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Mar 28

Week 298: Keep on Truckin

Portfolio Performance

Top 10 Holdings

See the end of the post for my full portfolio breakdown and the last four weeks of trades

Thoughts and Review

No great insights this month. My portfolio continues its upward climb even as the market stalls. I continue to be buoyed by my large position in Identiv and more recently my large position in Radcom. Combimatrix is consolidating in the $4’s but it looks healthy and I am hopeful it will break out on another leg up soon. Silicom has helped a lot and I will talk more about that shortly, as has Supernus. I still have a bunch of stories that I think are on the cusp and waiting for that final catalyst, Radisys, Vicor, and maybe even CUI Global, which I wrote about a little earlier this week. Overall, no complaints.

New Position: Daseke Inc.

I added a new position in Daseke after reading this write-up by Dane Capital. The story seems pretty straightforward. Daseke is born of a special purpose acquisition company (SPAC) that acquired the previously private company, its trading cheaply relative to its peer group (see chart below from their presentation) and is in an industry that should see a tailwind as economic activity, infrastructure spending and oil and gas capex pick up. There is not point repeating what Dane Capital already wrote so I recommend going to the article for the details.

I added both warrants and shares. I’m not really sure whether the warrants are fundamentally overvalued or undervalued compared to the shares, I just thought they represented a good upside given that the stock is probably around two times EBITDA lower than it should be and that if it traded up to an appropriate level it would get to the high teens, which would be a triple for the warrants.

What I added to

I added to four companies over the past month. In each case I was persuaded by an upbeat outlook about the future that was given by management on the calls. I’ve already written my thoughts on Vicor. Likewise I wrote up CUI Global just the other day.

I also added to Accretive Health, which has changed its name to R1 RCM. I last talked about R1 RCM here. Not much has changed, they are making progress on-boarding Ascension and finally moved their stock over to the NASDAQ. I figured the NASDAQ listing would be a bit of a catalyst, so I added the day prior to that.

Finally I added to Silicom on this news. This is just a huge contract for the company with an $17 million initial purchase order and $30 million expected annual run rate. I read somewhere that the customer is likely with Gigamon.

I do intend to write-up Silicom, I just keep getting tied up with other stories, and I wanted to spend time understanding their whole product suite before putting any post up. The good news is that as I have dug more, I have become even more comfortable with the company.

What I sold

On the sell side of the ledger, I already wrote about my sales of Nuvectra and Rubicon Project, and my reduced position in Bovie Medical.

In addition to these names I also sold the last of Willdan Group. Willdan has been a great name for me. I added the stock in the single digits, around $8, and am selling the last of my shares in the low-$30’s. The business is still humming, and the company seems to have shifted to an acquisition strategy that so far is fueling further growth. Yet at this price I just feel like the upside is priced in, with the stock trading at 25x the upper end of their 2017 guidance (which is $1.20 diluted EPS).

A couple late Biotech Buys

I also bought starter positions in a couple of mid-stage biotechs at the end of last week: Eiger Pharmaceuticals and Inotek Pharmaceuticals. I got both of these names from Daniel Ward, who comes up with a lot of good ideas. I’ll try to write up some details on both companies in the near future, but you can get a pretty good overview of the investment thesis if you listen to their recent conference presentation (Eiger at the BIO CEO and Investor conference and Inotek at the Cowen Healthcare conference).

The Catalyst Biosciences Catastrophe

Finally there is Catalyst Biosciences. This is so painful. So on Friday I put in a market order for Catalyst in the practice portfolio. I always use market orders with the practice portfolio because it doesn’t always work to put in limit orders. With limit orders sometimes you get filled, sometimes you don’t, even if the stock moves below your limit. But because I didn’t like the bid/ask spread on Catalyst (it was something like 5.20/5.45 at the time, so really big), and because the stock bounces around a lot, in my actual account I put in a limit order at 5.10. I liked the stock because it was at a big discount to cash, but it didn’t seem like there was any reason to chase it.

It was with great pain that I watched the open this morning. Catalyst opened in the $9’s and proceeded to move to as high as $18. I made a killing in my practice portfolio (its not reflected in the update because this update is for the four weeks ended last friday) but I made nada in my actual account.

I hate, hate, hate limit orders. I rarely use them and this is a big reason why. If you want to buy a stock, buy it. If you want to sell it, sell it. All the pennies I may save putting in limit orders over the next year will not amount to what I should have made on Catalyst today. It makes me a little ill to think about it.

Portfolio Composition

Click here for the last four weeks of trades.

Mar 27

CUI Global Fourth Quarter: Slowly inflecting

I’ve had a small position in CUI Global since last summer. I first wrote about it here. The thesis has been that their gas measurement technology (called GasPTi) is quite a bit better solution than traditional measurement techniques, that slower than anticipated adoption from utilities has punished the stock but that adoption of the technology is on the verge of inflection. But even at the time I wrote rather presciently:

Given this trajectory, it’s most likely that even if the story works out it will A. be delayed longer than anyone would have expected and B. have a number of false-starts and hiccups before finally showing consistent growth.

Since that time the corner of that inflection continues to be turned, just not very quickly. Not surprisingly the stock hasn’t done much.

Until the recent quarter the company gave me little reason to add. In fact, prior to the quarterly release I reduced my position a little on anticipation that the market would react negatively to what seemed like a near certainty to me: that their major customer for the GasPT product, Snam Rete, would continue to be delayed in installing gasPT units because of a regulatory hang-up, making the fourth quarter and likely first quarter guidance sub-optimal. Even though this should have been widely anticipated, small caps are forever inefficient and so I thought it probably wouldn’t be.

That is exactly what happened. The company reported a crummy fourth quarter revenue number ($19 million versus $23 million in the third quarter), and much reduced sales from their energy segment ($5.6 million versus $7.1 million in the third quarter). The first quarter guidance was no better. The stock has sold off since.

Yet I feel tentatively optimistic about the company’s prospects. I added to my position, but just a little. Here is my reasoning.

First, though Snam Rete continues to be held up by a regulatory hurdle, I am inclined to believe management when they say that this will be resolved. They commented that Sanm Rete has a team working with the regulator, that they have worked through similar issues before, and that Sanm Rete is close enough to resolution to have originally thought it would be resolved by year end.

As long as you believe the management story, it doesn’t seem like this is anything insurmountable. And a single news release noting that the hurdle has been cleared will likely lead to a resumption of Snam Rete’s run rate of 100 GasPT unit installations a month and a significant pop in the stock.

(100 units at $15,000 per unit is $4.5 million per quarter, which would boost their energy segment to almost double the fourth quarter level)

While the poor results and stand still on Snam Rete have taken the focus, the news that has been ignored is that CUI Global did get another big player on-board. I was way off in my original write-up, thinking such an event would be a huge catalyst for the stock. I wrote:

I don’t think you can sit on the sidelines and wait and see how it plays out. Because the next contract, if it happens, will likely be the big move when it happens, and the stock will gap before you can react.

Well they announced that next big player, ENGIE, a large French grid operator, but obviously the stock did not respond as I had anticipated back then. To be fair they don’t have a signed PO in hand, only an agreement for collaboration and a lot of positive color around the deal on the conference call. The market probably wants more.

In addition to France, ENGIE also has ties to PetroChina and owns pipelines and LNG in China, a market where there have been discussions about taking the GasPT product into. So this are potentially two markets that the company can penetrate. The CEO, Bill Clough, didn’t put a lot of numbers to ENGIE on the call, but in the past has said that the opportunity in France is around 2,500 GasPT units (these would be higher pressure units requiring the VE probe for analysis and that therefore would have a higher ASP then the units they sell to Snam Rete in Italy), and he did on the call refer to negotiations of a 1,000 unit project that are ongoing.

One other development mentioned both in the release and on the call was a change in regulation by the UK gas regulator, OFGEM, which will make GasPT units acceptable for smaller installations. Clough said that “once approved our European and UK customers will be able to replace gas chromatographs with our GasPT simply because the economics favor our solution”. I’m not sure how big this opportunity will be, but it is expected to materialize into POs shortly. They also have the previously announced $40 million engagement with National Grid, a UK utility.

Finally, in the electro-mechanical business they continue to talk enthusiastically about their ICE block solution, which is a software/hardware solution for data centers that is intended to reduce power consumption. They said that this year they have ICE block units being tested by “several industry-leading data center operators”, mentioning on the conference call a Fortune 100 DC operator, Fortune 500 DC operator, top tier data center hardware provider (this was all previously announced in this February press release). They also added fourth company in one of largest ecommerce platforms in the world

I’m not as sure about the ICE block opportunity as the GasPT one. They are a partnership with a company called VPS, where they are essentially the hardware provider for the VPS software. VPS describes the ICE Block here, and it doesn’t sound like the hardware is a very important part of it, so what exactly the upside is isn’t clear to me.

Nevertheless even without ICE block, the opportunities with GasPT are enough to keep me interested for now.

While none of this has translated into a positive revenue number or a guidance breakout yet, it all feels very directionally positive to me, and seems more and more like the hockey stick of the inflection is just a matter of time.

Mar 17

6 Comments

Talking about the losers: RUBI, NVTR and BVX

I have a lot of losers.

My investment methodology leads me to take small positions in stocks that I’m not entirely sold on. These are cases where I haven’t had the time to investigate all the details, or maybe I’ve looked at the company closely and while I see a big enough pay off to justify some risk, I’m still not sure about the odds.

Rather than stay away from these stocks, I take small positions and see how they play out. I don’t know why this works for me, but it does.

There are two potential consequences of this strategy.

The stock goes up. I maybe am not completely sold on the story yet, but I tend to add anyways. With a bigger position I do more work, get some helpful hints from others, gain confidence in the story and have a winner
The stock goes down. In this case having some skin in the game motivates me to look harder. When I do I generally either find something I really like and break my rule by adding to my position on the drop, or find something I don’t like, take the loss and move on.

I think the classic example of the second scenario playing out positively is my old position in MGIC in 2012. I bought the stock at maybe $2 or $2.50, at the time didn’t really understand the details of their mortgage insurance business (I would argue few did!), especially not how the capital requirements worked. I added a bit on the way down, but more importantly figured out how they allocated reserves and how the dynamics of their statutory balance sheet worked. Thus I knew exactly how important it was when management said on (I think) the second quarter 2012 conference call that they were getting calls from investors interested in raising capital (the company’s issue all along was liquidity), and I was adding stock while the call was still going on.

I never would have learned enough to pick up on this detail had I not already had a position in the stock.

So that is the positive side. The more common result of course is that I find something I don’t like and I sell. Take my lump (usually 10-20%) and move on to another idea. The important thing is to cut them quick if they aren’t panning out.

Somebody once messaged me (derogatorily I might add) that I should just throw darts. I like to think I’m a little more discerning then that, but I get the point. My reply is that this works for me and if you think you can beat the returns I seem to pull of for the time I have to put into the research (I work full time and have two kids), then more power to you.

Here are some thoughts on three losers I’ve had recently.

Rubicon Project

Why spend hours writing a free blog? Well one reason is because as you are writing something up it becomes quite clear if your idea is full of shit.

I started writing up Rubicon Project 2-3 weeks ago. I couldn’t finish it. I put it down, came back to it, did some more research. I just couldn’t figure out what the header bidding disruption meant to their business.

Management said it was manageable. That it would be a headwind to their desktop advertising but that they would get past it. But I read that header bidding was going to compress margins for everyone. That there was more disruption ahead with the adoption of server side heading bidding. It didn’t add up.

The fourth quarter results are out, and while the company actually performed admirably in the quarter, the first quarter guidance was just awful. They guided revenue in Q1 in the $40’s (millions) when analysts had expected it in the $60’s (which was still a notch down from the year before). Thankfully I kept my position small, and reduced a little ahead of earnings because I couldn’t make sense of it. I sold the rest in after hours.

Nuvectra

I have to give a hat tip to @Rubicon59 (no relation to Rubicon Project) for helping me suss this one out. I bought Nuvectra because I thought they had a very good technology (spinal cord stimulation with their Algovita system) and a fairly large total addressable market and so with the right sales push they could generate some impressive growth. They had a lot of cash, almost their entire market capitalization. And it was even a legitimate spin-off idea, even had an SA write-up on them.

They still might generate that growth. Probably will. But the cost side of the curve is just so out of whack, it’s hard to see how they do it before running out of cash. Particularly after announcing a fourth quarter, where G&A and R&D costs were (respectively) up from $8 million to $10 million and $3 million to $4 million sequentially.

Just to back of the napkin it, the company generated about $12 million of revenue in 2016. We can say that at least roughly, the Algovita system is going to give them 50% gross margins. R&D and G&A costs added up to $42 million. These costs increased as the year went on.

The company said at the Piper Jaffrey conference last November that they figured a good target for a sales region was $1-$1.5 million in 12-24 months. Right now they have about 50 sales regions. So you assume they hit the high end of that, they can generate $75 million of revenue, and at 50%, $38.5 million of gross margins. Problem is that’s still less than current expenses.

I realize they also generate some component sales, but even so the numbers don’t come close enough. and It seems like anything other than the steepest of ramps and they are going to be looking to raise capital in a couple of quarters. So I’m out.

Bovie Medical

I wrote about Bovie in my last portfolio update. I provided a pretty detailed explanation as to why I thought the concerns over Hologic were likely unfounded and therefore why I took advantage of the drop in the share price.

It was a well researched, well reasoned piece of tunnel vision.

I spent a bunch of time looking at Hologic and trying to confirm or discredit the idea that Hologic was a concern. What I didn’t spend any time is whether the third quarter numbers were goosed by Hologic even though they hadn’t actually sold any devices.

How is that possible? I provided most the information that you needed in my post when I said:

The average selling price (ASP) for a generator is much higher than a hand piece so Bovie generates a significant slice of their revenue from it. From the 2015 fourth quarter conference call :

I guess when you think about it, the generator ASP is north of $20,000, the hand piece ASP is $375

The other relevant piece of information comes from the third quarter call, where Bovie noted that their partners had been purchasing machines for their sales ramp.

So in the [revenue] number our demo product that we armed both Hologic and Arteriocyte sales forces with that is in the number

What never occurred to me (and what I am kicking myself over) was that obviously the third quarter J-Plasma sales were juiced by demo generators. Keep in mind J-Plasma revenue was a little over $1 million in the third quarter. It’s not a big number, it only takes a couple of extra generators to skew it significantly.

Unlike Rubicon and Nuvectra, I reduced my position a bit but did not exit it entirely. Bovie has a lot of positive catalysts on deck in 2017; two new iterations of J-Plasma that will be marketed in the second half, results from a clinical study using J-Plasma that should raise awareness among surgeons, a new partner to replace Hologic (it sounds like they have a number of interested candidates) and a sales ramp from their CONMED partnership for the PlazXact Ablator.

So there is enough reason to continue to hold the stock, especially down here below $3. But I sure wish I would have saw what was in front of my face a little bit sooner.

Mar 12

10 Comments

RMG Networks Fourth Quarter Earnings: Still waiting for a step in the top line

I had hoped that RMG Networks would have a blowout fourth quarter. That didn’t turn out to be the case, but I’m still optimistic about the company and am holding onto my position.

The drag continues to come from the Middle East. Overall, sales in the fourth quarter were $10.7 million, down from $11.8 million in 2015. North American sales were up substantially, increasing 25% year over year. But Middle East sales were down $2.4 million for the quarter year over year, which is just a huge number when you consider that sales for the Middle East were only $3.4 million for the entire year in 2015.

Below you can see the dynamic. North American sales have taken off while overall sales have been held back by tough year over year comps in the Middle East.

Now maybe, just maybe this headwind is starting to abate. First, comps for 2017 are going to be easier because the Middle East generated so little revenue in 2016. Second, because oil prices are stabilizing they are starting to see things pick up in that region. On the conference call they said:

I can tell you that obviously we have a plan for every quarter, for each of our geographies and our plan for Q1 for the Middle East we have already completed contractually all the sales required to hit our number for Q1 in the Middle East and that is a dramatic change from 2016

They went on to say they are negotiating another large deal, I believe for the new RMG Max product, with a new customer in the Middle East. If it closes, the deal would be the “single largest” in the quarter.

The company also provided an update on their partnerships. It sounds like the Airbus DS Communications partnership (announced in August) has gained the most traction. The partnership is expected to launch in the first quarter when Airbus releases their next gen 911 system called Vesta which RMG is integrating a display solution with. They said they had already received $100,000 of orders in advance of the launch.

The Regan partnership, of which I believe the primary motivation is to introduce RMG Networks to new customers, has allowed them to “reach more than 200 companies and have 20 active leads”.

Finally Manhattan, where the update was the least specific of the three, the comments were limited to how the two companies are holding joint webinars and sales training. Michelsen (the CEO) had said on the third quarter call that they expected to see results with Manhattan in early 2017 but there wasn’t any indication of that on the fourth quarter call. So we’ll have to watch that one closely to see how it develops.

Overall RMG Networks remains pretty positive about the impact of partnerships. In response to a question, Michelsen said that achieving 10% of 2017 sales from partnerships was “in the ballpark”. So we will have to see how 2017 unfolds and whether this forecast holds up.

Finally, the company said the pipeline of sales deals is progressing positively. The overall size is up about 20% year over year, the larger deal count is up about 1/3 and the average deal size is up 17%.

Overall it was directionally positive quarter, but we need to see this translate into sales. In my opinion, the first quarter is big. With the Middle East no longer a headwind, with Europe “improving” and with an expectation of strength in North America, there is no reason that the first quarter won’t be good. It needs to be or I’m going to start questioning why all the positive “color” is not translating into numbers. I’m hopeful I won’t have to go there.