CUI Global – A Bet on Management not Blowing It

I seem to be in the midst of a series of retro posts.  First it was Identiv and now CUI Global.  Both of these are stocks I’ve owned in the past and am now revisiting.  I’ll look at Pacific Ethanol shortly (kidding).

Unlike Identiv, I did not do well on my previous endeavours into CUI Global.

I bought the stock in the past on the promise that their GasPT technology might make inroads into its very large addressable market.  That never happened (still hasn’t) and the stock fell and fell and fell.

I bought the stock again yesterday but this time I am coming at it from a different angle.  The stock is trading at a negative enterprise value and my bet is that management doesn’t do anything to screw that up.

A negative EV sounds like a deal! But…

There is always a but.  In this case it is complicated by a pivot and prospective acquisitions.

Let me take you through the valuation and recent history of CUI Global to explain the “but” here.

First the valuation.

CUI got to a negative EV by selling itself off.  They have announced the sale of two of their businesses in the last month or so.

The first was the sale of their electromechanical components business.   The business was sold for $4.7 million of cash, the assumption of a $5.3 million note, and a $5 million earn-out.

The second sale happened yesterday.  CUI sold their power business to Bel Fuse for $32 million.

What is left is CUI’s energy division.  This consists of the GasPT product and their engineering services.  CUI also has a 20% interest in Virtual Power Systems (VPS).

What’s Left

The GasPT business is why I was involved in CUI Global a few years ago.  The company has a better product for measuring gas composition.  The market for this product is potentially very large.  But getting traction with large utilities has been a challenge.

The company has been engaged with Snam Rete, the large Italian energy provider, for years now and while there are always signs that the big deal is around the corner, so far that hasn’t materialized.  You can say the same for Engie, the French gas provider they are engaged with, and for their other engagements (China, TransCanada, and the UK regulator).

That is not to say there isn’t progress.  They had an order from their distributor Samson in April.  They had a $900,000 order from a UK Gas Network operator in July.  In August they had an order for their VE probe and analyzer from a large gas network operator in the United States.

There are orders.  But these aren’t to the scale of the promise of the device, which has yet to materialize.

The company also has an engineering services business.  That business has fared better.  The vast majority of the ~$12 million of revenue the energy segment generated in the last six months came from this business.

CUI is the largest integrator of natural gas systems in the U.K.  They provide contract engineering to “gas utilities, power generation, emissions, manufacturing and automotive industries”.  They opened a Houston facility in 2015 and it seems like they have generated some growth from this expansion.

Its Complicated

If this was the whole story it would be a pretty simple decision – are these businesses (there is the 20% VPS ownership as well), worth more than negative $7.5 million?

The complicating matter is that CUI Global is in the middle of a pivot.  In May they announced that they had made 4 non-binding offers for private companies that together would have transformed the company into a much larger entity – one with $40 million of EBITDA and $350 million of revenue.

The goal seems to become a broad energy infrastructure provider with a focus on the Houston market.

If all of these transactions were still on the table at the terms described back in May (160 million shares, $30 million of cash and a $45 million unsecured note) the share price would be quite cheap at this level.

What complicates matters even further is that since that time CUI has walked away from 3 of the 4 transactions.  The remaining one appears (and I say appears because they have been more than a little vague about details) to be Target 1.

Coming up with a valuation of CUI Global “pro-forma” this transaction is difficult because the company never backed out each transaction individually and we also don’t know if the terms have been adjusted since May.

It’s clear as mud.

New CEO

The other piece to this puzzle is that CUI has taken on a new CEO in October – Jim O’Neil.

O’Neil is the former CEO (from 2008 to 2016) of Quanta Energy Services.  The pivot that CUI is making is centered around O’Neil’s involvement.  He has been with the company in some capacity since at least early this year.  His primary responsibility has been vetting potential acquisitions.

While I don’t know a lot about O’Neil, and I probably should dig into him more, he seems to have a decent background.

Mr. O’Neil had responsibility for various initiatives including: the company’s renewable energy strategy; commercial and industrial operations; internal audit; merger and acquisition initiatives, including overseeing the acquisition and integration of InfraSource, Inc., then the company’s largest acquisition to date; and more. Before joining Quanta, Mr. O’Neil spent 19 years with Halliburton, where he held various positions that encompassed responsibility for its Gulf of Mexico operations; deep-water development; and health, safety and environment.

You Have to Believe

While CUI has not yet delivered on their promised pivot, they did deliver on the divestitures they promised on the second quarter call.   Their electro-mechanical division is now all but gone and they have gotten a decent return for the parts they sold.

I took a position because it seems more likely to me that something goes right with the acquisitions than not.

With that said CUI can still do something stupid and kill the golden goose – more specifically, buy some energy infrastructure business at an exorbitant price and have the negative enterprise value eaten up by that.

On the other hand, if the company completes an acquisition on reasonable terms things could turn out quite well.

There are synergies here, with the primary one being taxes.  One thing about running a shitty business for a long time is that you manage to accumulate a whole lot of net operating losses.

As of December 31, 2018 and 2017, the Company recorded a consolidated valuation allowance of $20.3 million and $17.7 million, respectively. During the years ended December 31, 2018, 2017 and 2016, the Company recorded an increase in valuation allowance of $2.6 million, a decrease in valuation allowance of $5.8 million, and an increase in valuation allowance of $2.7 million, respectively. The Company has provided for a full valuation on existing deferred tax assets in the United States and United Kingdom. Prior to 2018, the valuation allowance was on the deferred tax assets of the United States only. As of December 31, 2018, the Company has available federal, state and foreign net operating loss carry forwards of approximately $67.8 million, $62.8 million, and $2.2 million respectively, which the federal and state net operating loss carry-forwards will expire between 2019 and 2038.

That is over $4 per share in NOLs.

Of course, those NOLs are useless with the existing businesses that CUI operates.  But with the acquisition of a profitable energy infrastructure business, they represent a lot of incremental cash flow.

Anyway, that’s the story here.  You get a couple of businesses with some degree of potential for less than zero and a lotto ticket that an accretive acquisition makes the whole thing a big winner.

There are also earnings and a conference call tonight after the close that might shed some light on how this all plays out.

The downside is that if management screws the pooch all that value could go poof in the night.  That is a distinct possibility.  These guys haven’t exactly delivered over the years.

Nevertheless, a negative EV and all those NOLs at least puts them ahead in the count.

Perfect.