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Sep 8

Taking a Moonshot on Mission Ready Services

This is a tiny micro-cap on the TSX Ventures. I just came across the stock this morning. They have a $35 million market capitalization at current levels. Just yesterday they announced a huge contract with a foreign military for their Flex9Armor and No-Contact Tactical Shield Covers. The contract is for $50 million USD in the first two years, followed by $100 million USD for subsequent years.

I might be wrong, but the agreement looks more legitimate than some you see announced from small venture plays. This isn’t an memorandum of understanding (MOU) or letter of intent (LOI) from what I can tell. I have found those sort of agreements are often not carried out in the end.

Nevertheless, I can’t be positive if the contract is legitimate. But it appears to be. What due diligence I have been able to do in the last few hours suggests the company has legitimate products. Earlier this year they announced a contract with the US Navy to develop Electrician’s Impact Safety vests. That the company has had successful bids with the US defense industry gives me at least some comfort in the current contracts legitimacy.

Buying the stock here means I am adding after what has already been a large run. It may be exhausting itself and I may have caught a short-term top, hard to say. My thought adding here is that A. you never know where these things exhaust themselves and B. if the contract gets executed then I am still getting shares for well under the $50 million to $100 million revenue run rate of the deal.

As always, I am taking a small position only, as this quite obviously might not pan out.

Sep 6

Adding Gold Names

I decided to add more gold names yesterday as it looks to me like gold is breaking out. I finally got a move out of some of my existing positions. Americas Silver has jumped from $3.80 to $5.80, Gran Colombia Gold has moved from $1.40 to $1.60 and Klondex Gold has broken out of its $4 choke hold and is trading at $4.35.

First, I decided to add to both my existing positions in Gran Colombia and Klondex. Gran Colombia had very good news on Monday, announcing that their mine strike had ended. The stock, at $1.60, has hardly participated in the gold move, and is one of the cheapest gold stocks out there and less than 4x free cash flow. The hair remains but the settled mining dispute removes some of it, and I have to think it goes higher.

Klondex is my largest gold position and I added to it yesterday. My add here was simply that it appears to have broken out from the $4 level (Canadian). I’ve written about Klondex in the past. Its been under pressure for months from an unusual GDXJ rebalancing that caused a lot of forced selling from the fund and follow-ons. I note that there was a 25,000 share purchase by one of their directors on Thursday.

I added two new positions. First, I added Wesdome. Wesdome operates two mines at its Wawa complex in Canada and also has two advanced stage projects in Canada. They have a $320 million market capitalization and $22 million of cash and no debt. Guidance for the year is 55,000 oz. I ran a quick comparison of gold companies looking at their enterprise value per ounce produced. This is super simplistic of course, it doesn’t account for costs, reserves or development projects that are generally big determiners of value. Nevertheless, when I look at Wesdome it compares favorably (at $5,500/oz) to other miners. There are cheaper one’s out there (for example Gran Colombia and Jaguar Mining, which I will talk about in a minute), but these generally have a lot of hair. I don’t see much hair on Wesdome.

Jaguar, which I also added, comes out even cheaper, with an enterprise value of less than $1,000 per ounce. But it has lots of hair. I actually owned Jaguar years ago. It has a new management team, a lot more shares, but essentially the same mining complexes.

Jaguar has a market capitalization of $90 million, $20 million of debt and $20 million of cash.

Apart from being really beat down, and very cheap (at least on a superficial basis), Jaguar actually seems like they had gotten their shit together up until the last quarter. They had consistent production from both their Turmalina, Pilar, and Roca Grande mines. But production slumped at Turmalina in the first quarter, causing the shares to slide.

The share drop was potentially accelerated by Resolute Funds, which sold 30 million shares over the quarter. I found this article, which speculates on the impact of the Resolute Funds liquidation.

My bet with Jaguar is that in a rising gold price environment, many past transgressions will be forgotten. It is also that maybe the second quarter does not portend the future. Jaguar kept guidance in the second quarter, and they had been producing consistently at Turmalina for the past 6 quarters.

Sep 2

Adding a new position in Imaflex, Selling Psychemedics

I added a new position in a company called Imaflex this week. Imaflex trades on the Canadian market. They produce polyethylene films for packaging, garbage bags and, most recently, agricultural products. I’ll do a more detailed write-up but for now the thesis is:

this is a small company ($65 million market capitalization)
they just reported strong growth (32% year over year revenue growth in the second quarter)
they are ramping up a new product called Shine N’ Ripe that uses a thin film wrap around plants to increase sunlight and deter insects
that product is gaining traction, having generated $2.1 million of orders in the second quarter on top of $3.3 million in the first quarter, and is driving growth

The company trades at a fairly reasonable valuation of 14x free cash flow based on the trailing twelve month numbers. Focusing on more recent history, they trade at only 8x free cash flow if you annualize the last quarter results. This is a small position for me so far, at 0.5%.

Its also in Canada, which means I don’t have to worry about currency, the bane of my existence the last few months.

Selling Psychemedics

A second trade, after much consideration, was to sell Psychemedics. As the stock rose back to the $21 level I decided I did not have the conviction to wait and see if it would go back into the teens.

Psychemedics didn’t have the best quarter in Q2. The main culprit was gross margins, which declined from 52% in the first quarter to 48% in the second quarter. In the last two quarters of 2016, the company had gross margins of 59%. Historically, margins have been around 50%.

Unfortunately Psychemedics doesn’t give a conference call so we are left with only what they have written to understand the significance of the decline.

What the company said in the second quarter press release was:

In the past quarter, we have made a number of strategic decisions and are implementing a number of strategic initiatives that we believe are in the best long-term interests of the company. Our market share remains strong and we have taken further strategic actions to solidify and strengthen our long-term position in the market. In addition, we now have established a wholly-owned subsidiary in Brazil and have brought on a Country Manager, a Brazilian national to manage our business in Brazil and work with our distributor. We believe in the long-term attractiveness of this market and are willing to make short-term investments and sacrifices.

In the 10-Q they said that “the decrease in margin was attributable to a mix of business, the inclusion of Brazil sales taxes and additional depreciation from equipment placed in service.”

I have been worried that Psychemedics had lost market share in Brazil to a competitor, Omega, that had just started operating in Brazil 3 months ago. Omega stated on their website that they have achieved 25% market share in Brazil in the first 3 months of operations there.

But after talking to management I got the impression that Omega’s press release may have been optimistic and that while they are now a competitor in Brazil, they have not scaled to the degree they are suggesting. There was a lawsuit between Omega and (indirectly) Psychemedics earlier this year. There is clearly no love lost between the two companies.

Still, the rising costs/shrinking margins bother me, particularly given the valuation. I am uncomfortable that Psychemedics is trading at over 10x EBITDA when they are having trouble maintaining margins and there is some uncertain level of increased competition in the Brazil market. And I can’t help but look at the long-term stock chart and note that it wasn’t that long ago that the stock traded at $10. It shouldn’t trade at $10 again, but a motivated seller in a crappy market and I think $15 is not impossible.

On the other hand its entirely possible that the market looks past the second quarter, the stock continues to trade at this level for a while, and then we get an upside surprise in the third quarter and its back to the mid-$20’s. I’ll accept the risk I miss out on that. If I had a bit more confidence, ie. if I hadn’t just been smacked down by an incessantly strong Canadian dollar, I might be more willing to take the risk. But given the strength in the Canadian dollar, and my suspicion that the US dollar weakness is not a temporary event, if I am going to own a US stock, it needs to be a lopsided bet. Psychemedics doesn’t feel like that right now, so I’m out.