favorite jobs as a teenager. I wanted to work there because I was a Michael Jordan fan and wanted to get to know more about his line of sneakers and sneakers in general. The pay was pretty close to the minimum level. Management concentrated a lot on the apparel. A lot of people visited Finish Line just to see the new authentic jerseys they have in stock. There was also a lot of pressure to sell something with the sneakers, either a pair of socks, shoe cleaner, shoe laces, etc. to average up the items per transaction.

As a customer, I sometimes wander in their stores when I am at the mall. They usually have the newest footwear and apparel in stock. Their prices are definitely higher compared to JCPenney or other major retailers. Prices are similar to Foot Locker. Foot Locker’s and Finish Line’s store setups are generally alike. They are very antsy to try to sell something, as soon as I walk in there, usually there is a Sales Associate next to me immediately.

Conclusion

Finish Line is currently going through some tough times and this will continue for at least the near future. They have made some changes inside the company, that hopefully will start paying dividends in the near future, but the Finish Line stores are struggling and it will take a little bit longer to turn them around. Hopefully, the Nike partnership will quicken the turn around of the Finish Line stores. I would stay away from FINL in the near future, management said that the second half results of Fiscal Year 2008 are key and they could give some hints to future performance, positive or negative. Waiting until later this year, before making any decisions, would be a prudent move on an investor’s part.

Disclosure: I don't have a position in FINL.

Sunday, May 20, 2007

K-Swiss: More Downside in the Short-Term

K-Swiss is a shoe company which designs, develops, and markets sneakers for athletic and casual purposes. K-Swiss has been in business since 1966. They have two main product strategies, one is their “classic” line of sneakers, they are the sneakers which were the company’s first product. They have longer product cycles than normal sneakers and long product cycles reduce the markdowns on a sneaker. This makes it more attractive to retailers. K-Swiss keeps a large inventory of classics in their warehouse. Their other product strategy is based on current consumer fashion trends. They do not keep a large inventory for these. Their goal is to take advantage of current fashion trends in the marketplace while minimizing risk. K-Swiss’ primary goal is to become the “retailers’ most profitable vendor,” meaning that through longer product cycle, they can maximize the effect of market expenditures and minimize retailers’ markdowns.

Industry


They operate in the athletic footwear industry, which is very competitive. Their biggest competitors are Nike and adidas. Investment gurus who are bullish on Nike, and by extension the footwear industry, include Warren Buffett, Bill Miller, and Glenn Greenberg. There are some issues with the economics though, people are worried consumers will slow their spending, due do them being overextended in debt and gas prices that are rising. To some degree though, a recession cannot destroy the footwear industry because it meets one of the 3 basic needs of people, clothing.

Recent Developments

Their 1st quarter 2007 report was a mild disaster. Although they managed to beat Wall Street earnings estimates by one penny, they lowered full-year estimates due to significant obstacles in the domestic environment. They lowered their range from $1.20 to $1.50 a share for fiscal 2007 to $1.20 to $1.35 for fiscal 2007. Revenue guidance was also lowered slightly. Domestic revenues decreased 39.7% year over year. Future orders (backlogs) also decreased significantly year over year. International revenues increased 29.2%. On the bright side, they do not see Gross Margin shrinking, they expect it to be between 46% to 47%, consistent with their recent results. They stated in their conference call that they will not clear out their inventories at any price, this will keep margins up but pressure sales down. This also will not damage brand reputation.

Their domestic business has been in a decline for the past few years though, this is a concern because it accounts for the majority of their total revenues. Domestic revenue has fallen 20% over the past 2 years. Management said during the last conference call that inventories at domestic retailers have been going down and so retailers will have to order more K-Swiss footwear in the near future. On the bright side, foreign sales have been growing rapidly going from over $80 million in 2004 to almost $170 million in 2006.

They have recently put in significant resources into developing new products. Their target date for new products is the 1st quarter of 2008. K-Swiss is also currently working on opening retail locations. Their most recent openings have been in Asia. Their other big investments have been in Royal Elastics and Apparel which are planned to be key future growth drivers. Near-term trends do not seem to be positive with backlogs significantly down year over year.

Recently, Anna Kournikova has signed on to be the new spokesman of K-Swiss. The thinking behind hiring her as the new spokesman is because she is a tennis star and K-Swiss is a tennis shoe company. It makes sense, but she is more of a celebrity than a tennis star. It will definitely give K-Swiss more publicity, but will people looking for tennis sneakers more likely buy K-Swiss tennis footwear just because Kournikova is their spokesman? I highly doubt it.

Valuation

They are trading at a trailing price/earnings ratio of 14.74. Their Earnings Yield is 11%. They have $264 million of cash on their books. There is no debt. They are trading at a forward price/earnings ratio for Fiscal Year 2008 of 17.22. They are a great cash generator, cash flows from operations as a percentage of total revenue has been 14.4%, 18.5%, and 17.7% in the years 2006, 2005, and 2004 respectively. Their return on equity has been very strong, averaging over 25% over the past 5 years. They also pay a dividend of $.20 per year or a dividend yield of 0.7% per year.

Regarding their cash position, they are very conservative with the use of their cash. Acquisitions are not a priority for them, unless the acquisition is an attractive candidate. A deal to do a deal is not something that interests them. They plan on doing more future share repurchases. A good indicator of when to start buying K-Swiss stock will be when they start buying back their shares in bunches, during their 1st quarter 2007 conference call, CEO Steven Nichols said that once they have a clearer picture of what 2008 will look like, and if it will be positive, they will aggressively start repurchasing their shares.

Management

Management is fiscally conservative and seems to be on the right path of expanding the company with their new investments. They also have been using their cash wisely by buying back K-Swiss outstanding shares. Their management is very shareholder friendly. Their bonuses are based on Economic Value Added (EVA), which better aligns their interests better with shareholders instead of regular bonuses based on EPS. Their CEO, Steven Nichols, has been with the company since 1987. George Powlick, who is their CFO and COO, has been with the company since 1988. Steven Nichols basically controls where the company goes because he, through a Family Trust, controls 92.4% of the Class B shares. Each Class B share is worth 10 votes compared to each Class A share.

Technicals

KSWS has been in a trading range the past few years mostly between $26 and $36 a share. The medium-term trend is down and the short-term trend is neutral. RSI and MACD are both neutral. KSWS is currently above the 50DMA but below both the 20DMA and the 200DMA. On the bright side, the 20DMA just crossed over the 50DMA, which could be a signal of a change of the trend. Recent volume has been mixed.



Conclusion


K-Swiss was growing rapidly until they starting experiencing issues in the United States. That has thrown their growth curve way off and currently domestic sales are still trending down. There are definitely short-term issues with K-Swiss, but I think management has taken steps to correct this downtrend in domestic sales with new products in the pipeline. Also, the retail stores, the apparel rollout and the Royal Elastic subsidiary should provide growth. Buying right now would not be terrible, but since their outlook for the rest of 2007 is not bright, there should be more downside on the way in the near-term. Once their domestic sales start to stabilize, and management starts to repurchase shares in big quantities, that could be a good entry point knowing that 2008 is the year management is planning for the big turn around.

Disclosure: I don’t have a position in KSWS.

Thursday, May 17, 2007

Pre-Paid Legal Services: Great Business Model and Great Valuation (PPD)

Pre-Paid Legal Services is a company that sells exactly what its name states, they sell pre-paid legal services. This is how it works, a customer signs up and agrees to pay $20 per month. The customer receives a certain amount of legal services from local lawyers that are part of Pre-Paid’s provider law firms for the time they are a member. Some of the lawyer services that are provided for the standard fee are: “standard plan benefits include preventive legal services, motor vehicle legal defense services, trial defense services, IRS audit services and a 25% discount off legal services not specifically covered by the Membership.”

Industry

Their main competition consists of Hyatt Legal Plans, ARAG(R) North America, and National Legal Plan and Legal Services Plan of America but most of their competition markets to bigger employers compared to PPD. According to Pre-Paid, their target market consists of around 100 million households, and they currently have 1.5 million households as subscribers. This is a big opportunity. Litigation in the United States is a constant, I don’t see how this market can shrink if the population of the United States does not shrink and grows at the steady pace it has been growing. If there becomes a Democrat majority in the government, this can also potentially grow PPD’s member base in the short term since Democrats are more apt for litigation.

Company


Their revenue has been growing very steadily at a rate of 6.1% over the past 5 years. The total of memberships, using the end of the year count, has been also growing steadily, growing at a rate of 2.7% per annum over the past 5 years. They have expanded from their basic legal service into a few other products, with the Identity Theft Shield being the most important.

The Identity Theft Shield (IDT) is provided by Kroll, which is a part of Marsh & McLennan Companies, Inc. What IDT does is help monitor a customer’s credit information and offers identity theft restoration services. IDT has been a great product, there are as of last quarter, 73,525 stand alone IDT memberships, meaning that that is the only product these customers purchase, they do not have any legal service plans. There are 562,075 add-on IDT memberships, meaning they have another service besides IDT. Pre-paid only started this service in late 2003 and already has about 1/3 of all their members with legal plans with the IDT service. IDT has been their main growth driver over the past 3 years. They also recently entered into a new agreement with Kroll to extend their agreement and negotiated a significant reduction in payments to Kroll per customer per month of IDT service from $4.25 to $3.75 as of April 1st 2007, to $3.50 in 2008 to $3.25 in 2009 to $3.00 in 2010.

They sell their products through a Multi-Level Marketing program. Members only make commissions when a membership is sold, not when they recruit members to develop their sales organizations. The company is still fun by its founder, Harland C. Stonecipher, who founded the company in 1972.

They also recently started to roll out their “ADRS” program which provides businesses and their employees a way to reduce identity theft risk. The associates, which have to pass required training, give presentations about Pre-Paid’s products and provide opportunities for the businesses and their employees to purchase their identity theft solutions and legal plans.

Valuation

They are trading at a trailing P/E of 16.94 and an Earnings Yield based on EBIT of 10%. 38.83% of the float is short. 33.5% of the share outstanding are owned by insiders. They have been very busy in the past 5 years returning money to shareholders. Their diluted shares outstanding decreased from 19.8 million shares in 2002 to 13.6 million shares as of last quarter. Also, in 2005 and 2004 they paid dividends of $.60 and $.50 a share respectively. The balance sheet does not look exceptional, they have about $80 million of cash and investments and debt of around $100 million. Their Cash flows from operations has been strong, it was $47.3 million, $50.1 million, and $54.4 million in the years 2004, 2005, and 2006 respectively. PPD is a great cash generator. It is a top 25 Magic Formula Stock of over $100 million market cap as of 5/16/2007.

Technicals

Just in April it broke through overheard resistance and old highs of about $52 a share to its all time highs of over $64 a share. In 2006 it formed a rounding bottom chart pattern. Both of the big advances in the past 2 months were confirmed by large volume. All of the trends are up. It is trading above all 3 of its main moving averages and all of them are trending higher. The first major support is around its old highs of around $52 a share. The stock is currently borderline oversold with RSI and MACD at very high levels.



Conclusion

Pre-Paid has a great product and they have their own position in the industry with not a lot of competition. There are a lot of opportunities out there with how they can expand their business. One avenue of expansion can be through the traditional forms of advertisements. PPD’s management has stated that they will continue to buy back their shares with their excess cash. They have had and are still having issues with associate recruitment. The Balance Sheet is not the best looking one either, the debt is not something to be too worried about considering they are such a cash generator. Also, they have taken out two loans to build a beautiful headquarters and buy an aircraft, I’m not sure how wise that was. To conclude, they have a great business model with not a lot of competitors, there are avenues for further growth with new offerings, like the IDT, and new ways to market them, like the ADRS. And they have a great valuation, being on the Magic Formula top 25 list of companies over $100 million market cap. Technically I would wait and see if a pull back occurs, there has been a big run up of more than 50% in the past 2 months. The 50DMA or old support at $52 would be great buy points.

Disclosure: I don't have a position in PPD.

Saturday, May 12, 2007

American Eagle Outfitters Inc. (AEO)

American Eagle is a casual clothing retailer mostly designed to target 15 to 25 year olds. They concentrate on value offerings. They are currently in the process of expanding to target the 25 to 40 year olds with their MARTIN + OSA brand and are working on expanding their aerie line which sells dormwear and intimates for females between the ages of 15 to 25 years old. They also operate AE.com which sells their American Eagle and aerie clothing lines. AE.com has also been a major growth driver. In 2006, sales at AE.com rose 48%. They have been operating American Eagle retail stores since 1977. They have been growing at a very brisk pace, their revenue has grown from $406 million in 1998 to almost $2.8 billion in 2006.

Industry

This is a very competitive industry. Fashions can come and go without notice. Clothing is one of the three basic needs for humanity so that is a plus. Also, their clothing is mid priced so economic trends should not affect American Eagle significantly. The industry is also very sensitive to weather trends, which can affect results. American Eagle products are significantly cheaper than Abercrombie & Fitch and a bit more expensive than Aeropostale. Compared to Aeropostale, the quality of AE's clothing is significantly better.

Company

American Eagle has been growing very steadily. Their sales have been growing at a spectacular rate as I have stated earlier. They are currently testing out their aerie and MARTIN + OSA in experimental markets. Their American Eagle line is slowly saturating, so MARTIN + OSA and aerie will be their main future growth drivers. The key metrics AE measures their stores by is sales per square foot and comparable store sales, both of these metrics have been showing positive signs recently. Since they have been selling clothes over 3 decades with great success, they have showed that they have a good knowledge of trends in the clothing industry.

Valuation

They have over a $1 billion in cash, short-term investments, and long-term investments on their balance sheet. There is no long-term debt. They are trading at a trailing Price/Earnings ratio of 17.18. According to Yahoo's Apparel Stores industry, the average trailing P/E is 18.4. They pay a dividend of $.30 a year which is a yield of about 1%. American Eagle has been buying back stock, but there is nothing to be excited about. During their 4th quarter conference call (courtesy of www.seekingalpha.com), Joan Hilson, who is their Executive Vice President and Chief Financial Officer, said that

The philosophy that we have on our stock repurchase program is we offset a dilution related to stock option exercise.


Their return on equity has been very strong, averaging 27.83% over the past 10 years. According to Yahoo's Apparel Stores industry, the average return on equity is 19.7% Their EBITDA is $717.1 million and they are trading at around 7.5x Enterprise Value/EBITDA ratio.

Technicals

Their uptrend that started in late 2005 has been broken and they have been in a trading range from 28 to 34 in the past 7 months. RSI and MACD has been both trending down since October of 2006. The 20 and the 50 day moving averages have been trending down since early March and the 20DMA has crossed below the 50DMA in February for the first time since December of 2005. The three moving averages are right next to each other currently, and AEO is trading below all of them. It is also below its 200DMA for the first time since February of 2006. AEO's first major support is at $28 a share, which from the current trends does not seem like it will hold. The next major support is around the $24 area. It looks like its slowly breaking down.



Conclusion

American Eagle seems to be fairly priced or just a bit undervalued at these prices using Price/Earnings as a metric. The industry is trading at an average trailing P/E just a bit higher than AEO's. There is not much room for error if there is a slowdown in their growth. Management has shown they can perform and beat expectations, but their 15% yearly earnings growth will be harder to reach as a mid cap compared to when they were a small cap. The stock price will continue to go up as long as management can reach growth expecations set by themselves and analysts, but if there is a slowdown in their growth, the stock will tumble. Also, keep in mind the technicals are changing so that could be a hint of what is coming in the future.

Disclosure: I don't have a position in AEO.

Sunday, May 6, 2007

Vector Group Ltd. (VGR)

The Vector Group is a holding company consisting of 3 main businesses:

Liggett Group – manufacture and sell cigarettes
Vector Tobacco Inc – specialize in developing low-risk cigarettes like nicotine-free QUEST
New Valley LLC. – real estate business

Liggett Group primarily specializes in discount cigarettes, in 2005 and 2006 all of their sales were of the discount variety. Their market share of the overall discount cigarette industry has been growing, 7.4% in 2004, 7.5% in 2005 and 8.7% in 2006 according to the Management Science Associates. Their best seller is the Liggett Select brand. All of their sales are in the United States, they have no foreign operations. They also have a cost advantage compared to their bigger competitors like the Altria Group and Reynolds American Inc. due to the Master Settlement Agreement, which states that the three biggest cigarette manufacturers must make payments to states based on how much many cigarettes they sell annually, Liggett only has to pay if their market share is above 1.65% of the U.S. cigarette market. In the past 3 years, their market share of the overall U.S. cigarette market has averaged 2.3%. They are the fifth largest manufacturer of cigarettes in the United States based on sales volume. There are roughly 135 litigation cases pending where the Liggett Group is named the defendant or one of the defendants.

Vector Tobacco is a small part of the Vector Group holding company. Their goal is to continue developing low-nicotine and nicotine free cigarettes and to continue working on the development of low-risk cigarettes. Their sales as a percentage of total sales in the holding company in 2004, 2005, 2006 have been 2.8%, 2.0%, and 1.3% respectively. Vector Tobacco has not been profitable in the past 3 years. They also benefit from the Master Settlement Agreement, they will only have to pay if their market shares is above .28% of the U.S. cigarette market.

New Valley LLC consists of real estate operations all across the United States. They own a 50% interest in the biggest residential brokerage in metropolitan New York City, the Douglas Elliman Realty, LLC. They also hold interest in properties in Hawaii, Washington D.C., and in Florida.

The Vector Group has been very aggressive in cutting costs in its two tobacco operations, they are constantly eliminating jobs and trying to improve operating efficiency. This has been a big staple of Altria’s success over the years and this has greatly contributed to Vector’s success as well.

Cigarette Industry

The total domestic cigarette industry has been declining and will continue to decline. In 2006 it declined 2.4% according to the Management Science Associates. In the domestic market, the three largest cigarette manufacturers based on sales volume accounted for a total of 86.8%. Liggett Group faces competition on two fronts, the three major distributors and other small manufacturers similar to Liggett in size that do not have to pay in the Master Settlement Agreement since their market share is so small. In the past, there have been considerable barriers to entry in the industry, but recently the smaller companies have been able to enter the market since they are not influenced by the Master Settlement Agreement and due to the surplus manufacturing capacity in the industry. Litigation has been a constant in the industry since 1954.

Valuation

They are trading at a trailing twelve month price/earnings ratio of 25.7, that’s not great, but when you look at Joel Greenblatt’s pre-tax earnings yield, which removes the effect of the financing and taxes, they are at 10%. They also have a high Pre-Tax Return on Capital. 24.5% of the outstanding shares are owned by insiders. There is a bit over $103 million of long-term debt on the books with almost $147 million in cash and cash equivalents. There is also approximately $57 million in long-term investments Icahn Partners LP and in the Jeffries Buckeye Fund LLC. They also own about $29 million worth of LTS stock. Two investment gurus that are invested in the Vector Group are Carl Icahn and David Dreman. They also pay a dividend of $1.60 a year which equates to a dividend yield of 8.7% at today’s prices. They have a strong dividend history, raising it from $.213204 a share in 1998 to the current dividend of $1.60 a share. Their gross margin in the year 2004, 2005, and 2006 has been 34.7%, 40.3%, and 37.7% respectively. This stock appeared on the top 25 Joel Greenblatt’s Magic Formula stocks over $100 million market cap on 5/6/2007 which is based on Pre-Tax Earnings Yield and Pre-Tax Return on Capital.

Technicals

VGR has been on a tear this past year, like most tobacco stocks. It is currently trading near its high of the year. The uptrend is still in tact, the 20DMA is greater than the 50DMA which is greater than the 200DMA, but the 20DMA is moving dangerously close to the 50DMA, and if it cross it could be a big momentum shift. Momentum has been slowing already though; MACD and RSI are both diverging with the stock trend. There seems like there will be support along the 17 area, followed by the 15 area.



Conclusion

The tobacco industry is obviously in decline, but that still has not stopped tobacco stocks from outperforming the market. There is a lot to like about the Vector Group besides the 8.7% yield, they use their capital wisely, have a high earnings yield, are owned by Carl Icahn and David Dreman, and 24.5% is owned by insiders. Also, their performance will not suffer in an economic slowdown due to the nature of their product. One issue with the company that I have encountered is that the lawsuits that are currently pending against them, but this is the nature of the business. All the other cigarette producers are experiencing the same issue. I will be looking to add this to my portfolio once the stock pulls back to the $15-$17 a share range.

Disclosure: I don’t have a position in VRG.

Saturday, May 5, 2007

USANA a Fraud? (USNA)

USANA is a health and beauty company. They produce, research, and sell health and beauty products mostly through a Multi-Level Marketing operation (direct selling). Their growth has been phenomenal and they have been a publicly traded since 1992. Their stock has appreciated from $.60 a share in 2002 to a high of over $60 a share just within the past few months. In the past few months all sorts of negative news has come out, the biggest is which ex-convict Barry Minkow has published a 500 page negative report on USANA basically saying they are a fraud, and the SEC has opened up an investigation into USANA. There were also new class action lawsuits announced late last month.

Addressing the Multi-Level Marketing Scheme Accusation
When I read about and watched a YouTube video of how USANA has supposedly lied to new associates about the money they can make, I just thought to myself of all the same schemes or businesses my friends/associates throughout the years have offered me. Some lie, some just only talk about the positives, no one ever talks about the negative aspects and how tough it actually is to make it as an associate and make a lot of money (for Usana, the top 3% of distributors make 70% of the commissions). When I did ask a question about the risk involved, there is a change of topic or some how the question is not answered. If the new associate/distributor does their own research or actually think about what they are being told, there would be a lot less people signing up. I have never been involved in a MLM operation, but I would guess there are specific directions they follow when answering questions regarding risk. There obviously is an issue with USANA's MLM, but I think it will pass, it is just temporary negativity.

Here is an interview with an actual USANA Distributor or “Victim” as Barry Minkow calls her:

Barry Minkow interviews actual USANA Distributor / Victims

Regarding the Product Problems
I am more worried about the product issues. Barry Minkow said in his report that some of the products fall short of the claims made on the labels for ingredients. This is from Barry Minkow’s report for the Usana’s product Essential Mega Antioxidant:

o Folate (as folic acid) claimed 500 pgs per serving and only tested for 390
pgs per serving.
o Vitamin B-12 (as cyanocobalamin) fell significantly short from the claimed
100 pgs per serving and only tested for 63.8 pgs per serving.
o Alpha Lipoic Acid fell short by 8% from the claimed potency on the box.
o By far the most serious and significant shortage resulted from the mega
antioxidant ingredient Coenzyme Q-10, which scored only 14% of the
“guaranteed potency.”

The other issue with the products is that, according to Barry Minkow, the prices are extremely high compared to similar products. One example is USANA HealthPak 100, taken from Barry Minkow’s report:

The Usana product has a regular wholesale price of $118.89 for a 28 day supply, while
the Animal Pak product has a price of $18.50 for a 22 day supply.
Usana 28 day supply @ $ 118.89 = $ 4.25 daily cost
Animal 22 day supply @ $ 18.50 = $ 0.84 daily cost
As you can see, the Usana daily cost of $4.25 is $3.41 more per day than the Animal Pak,
or 406% more expensive.


There are a significant amount of other products that laboratories compared and the USANA product was clearly more expensive when the potency of the two products were similar. There were also issues where the potency did not match the label claims.

Valuation
Their trailing price/earnings ratio is 17.07 and their forward price/earnings ratio for fiscal year 2008 is 13.32. Both great numbers for a company growing as fast as USANA, the PEG Ratio is .86. Their gross margins for the past 3 years have increased from 75.2% to 76.1%, most of their costs are associate incentives/commissions and SG&A expenses. Their operating earnings have been 16.6%, 18.1%, and 16.6% for the past 3 years. They have a very strong balance sheet with over $32 million of cash and cash equivalents on their books and no debt. Their growth has been phenomenal with sales going from just over $133 million in 2002 to just over $374 million in 2006, that is over 29% per year. Just recently on April 10th, they announced an increase in their stock buyback program to $65 million.

Technicals
To put it mildly, it’s been trending down in the past few months. Volume has been big in distribution days, all of the momentum is down. This is not the place to buy. On the bright side, RSI and MACD are both showing over sold, but they have been both showing over sold for the past few months. USNA is close to support from last summer at around $37.50 a share, which is a good level to keep an eye on it. The down trend is not confirmed yet by the moving averages, but the 50DMA is getting ready to cross the 200DMA this week and that will be the confirmation.



Conclusion
The negativity this company is currently experiencing is tremendous. The stock price is definitely displaying it, some of it is definitely unwarranted. The issues I am worried about are their products, some of which do not support their claims and being much more expensive than comparable products for other brands. If what Barry Minkow said in his report about their products is true, I expect to see margin pressures from USANA trying to increase their product potency's to match the claims on the products and from price pressure since comparable products are so much cheaper. (Their 1st quarter results had no signs of these pressures as gross margins increased by 220 basis points compared to their 1st quarter results in 2006.) I would avoid this stock for now and wait to see what happens to their sales, earnings, and margins in a full quarter after the accusations. The technical picture does not look great at this point either.

Disclosure: I don't have a position in USNA.

Thursday, May 3, 2007

True Religion Apparel Inc. (TRLG)

True Religion Apparel is an upscale Apparel Clothing company. They are best known for their denim apparel. Their target customers are fashion-conscious consumers. Just recently they started expanding their operations by opening Retail Stores to sell their apparel, but it is still just a small part of the company, with just over 3.5% of net sales coming from their retail segment. They also sell their clothing through such upscale retailers such as Nordstrom, Neiman Marcus, and Saks Fifth Avenue.

Bullish Case

1) This is a classic growth slow down stock. They are still growing fast but they are not growing as fast as they were in 2004. Sales are projected to grow just over 20% for fiscal year 2007.

2) Their retail stores are showing good signs, this is one of their main strategies of growth. The gross margin for their retail operations was 46.5%.

3) There are no signs that their apparel is going out of fashion. Sales are at an all time high. Their denim apparel has been a hit all over the world.

4) Their valuation is excellent. Their trailing twelve months price/earnings ratio is just 14.64 and their forward price to earnings ratio for fiscal year 2008 is just under 10. PEG ratio is just .54.

5) Their growth has been phenomenal. Their revenue has grown from $27.7 million in 2004 to $139.0 in 2006 and expected to grow to $167.1 million in 2007 by analysts.

6) Their balance sheet is strong with almost $45 million of cash on their books and no debt.

7) Company wide gross margin increased 166 basis points in 2006 compared to 2005.

8) Great inventory management. Sales increased by over 35% and inventory shrunk by over 6%. Inventory Turnover increased to 14.79 in 2006 compared to 10.2 in 2005.

Bearish Case

1) Upscale clothing is one of the first casualties in the downturn of the economy, people will slow their buying of luxury goods.

2) There have been a lot of clothing fads over the years where styles have come and gone and their companies with them, will TRLG still be around in a decade?

3) TRLG has been in business for not even 5 years. What will happened to them when the current fashion changes, will they adjust on the fly or will they struggle? Are their management and designers talented enough to adapt to the fast changing fashion trends?

4) Their auditor has found some issues with their accounting recently. There could be issues with internal control over financial reporting.

Technicals

TRLG has been trading in a range for the past 18 months between $15 and $24 a share. Currently it is trading around $15 a share. It is pretty much sitting on 18 month support, a good spot to buy in. $12 looks like the next solid support. The down trend is firmly in place, the 200DMA is above the 50DMA which is above the 20DMA. The 20DMA has been acting as recent resistance. MACD and RSI are pretty neutral right now but they have been showing a bullish divergence.



Volume has been positive. The up days have been on heavy volume and volume on down days has generally been pretty light.



Conclusion

I can't seem to make up my mind on this stock. Both, the bear and the bull cases seem to make sense. My primary concern is TRLG has not been in business long enough to see how it adjust to different trends in fashion. Yes, growth so far is excellent but how will they adapt to a new trend? Their valuations are excellent and they seem to be making the right decisions about expanding their company with the new retail segment and licensing deals they have signed. They have also expanded their distribution. There is no doubt that their denim product that they have been putting out is excellent, but for me there is not enough operating history to start a long position.

Disclosure: I don't have a position in TRLG.