Reminiscences of a Stockblogger

Mar 24

Week 349: Company updates, a couple new positions but mostly sitting pat

Portfolio Performance

Thoughts and Review

I’ve been slow on the updates. This is the second time in a row that its been 8 weeks between them.

I’m slow because my portfolio has been slow. I still have a high cash level. I took advantage of the stock decline in February, but not enough to have much of an impact on my results. Since then I sold down a few positions and so I’m back to a high cash level.

Portfolio Additions

I’ve already written about my new positions in DropCar and Precision Therapeutics, as well as reestablishing a position in Radcom and Silicom.

In addition I took a position in Sonoma Pharmaceuticals and Foresight Autonomous.

I’ve got something written up about Sonoma that I will put out in a couple of days, so I’m not going to talk about them right now.

Foresight Autonomous

My position in Foresight Autonomous is small (less than 1%), so I’ll just mention the thesis briefly.

The company is developing automobile detection systems (called advanced driver automation systems or ADAS). They have had successful trials with Uniti Sweden, and three successful pilots with Chinese companies.

The stock trades at a $110 million market capitalization. That’s not really cheap but I think the potential here is significant if they can land a deal with a large car companies.

Foresight also has a 35% interest in Rail Vision. Rail Vision provides detection systems for rail systems. Rail Vision was looking to IPO last fall at a $100 million valuation.

Worth noting is that this article said that Foresight’s technology has tested better than Mobileye. Mobileye was bought out for $15 billion.

Good News from existing positions

While my portfolio has only benefited at the margins, there were a number of positive news events over the last couple of months that do bode well for the stocks I own.

Vicor gave a very positive outlook on their fourth quarter conference call. They are making progress on the 48V servers, automotive and high end power on package applications. It seems very likely that they are working with a large FPGA producer (maybe Nvidia?) for high end power converters on the the chips.

Gran Colombia is doing very well at both of their mines. They provided a February update on Tuesday. They are on track to do more than 200,000 ounces if they can keep up the mining rate from the first two months of the year.

The next day the company amended terms to the debt exchange deal. The 2018 debentures will be redeemed, not refinanced. It means more shares and less debt.

The amendment doesn’t change my opinion on the stock. With the new terms they will have about $95 million of debt and 54 million shares outstanding. It doesn’t really impact the enterprise value much, with less debt there is somewhat less leverage to the price of gold but also less interest charges.

DropCar announced they are going to be doing maintenance and cleaning on the Zipcar fleet (transport,prep, cleaning, maintenance) in New York City.

The stock only moved a little on the news but it seems pretty significant to me. Zip Car has 3,000 cars in NYC according to their website.

While I’m not sure how b2b revenues on a per car basis compare to the consumer business, 3,000 cars is a lot of cars. Compare this to the 1,500 consumer clients they have right now.

The only question is what sort of revenues do they get on a per car basis for the B2B business? I need a bit more detail from the company on this. I suspect there are a lot of investors feeling the same way.

I wasn’t thrilled to see the $6 million private placement. It conveniently gets Alpha Capital Anstalt their position back without breaching the 10% rule (its a convertible preferred sale). But I still think the business could have legs. The recent Zipcar deal suggests that is the case. So I’ll hold on.

Precision Therapeutics (formerly Skyline Medical) has been announcing all sorts of news with respect to its Helomics joint venture.

I honestly don’t know what to make of this. I bought the stock because it looked like Streamway sales were going to launch, but all the news is about precision medicine, which is maybe (??) a bigger deal, but I don’t really know.

Some have pointed to Helomics revenue being in the $8 million range (which I’m not sure if it is), and that Helomics has spent over $50 million in research over the past 5 years (which appears to be the case based on the past capital raises). If either of these points are accurate then Helomics is potentially more valuable than the single digit million valuation that Precision paid for the first 25%.

But I’m not going to lie, I don’t really understand the precision medicine area very well.

If anything, the company seems to be prioritizing the precision medicine business and I would think, given that the Streamway business is not profitable, that would put Streamway on the block. If I’m right about the value in Streamway, then my original reason for buying the stock will work out, and maybe even sooner than I had hoped.

R1 RCM reported fourth quarter results at the beginning of March. They see revenue at $850-$900 million in 2018 versus $375 million of revenue in 2017. They are expecting adjusted EBITDA of $50-$55 million this coming year.

EBITDA is going to be depressed by the continuing onboarding of Ascension, new customers Intermountain Health and Presence Health, and the Intermedix acquisition.

In 2020 once the onboarding of Ascension is complete the company expects $200 million to $250 million of EBITDA. At $7.70, which is after the big move over the last month, that puts them at a little under 7x EBITDA. That’s still not super expensive and the path to get there seems straightforward so I’m holding on for now.

Gold stocks suck right now but I am adding. In addition to Gran Colombia, I’ve added positions in Roxgold and Golden Star Resources this week. Neither is reflected in my portfolio below, which is as of the end of last week. Taken collectively, gold is my largest position right now.

My thought is simply that this trade war stuff seems to be real and and getting more so, and how is that not bullish gold and gold stocks? Meanwhile I am picking these stocks up at discounts to where they were 6-12 months ago. And we just had the takeover of Klondex at a pretty fair valuation. It seems like a decent set-up.

I sold Essential Energy this week (this was after the portfolio date so its still in the list of stocks below). I listened to their fourth quarter conference call. Its hard to get excited about their prospects. Drilling activity in Canada just isn’t coming back. I’m going to stick with names like Cathedral and Aveda that have more US exposure.

I also sold Medicure this week after the news that Prexarrtan won’t be launching on the original time line. I may be jumping the gun, after all Medicure has 3 other drug launches in the next year or so. But Prexarrtan was the first and without it I don’t see much of a catalyst for the stock in the near term.

Portfolio Composition

Click here for the last eight weeks of trades. NOTE: I didn’t go back far enough in my trade search. These are the trades from Jan 15th to Jan 29th that I had previously missed.

Prices below are as of Friday, March 16th.

Mar 20

Adding Silicom after the Collapse

What a terrible piece of news.

Silicom ran up to almost $80 on expectations of a major cloud player using their 100G switch fabric NIC card in their next-gen cloud architecture. The run rate on the contract was supposed to exceed $75 million in 2019.

Silicom had about $125 million of revenue in 2017 so clearly the deal was a game-changer. When the company announced last week that the customer was pulling the pin on the product, the stock tumbled.

It actually tumbled for some time before the announcement, which is pretty sketchy. Clearly someone knew something.

Others might steer clear of a stock that behaved like that. But I’m willing to take a chance.

I found it hard to come up with what the numbers will look like without the cloud deal because Silicom has been tight-lipped about it on the calls. Needham seems to think that Silicom has recognized $30 million of revenue from the cloud customer so far, though I’m not sure if they are including the first quarter in that estimate.

My best guess is that the run rate ex-cloud deal is around $100 million. The stock has about a $240 million enterprise value at the current level. So its at 2.5x revenue. Maybe trading at a 10x EBITDA multiple, maybe a little less?

I’m okay with those multiples because there’s still is a lot of room for growth. The company put out a press release later in the week where they outlined that they were “close to several major, strategic new SD-WAN and NFV-related vCPE Design Wins from major telcos”. They expected the first to materialize in the “near term. ”

They said that each potential win would ramp to $10 million plus revenue run rate.

In the same press release they announced a dividend cut, saying they would need cash to ramp these customers.

A cynical take is that the press release was manufactured to justify the dividend cut. After all it’s possible that Silicom had already procured inventory from the cloud player and will now have to write it down.

That’s a possible scenario, but I’m not convinced its the right one. For one, inventories were only $7 million higher at year end than the previous year and were actually down sequentially in the fourth quarter. This with revenue that has ramped from $25 million a quarter to $30 million plus over the last year. There’s not a lot of evidence of an unusual inventory ramp.

Second, they have $35 million of cash on hand at the end of the year. So you’d need a big write-down to deplete that.

Third, to think Silicom ramped inventory in the last two months on a product that they described in February as having “no general availability to customers” and that was still experiencing a “customer challenge” that kept the design from being finalized, doesn’t make a lot of sense to me.

There could be a write-down coming, but I doubt it’s too much.

My guess is it’s exactly what Silicom said in their press release: that these are big potential wins and that Silicom “must make sure that we have all the financial resources to fulfill demanding supply commitments once these potential wins reach their full deployment run rate”.

These are potential telco wins after all. I know from my experience with Radcom just how important cash levels are to telcos looking to make large purchase orders with small suppliers.

If anything I suspect that Silicom was planning a secondary on the announcement of their first big telco win. But the cancellation of the cloud deal and collapse of the share price makes that far less desirable. So they are saving money where they can.

If that’s the case, then I think that when such a win is announced, the stock will move back into the $40’s. At the current price I’m willing to take the plunge and see if that’s the case.

Feb 27

Vicor: finally the results we’ve been waiting for

The long wait for Vicor to post a step change in results is over. With the release of the fourth quarter there was an end to the delays and they put out some solid concrete numbers. To be sure, the fourth quarter itself was not very good (this was expected), but guidance and color around what to expect next quarter and beyond was very positive.

Here’s a summary

Backlog at the end of the fourth quarter sat at $73 million compared to $60 million at the end of the third quarter
Bookings grew 11% sequentially to $71 million
Bookings thus far in the first quarter were $55 million (through 8 weeks of a 13 week quarter)
They expect sequential bookings improvement throughout the year

As is typically the case, Vicor gave hard data on the next quarter but you had to piece together the long-term picture from circumstantial evidence and color. This quarter we got to extrapolate from their comments on facility expansion.

Vicor has a 240,000 sq. ft. facility in Andover, MA. They said on past calls that they can produce $400-$600 million of revenue from Andover. In the fourth quarter updated/reiterated that this number at $500 million.

In the past Vicor has talked about adding capacity by purchasing or leasing additional space nearby. From the second quarter call:

…we’re also actively looking for incremental space nearby, not far away from the Andover facility, to further expand capacity in about 1-year time frame

On the third quarter call they hinted that this plan might be evolving as they were leaning towards building their own facility. Last week they confirmed this was the case, and in the process gave us a hint about where revenue might eventually go:

…we’ve had a change of plans regarding that. What we concluded after investigating certain options in the neighborhood of our existing Federal Street facility is that a building of the order of 80,000 to 100,000 square feet would not serve our long-term needs. So we were able to secure a deal with a partner to help our short-term capacity requirements to give us some breathing room for breaking ground on larger lot with considerably more room for expansion. So we’re looking at options for as much as 250,000 square feet, which would be equivalent in terms of capacity to our Federal Street building.

So the circumstantial evidence that we got is that while they have a $500-$600 million revenue facility, they have decided to forego a 100,000 square foot addition via an existing nearby building in favor of building another $500-$600 million facility. They are taking this course of action because they think they would outgrow the smaller facility.

Conclusion

The reason I have been in Vicor is because of the potential for big revenues as they ramp product for 48V servers, for automotive, and for high-end FPGA’s that utilize power on package technology. They have always been vague about how big these opportunities might be. With the fourth quarter results we started to get some sense of that size.

To be honest, the opportunity needs to be big, because the stock isn’t particularly cheap. At a $27 share price the enterprise value is about $1 billion. Trailing twelve month revenue is $227 million and EBITDA is non-existent.

Looking forward, if we get 50% growth in 2018 and if gross margins improve to 50%, I estimate that EBITDA should be around $70 million if most of the gross margin falls to the bottom line. That gives Vicor a 13.5x EBITDA multiple.

Vicor starts to look cheap if you think they can get to $500 million plus of revenue. Again, assuming a modest increase to operating expenses (I’m guessing $140 million annualized), and an uptick in gross margins to 52%, I come up with $135 million of EBITDA, which would give Vicor a forward multiple of 7.5x.

Of course if you start factoring in the second facility, you are looking at $1 billion plus revenue and then the stock clearly has further to run.

So that’s the potential trajectory. It’s actually always been the big picture that I have hoped would play out. With the fourth quarter numbers and first quarter guidance, that picture is a little less presumed and a little more expected. Its still a long way from being a sure thing, but its moving in the right direction. And that’s why you have gotten the move in the stock that you have.

Feb 23

19 Comments

Betting on Forced Selling and Ramping Growth at DropCar

This idea is bound to generate a lot of skepticism. Its the kind of wildly unprofitable, clever but challenging, just getting off its feet sort of business that a lot of readers are going to recoil at and probably tell me why it’s an inevitable zero.

And that’s okay because that is definitely a potential outcome here.

I got this idea from @teamonfuego on twitter so hat tip to him. I don’t think he owns it any more though.

Here’s the story

DropCar is actually two businesses. It is DropCar, which is a start-up valet and parking service, and it is WPCS International, which operates a communications infrastructure installation business.

These two businesses came together via a reverse merger. DropCar took a little under 85% of the capitalization while WPCS took 15%. The transaction closed at the end of January.

DropCar

DropCar is a fairly recent start-up. The company was formed in 2015. They operate exclusively in New York City. There are lots of articles available explaining the business and how the service works (here, here and here for starters).

DropCar offers a basic car garage alternative, a hourly chauffeur service, a premium service and a B2B service.

The basic service, which they call STEVE (they use people’s names for each of their offerings, I guess to mimic that its like a virtual valet or chauffeur), allows you to have your car parked at one of their garages, and when you need your car you arrange a pickup and a driver will bring it to your door. Similarly, you arrange a driver to meet you to take your car back to the garage. The service goes for $379 per month.

With the hourly service, the driver comes to your door but stays with the car through your travels and drives you around, eventually dropping you off and taking the car back to the garage. The cost of this service is $15 per hour.

The new premium service was launched in January. For a higher monthly fee ($499 per month), you get all the benefits of STEVE along with a maintenance and care program.

The B2B service arranges pick-ups of vehicles for maintenance by dealerships, fleet leasing centers or other auto-care facilities. DropCar has a reasonably sizable list of New York based dealers that have offered this service: Mercedes of Manhattan, Lexus of Manhattan, Jaguar, Land Rover of Manhattan, Porsche and Toyota.

DropCar is also trying to develop a critical mass of drivers wherby they can leverage their model to participate into the new “flat fee service” option being offered by dealerships. This is where consumers pay a subscription fee on a monthly basis. Its early, but it’s in the trial stage by by many dealerships (other articles here and here). DropCar would be like the delivery man for these services, picking up and dropping off cars and bringing them in for maintenance when required.

They are also looking to leverage the data they collect. They began to hint at in this recent excerpt of a January press release:

Not only does it harvest an increasingly valuable trove of big data (e.g. consumer auto-related data), but it proactively benefits from best-of-breed sources such as Google and Waze. Along these lines, DropCar management eventually plans to monetize its software/middleware platforms and big data harvests through licensing agreements.

Failed Model

DropCar is not the first to try this sort of business. They were preceded by Luxe and Valet Anywhere. These companies did not fare well.

Historically, companies such as Luxe, which closed operations in July 2017 and subsequently sold their technology to Volvo in September 2017, as well as Valet Anywhere, which closed operations in July 2016, have unsuccessfully tried to build similar on-demand service models.

DropCar differentiates itself from these failed attempts in a few respects. They say the mistakes of their predecessors was due to:

use of expensive in-city garages
parking-only focus
low valet utilization rates tied to only servicing consumers (B2C)

DropCar is trying to correct these mistakes by arranging garage space at the edges of cities, providing higher margin services like the usage of the personal valet and the business to business solution (B2B) being offered to dealerships and fleet owners, and trying to integrate all the services at a scale where they can efficiently utilize their drivers.

I don’t believe that DropCar is primarily interested in the consumer business, though that is the easiest and therefore has been the first to ramp. I think the B2B business will eventually be the better opportunity. In the latest update the company said the following:

In anticipation of a substantial enterprise expansion, DropCar recently converted a large portion of its seasoned valets into field management roles. While this transition momentarily tempered valet-base expansion, it enables DropCar to efficiently absorb the anticipated demand surge in 2018 from Tier-One automotive OEMs, dealerships and concierge service subscribers.

Its also clear that this is going to work better in some cities then others. New York City is ideal. The company identified Los Angeles, San Francisco, Chicago, Dallas, Miami, Boston, Washington DC, and Philadelphia as US expansion destinations. Globally they see Beijing, Shanghai, Tokyo, Singapore, London, Paris and Rome as possible expansions. But I don’t expect the business to be able to scale like an Uber, because many cities aren’t big enough or are too sprawled out to make the service effective. Luckily the stock is cheap enough that it doesn’t have to.

Rising Revenue but no Profitability

DropCar is growing, but they are not profitable. Below on the financials from the prospectus for the first 9 months of the last two fiscal years.

The company was actually closer to profitability in 2016 then in 2017. Gross margins have shrunk in 2017 and expenses, particularly G&A expenses, have risen.

You can spin the gross margin decline two ways. Either its evidence of a soon-to-be failed model, or it is evidence that they are ramping up for growth. I’m betting on the latter. Below is an excerpt from the prospectus (my highlight):

DropCar increased its valet workforce by 75 employees to 110 full time employees, or a 214% increase during the nine months ended September 30, 2017 as compared to September 30, 2016. This increase is based on increased demand in valet services, as well as anticipated growth in the next three to six months.

Similarly, the rise in G&A can be explained by expansion and costs associated with the reverse merger. About $850,000 of the year over year increase was attributed to payrolls, another $900,000 to merger related legal fees, $410,000 due to advertising and recruiting and $650,000 due to stock options.

Current Revenue Run-rate

According to a recent company update, the consumer subscriber base is currently more than 1,400, which is up from 500 at year end 2016 and 1,000 at the end of June. Automotive movements were also up significantly:

Overall consumer automotive movements exceeded 28,000 during the fourth quarter of 2017, up from approximately 10,700 in the fourth quarter of 2016. Quarterly enterprise movements have eclipsed 5,700 versus approximately 2,000 a year ago.

Based on the monthly rate of the base consumer business ($379 per month) and the current user count, the revenue run rate from the consumer business is $6.3 million. I’m not sure what the revenue is from the B2B business. The best I can do is extrapolate from their summer presentation. In it they said they had an overall $5 million revenue run rate from about 1,000 subscribers. This implies the B2B business was around $800,000 at the time. Assuming some growth to the B2B, I’m going to guess that the run rate of the entire business is about $7.5 million right now.

WPCS: Merger and Business

The reverse merger with WPCS International seems to have been initiated by a large holder of DropCar, Alpha Capital Anstalt. Presumably DropCar agreed to go public because of the access to capital, which they will undoubtedly need more of. I’m not sure why they decided to go the reverse merger route instead of an IPO. That is always something to be wary of and if anyone can shed light on this it would be appreciated.

WPCS has operated an unprofitable communications installation business for some time. They upgrade cabling and wireless infrastructure for institutions like hospitals, schools and government offices.

The business did $16.7 million of revenue in fiscal 2017 and $14.5 million in 2016. It consumed $1.3 million of cash flow in 2017 and $2.6 million in 2016.

In a comparable company analysis performed as part of the merger agreement, Gordian found a fair value based on revenue of $10-$11 million and based on EBITDA of around $4 million.

This analysis was based on Argan, Ballantyne Strong, Dycom Industries, MYR Group, TESSCO Technologies, and Vicon Industries.

Alpha Capital Anstalt Forced Selling

Here’s what really got me digging into the idea.

Originally I bought some shares of DropCar when the stock spiked on Tuesday. I unfortunately bought into the spike at $3.15, and that was a mistake. I briefly looked like a genius as the stock rose to $3.50 but that quickly turned into a fool.

I wasn’t planning on buying more, but as I dug into what happened on Friday and then Tuesday, I came upon this disclosure from Alpha Capital Anstalt.

As part of the terms of the merger, DropCar needed to raise at least $4 million in capital. Alpha stepped up and provided the liquidity for the raise. However this took Alpha above their maximum allowable ownership, as this disclosure notes:

All of the foregoing securities issued to Alpha contain a 9.99% “blocker” provision designed to prevent Alpha from being a beneficial owner of more than 9.99% of the Issuer’s Common Stock.

I haven’t found it yet, but I bet they had something like a 30 day grace period before they had to get their stake down below 10%.

This is essentially what occurred on Friday the 16th, Tuesday the 20th and Wednesday the 21st. There were two 13-D forms (here and here) issued by Alpha where they disclosed that they had reduced ownership significantly, eventually down to 9.9%. In the second it was noted they were no longer in breach of the terms:

Does not include shares underlying the Series H-3 Convertible Preferred Stock nor the four classes of Warrants that Alpha Capital Anstalt (“Alpha”) can beneficially control under a contractually stipulated 9.99% ownership restriction. The full conversion and/or exercise of Alpha’s securities would exceed this restriction. Alpha’s ownership is now below 10%.

It is likely not a coincidence that the share dump by Alpha corresponded with high volumes and wild price swings in DropCar on the 16th, 20th and 21st:

In my opinion its unlikely that any of the prices we’ve seen since the closing of the merger agreement (January 31st) are particularly reliable indicators of the business’s value.

The stock began to tank from $4.50 down to $2.50 almost immediately after the merger closed. I think its possible that Alpha began selling as soon as they could, knowing that they had to get their stake down to below 10%. I think it’s also possible that other investors gamed the stock, knowing that Alpha was going to be a forced seller regardless of price. I did find reference to the disclosure about the blocker as early as February 5th, though there was more implied language of it much earlier in the prospectus, which was available back in December.

Who knows what really happened. Nevertheless it seems a reasonable bet it had little to do with the fundamentals.

Conclusions

Like many of the stocks I take a chance on, DropCar is no sure thing. There are failed precedents, they are losing money, and while the Alpha pre-merger capital raise brought in $4 million in cash, that is still likely only enough to get them through this year.

What I like about the stock is that the top line is growing and there is evidence it will grow further. In particular, the company is expecting a surge in the B2B business. From the recent company update (my highlight):

In anticipation of a substantial enterprise expansion, DropCar recently converted a large portion of its seasoned valets into field management roles. While this transition momentarily tempered valet-base expansion, it enables DropCar to efficiently absorb the anticipated demand surge in 2018 from Tier-One automotive OEMs, dealerships and concierge service subscribers.

Following the merger there are 7.8 million shares outstanding (from here). The market capitalization is around $20 million at the current price ($2.50). If I’m right about the current revenue run rate ($7.5 million) then the company is trading at a little over 2x DropCar’s current revenue run rate. Given the growth rate, that’s not particularly expensive.

As I pointed out above, the WPCS business could be worth anywhere from $4-$10 million in its own right. I would imagine that gets divested at some point to bring in more cash. There is also the $4 million of cash on the balance sheet,though this is going to get burned through this year.

But here’s where it gets really interesting. In the merger prospectus Gordian performed a similar competitive valuation analysis for DropCar to what I showed earlier with WPCS. Here is the valuation table they came up with:

As you might expect, the valuations are quite different depending on whether you look backwards or forwards.

The forward numbers are pretty interesting. In particular I believe you can back out 2018 guidance from this analysis.

It looks like Gordian (presumably under DropCar’s advisement) is estimating 2018 revenue at more than $19 million, or more than triple current revenue and a 400% increase over 2017 (please refer to my note below, its really important to see how I got this number). I don’t usually bold things in these posts but that is a big number and I think its worthy of attention, both to consider and also to verify that I haven’t screwed something up.

(***Let me explain how I came up with my more than $19 million estimate. First, I think they have their mean and median columns mixed up in the table above. You can’t make sense of the numbers if the higher multiples are giving lower valuations. As well, the revenue numbers only line up if you switch the mean and median columns of the Comparable Company Values. For example, looking at the 2018 revenue line item, 80.7/4.08 is $19.77 million of revenue. Similarly, 53.5/2.73 is $19.6 million of revenue. So about the same, as you’d expect. But if you lined up the mean and median columns you’d get 53.5/4.08 and 80.7/2.73, in which case the revenues wouldn’t match up. Therefore I think the columns are flipped in the Comparable Company Values rows and that’s how I came up with the $19 million number.***)

Like I mentioned above, I don’t think the current price is necessarily reflecting anything other than the forced selling of Alpha. On top of that you have a stock that just went public via a reverse merger with a kinda crummy little communications business that nobody cared about. You have very few followers other than some day traders that are hitching themselves to the ride up and down and don’t really care about the business one way or the other. And you have a market capitalization that is tiny enough to be ignored by any fund. So there’s no interest in the stock yet.

If, and this is a big if, DropCar can get to the kind of revenue number that Gordian’s projections assume, that’s going to change. There is no way this should be a $20 million company if it can grow revenue like that. Its got to be WAY higher.

If they don’t grow revenue then it’s probably a zero. So that’s the risk and the reward. Its the kind of situation that is either going to crash and burn or go through the roof. Just the sort of option I like.