Monthly Archives: March 2009

The 10 Most Promising Net Cash Stocks

Posted on March 18, 2009 by -| 9 Comments

It wasn’t uncommon for Ben Graham, the creator of value investing, to invest in stocks in which the liquid assets on the balance sheet (net of all debt) were worth more than the total market capitalization of the company (also known as “net nets” to Graham followers). This means that Graham was effectively buying businesses for nothing, and in some cases, for less than what the businesses would sell at auction.

 

For this article, we focus on what Ben Graham called “secondary stocks”. We define a secondary stock as one having no claim to fame, prominence, or general popularity. Hence, it is likely to be ignored by the stock market generally and left for dead when the disparity between price and intrinsic value may in fact be the greatest. There is no guarantee or law of market action by which the price can be counted upon to adjust itself eventually to its intrinsic value. Therefore, our focus is on companies with a catalyst in place. These are our picks:

 

 

10.  GSI Group (GSIG)

 

GSI Group Inc. supplies precision motion component products, lasers, and laser-based manufacturing systems to the electronics, semiconductor, medical, aerospace, and industrial markets worldwide. Its Precision Technology segment offers lasers that are used for welding, cutting, drilling, surface marking, and engraving of metal and plastic parts.

 

As of yesterday’s close, GSIG had a market cap of roughly $33M, with a reported $183M in cash. However, the Company announced on December 4, 2008, that it had identified errors in the recognition of revenue from sales to a customer in the first and second fiscal quarters of 2008 in the Company’s Semiconductor Systems Segment. Therefore, Form 10-Q for the periods ended March 28, 2008 and June 27, 2008 should no longer be relied upon. Though the company seems cheap in the books, investors should be aware that these numbers are simply not reliable at the present time.

 

But the catalyst we have identified gives us a bit more confidence that the company is indeed cheap, despite its accounting troubles.  Stephen W. Bershad, the CEO of Axsys Technologies (AXYS), recently filed a 13D, an activist filing, after buying 3.3 million shares of GSIG in the open market. Because Bershad’s position as a CEO of a major defense contractor, and an industry insider with extensive knowledge in the defense industry, makes it likely that GSIG is at least undervalued.

 

9. Ocean Power Technologies (OPTT)

 

Ocean Power Technologies, Inc. engages in the development and commercialization of proprietary systems that generate electricity by harnessing the renewable energy of ocean waves. The company’s product portfolio includes utility PowerBuoy system, which is designed to supply electricity to a local or regional electric power grid; and autonomous PowerBuoy system that is designed to generate power for use independent of the power grid in remote locations. Its customers include public utilities, independent power producers, and other governmental entities and agencies.

 

The company has a market value of $54.6M (5.35/share) with $55.4M in current assets, of which nearly 53.4M is in the form of cash or cash equivalents. Total equity is roughly $87M, of which $32M is in the form of long-term investments.

 

The catalyst is that according to Reuters, the Federal Energy Regulatory Comission has issued some 170 preliminary permits for 10,000 megawatts of potential power generation from offshore projects. One of those is an OPTT project off the Oregon coast, which will create a 1.5 megawatt power station to supply electricity to about 2,500 homes. The project would have 10 buoys with pistons in a cylinder to slide up and down as the buoys move over waves in the water, generating electricity in the process. An underwater cable would then transmit the power.

The negative is that after visiting OPTT headquarters in Pennington, NJ a few months ago, I was unimpressed with the quality of the buoys. Corrosion is a big issue still unsolved, and maintenance costs associated with placing and retrieving floating buoys in the open sea is extremely high. Therefore, operating expenses are a threat to the little cash the company has on its balance sheet.

 

8. Soundbite Communications (SDBT)

 

SoundBite Communications, Inc., an automated voice messaging services provider, engages in the provision of on-demand, integrated multi channel communications solutions in the United States. It offers integrated voice, text, and e-mail messaging solutions that enable clients in delivering the message to the customer. The company offers its services to various organizations in industries, such as collections, financial services, retail, telecom and media, and utilities to send messages annually for collections, customer care, and sales and marketing applications.

 

The company has a market value of $25.4M (1.64/share) with $45.3M in current assets, of which nearly $37.4M is in the form of cash or cash equivalents. Total equity is roughly $47.5M. As of yesterday’s close, the company is trading at a 55% discount to its cash holdings with no outstanding debt.

 

Though there is no active catalyst for SDBT, venture capital firms NBVM GP LLC, Mosaic Venture Partners LP, and Commonwealth Capital Ventures LLP own more than 50% of the company’s shares. In my view, these venture firms will not hesitate to liquidate the company if it runs into trouble in the future, since shareholders will at least be getting the cash it has on its balance sheet.

 

 

7. Inhibitex, Inc. (INHX)

 

Inhibitex, Inc., a biopharmaceutical company, engages in the development of differentiated anti-infective products to prevent and treat serious infections. Its products include FV-100, a nucleoside analogue prodrug that is in Phase I clinical trial for the treatment of varicella zoster virus, the causative agent for herpes zoster, or shingles, and chicken pox; HIV Integrase Inhibitors class of anti-retroviral agents, which are in preclinical stage for the treatment of HIV.

 

The company has a market value of $9M (0.23/share) with $33.9M in current assets, of which nearly $33.1M is in the form of cash or cash equivalents. Total equity is roughly $30.4M. As of yesterday’s close, the company is trading at a 72% discount to its cash holdings (0.76/share) with only 5.8M in total liabilities.

 

Though there is no active catalyst for INHX, the Biotech Value Fund owns nearly 13% of the company’s shares. The fund is particularly known for its current activist dispute with Avigen, Inc, where the fund is trying to replace the entire board of directors to improve shareholder value.

 

 

6. Xtent, Inc. (XTNT)

 

XTENT, Inc. is a medical device company focused on developing and commercializing innovative customizable drug eluting stent (DES) systems for the treatment of coronary artery disease (CAD). CAD is the most common form of cardiovascular disease and the number one cause of death in the United States and Europe.

 

According to the company’s latest 8-K, XTNT had cash, cash equivalents and short-term investments of $19.1 million as of December 31, 2008. with almost no debt. After certain adjustments to its balance sheet, we believe the company could be worth at least $15M in either liquidation or a merger. This represents a nearly 37% discount to the company’s current market value of $10M.

 

The catalyst is that On January 23, 2009, XTNT announced it plans to engage Piper Jaffray & Co. to help the company pursue strategic alternatives which may include the sale of some or all of the company’s assets or other types of merger or acquisition transactions intended to maximize shareholder value. the company notified 115 employees out of its total employment base of 121 employees that their positions would be eliminated effective March 23, 2009. This represents a 94% reduction in labor expenses, which will allow the company to slow the rapid cash burn of approximately $5M per quarter, and help preserve cash while it pursues strategic alternatives.

 

5. Technology Solutions Company (TSCC)

 

Technology Solutions Company provides business solutions for healthcare, manufacturing, and financial services industries in the United States. It offers business solutions primarily to the key processes and operations at the organizations.

 

On February 10, 2009, TSCC announced that its Board of Directors decided to liquidate the company’s assets and to dissolve the company, after extensive and careful consideration of the company’s strategic alternatives and analysis of the prevailing economic and industry conditions. The Board estimated an initial cash payout of nearly $2.00 per share. However, my estimates show that nearly an additional $0.55/share will be paid out after liabilities and liquidation costs are accounted for. The submitted preliminary proxy statement regarding the company’s liquidation states the following:

 

We currently estimate that, if we are able to dispose of substantially all of our non-cash assets, the aggregate amount of all liquidating distributions that we intend to pay to TSC stockholders will be in the range of $2.39 to $2.69 per share of TSC common stock. We currently anticipate that the majority of the remaining proceeds from the liquidation would be distributed by the end of 2009, and that any additional proceeds would be distributed by way of a final liquidating distribution, either from the Company or the Liquidating Trust, within three years after the approval of the Plan of Dissolution

 

 Our quick estimate for liquidation proceeds looks as follows:

Cash: 3.11 (100% at liquidation)

Receivables: 0.45 (50% at liquidation)

Other assets: 0.45 (20% at liquidation)

Less Liabilities of 0.49

Less Liquidation costs of 0.38

————————————————-

= $2.55/share

Less initial $2.00/share payout

————————————————-

= $0.55/share payout remaining

 

At a current market value of $2.25/share, the company is trading at nearly 15% discount to its liquidating value.

 

 

4. Trident Microsystems (TRID)

 

Trident Microsystems, Inc. designs, develops, and markets integrated circuits (ICs) and associated software for digital media applications, such as digital television (digital TV), liquid crystal display television (LCD TV), and digital set-top boxes (STB).

 

The company has a market value of $91.2M ($1.45/share) with nearly $212M in the form of cash or cash equivalents. Total liabilities are $17.8M, so the company is currently trading at a 53% discount to its net cash value.

 

The catalyst is that New York investment partnership Spencer Capital Management LLC has indicated that it intends to nominate an alternate slate of candidates for TRID’s board. Spencer said its founder, Kenneth Shubin Stein, is leading the effort to restructure Trident’s board with the goal of improving corporate governance and repositioning the company.

 

3. Athersys, Inc. (ATHX)

 

Athersys, Inc., a biopharmaceutical company, engages in the discovery and development of therapeutic product candidates in multiple disease areas in the United States. Its product pipeline includes ATHX-105, a Phase I clinical trial product for the treatment of obesity.

 

The company has a market value of $16.7M ($0.88/share) with nearly $31.6M in the form of cash or cash equivalents. With total liabilities are $2.3M, the company is currently trading at a roughly 50% discount to its net cash value.

 

The catalyst is that Ormibed Advisors, the world’s largest healthcare activist investment firm, is ATHX’s  largest shareholder with a 20% ownership of the company’s shares.

 

 

2. Vanda Pharmaceuticals (VNDA)

 

VNDA is a biopharmaceutical company focused on the development and commercialization of clinical-stage drug candidates for central nervous system disorders, with exclusive worldwide commercial rights to three product candidates in clinical development. The Company’s product portfolio includes Fiapta (iloperidone), a compound for the treatment of schizophrenia and bipolar disorder; VEC-162, a compound for the treatment of sleep and mood disorders, and VSF-173, a compound for the treatment of excessive sleepiness.

 

According to the latest SEC disclosure, the company had $47.7M in current assets and total liabilities of $3.9M as of December 31, 2008. This means that with a net asset value of $43.8M ($1.64/share) and a market capitalization of $21.4M ($0.80/share) the company is currently trading at a 50% discount to its net asset value. VNDA has cash and cash equivalents of roughly $39M, for a net cash value of $35M (1.31/share).

The catalyst is that On February 13, 2009, shareholder Kevin Tang, Managing Director of Tang Capital Partners LP, filed an amended proxy material urging VNDA’s board to immediately cease operations. Mr. Tang has said he plans to nominate two members to the company’s board. The 13D notice discloses in the Election of Directors Proposal that Kevin Tang himself will be one of the board nominees, along with Andrew D. Levin, a principal at Tang Capital Management, LLC.

 

 

1. Soapstone Networks (SOAP)

 

Soapstone Networks is at the forefront of the movement to Carrier Ethernet by developing resource and service control systems that realize NGN software-provisioned services in the new Carrier Ethernet transport network. Soapstone’s common control framework decouples services from underlying network technologies. The Soapstone solution is designed to dynamically provision precise, SLA-quality services, continuously optimizing utilization of network resources to bring orderly, predictable business-driven behavior to service provider networks.

 

According to its Dec 31,2008 SEC disclosure, the company has $90.4M in current assets and total liabilities of $3.1M. This means that with a net asset value of $87.0M ($5.88/share) and a market capitalization of $44.3 ($2.98/share) the company is currently trading at a nearly 50% discount to its net cash value.

 

On February 19, 2009, the company announced that is has engaged Morgan Stanley as its advisor to assist the company in exploring strategic alternatives available for enhancing shareholder value, including but not limited to, continued execution of the company’s business plan, the payment of a cash dividend to the company’s shareholders, a repurchase by the company of shares of its capital stock, the sale or spin off of Company assets, partnering or other collaboration agreements, a merger, sale or liquidation of the company. In either of those cases, SOAP is a winner.

 

 

 

[Disclosure: We do not have a holding in any of the companies mentioned in this article]

 

 

 

 

 

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Life Sciences Research (NYSE: LSR)

Posted on March 16, 2009 by -| 3 Comments

In our view, LSR is a pure Special Situations/Workout play with a high probability of realization. At a market value of $90M, the company is trading nearly 11% below the purchase price of $100M offered by Andrew Baker, who serves as Chairman and CEO of LSR. It is our view that the company’s intrinsic value is lower than Baker’s purchase price of $7.50/share, so we are adding LSR to our ValueHuntr Portfolio as an arbitrage opportunity. We do not intend to hold LSR shares beyond $100M of market capitalization ($7.50/share).

 

About LSR

Life Sciences Research, Inc. is a global contract research organization providing product development services to the pharmaceutical, agrochemical and biotechnology industries. LSR brings leading technology and capability to support its clients in non-clinical safety testing of new compounds in early stage development and assessment. The purpose of this work is to identify risks to humans, animals or the environment resulting from the use or manufacture of a wide range of chemicals which are essential components of LSR’s clients’ products. The Company’s services are designed to meet the regulatory requirements of governments around the world. LSR operates research facilities in the United States and the United Kingdom.

 

Valuation

 

The company is currently trading at a market capitalization of nearly $90M, which is 11% lower than the $100M that Andrew Baker, the current Chairman and CEO of LSR, has proposed to purchase all of the company’s outstanding shares for. The latest balance sheet shows that as of December 31, 2008, the company had $171M of assets with $186M in liabilities. Though the company has enough cash to meet all near-term commitments, it is our view that this is a case where the private market value exceeds the company’s intrinsic value. With $15M in negative equity, any possible investment in LSR must be made having Andrew Baker’s $7.50 purchase proposal as the ceiling for the total value that could be realized by LSR stock investment. We view this as a special situations play with high prospects of near-term profitability, so we are adding LSR to our ValueHuntr Portfolio. However, we do not intend to hold the stock beyond $7.50/share.

 

Catalyst

 

On March 3, 2009, LSR announced that Andrew Baker, Chairman and CEO of LSR, has made a non-binding proposal to acquire all of the outstanding shares of LSR for a price of $7.50 per share pursuant to this letter dated March 3, 2009:

 

 

 

CONFIDENTIAL

Andrew Baker

401 Hackensack Avenue

Hackensack, NJ  07601

 

 

 

                             March 3, 2009

 

 

 

Life Sciences Research, Inc.

P.O. Box 2360

East Millstone, NJ  08875

Attention:  Board of Directors

 

Gentlemen:

 

I am pleased to present this non-binding proposal to acquire all of the outstanding shares of common stock par value $.01 per share (the “Shares”), of Life Sciences Research, Inc.  (the “Company”) for a price of $7.50 per Share.  I intend to effect the acquisition through an entity that I will control.

 

The proposed purchase price represents a 57% premium over today’s closing price of the Shares and provides an attractive opportunity for the Company’s stockholders to maximize the value of their investment in the Company at a highly uncertain and volatile time in the markets and the global economy.

 

I welcome the opportunity to discuss this proposal with the Board of Directors and its advisors as soon as possible.  My proposal is conditioned upon satisfactory completion of due diligence, negotiation of definitive transaction documents, receipt of the requisite financing commitments and receipt of necessary board approval.  If my proposal is of interest to the Board, I am prepared to harness the resources necessary to expeditiously negotiate and document the proposed transaction.  I have already begun exploring potential financing sources, subject to satisfactory confidentiality arrangements.  While I am confident that I will be able to secure the requisite financing for this proposal, there can be no assurance of success.

 

This proposal does not create any binding obligation, nor will I be deemed to have any obligation whatsoever to the company relating to a proposed acquisition of the company by virtue of this letter or any written or oral expression made by or on my behalf by me or any of my affiliates, advisors or agents unless and until mutually satisfactory definitive documentation has been executed and delivered by the parties thereto.

 

I look forward to discussing this matter further.

 

Regards,

 

s/ Andrew H. Baker

Andrew H. Baker

 

cc:  Mark Bibi, General Counsel

 

In general, we believe the likelihood of a $7.50/share purchase by Andrew Baker is high, so the probability of near-term upside to $7.50 is significant. At today’s price of $6.78/share, the company is trading at an 11% discount to Andrew Baker’s offer price.

 

 

Conclusion

 

With a negative equity, the company is not a candidate for long-term profitability. However, we believe this opportunity presents us with an attractive arbitrage with a high probability of realizing a quick 11% return. This is why LSR has been added to our ValueHuntr Portfolio.

 

 

[Full Disclosure:  We do not have a holding in LSR. This is neither a recommendation to buy or sell any securities. All information provided believed to be reliable and presented for information purposes only. Do your own research before investing in any security.]

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XTENT, Inc. (NASDAQ: XTNT)

Posted on March 13, 2009 by -| 1 Comment

According to the company’s latest 8-K, XTNT had cash, cash equivalents and short-term investments of $19.1 million as of December 31, 2008 with almost no debt. After certain adjustments to its balance sheet, we believe the company could be worth at least $15M in either liquidation or a merger. This represents a nearly 37% discount to the company’s current market value of $10M. We believe the probability of a merger or sale above the estimated $16M value is high, so we are adding XTNT to our ValueHuntr Portfolio.

 

About XTNT

 

XTENT, Inc. is a medical device company focused on developing and commercializing innovative customizable drug eluting stent (DES) systems for the treatment of coronary artery disease (CAD). CAD is the most common form of cardiovascular disease and the number one cause of death in the United States and Europe. XTENT® Custom NX® DES Systems are designed to enable the treatment of single lesions, long lesions and multiple lesions of varying lengths and diameters, in one or more arteries with a single device.

 

Valuation

 

We expect XTNT to burn cash at a much lower rate than in the past due to a recent 94% reduction in workforce. We believe there is a high chance that the company will sell itself or merge for at least the price the company’s assets would sell at auction. Therefore, we value the company at its liquidating value with certain adjustments.

 

Balance Sheet Adjustments at Liquidation

 

1) We write down assets written as Plant, Property, and Equipment to zero. This write-down may be aggressive, but it is done for the sake of conservatism given the company’s highly specialized nature.

 

2) The company has recently announced the exploration of strategic alternatives to enhance shareholder value. In January 27, 2009, the company filed an 8-K (Costs Associated with Exit or Disposal Activities) where it estimates that the total amounts to be incurred in connection with the initiative will be approximately $1.1 million to $1.2 million, all of which is expected to be cash expenditures. Thus, we have reduced the company’s cash holdings by $1.2M.

 

 

XTNT's Balance Sheet (Unaudited)

XTNT's Balance Sheet (Unaudited)

 

Catalyst

 

 

On January 23, 2009, XTNT announced that it plans to engage Piper Jaffray & Co. to help the company pursue strategic alternatives which may include the sale of some or all of the company’s assets or other types of merger or acquisition transactions intended to maximize shareholder value. Gregory D. Casciaro, XTENT’s President and CEO released the following statement:

 

Given the continued challenges faced in the capital markets, we believe it is in the best interests of the shareholders to consider strategic options; we are assessing all viable options available to us in order to maximize the value of our assets. Effective immediately, we are executing plans to reduce activities and costs to a critical minimum, including a significant reduction in headcount in order to preserve cash and flexibility.

 

On January 22, 2009, the company notified 115 employees out of its total employment base of 121 employees that their positions would be eliminated effective March 23, 2009. This represents a 94% reduction in labor expenses, which will allow the company to slow the rapid cash burn of approximately $5M per quarter, and help preserve cash while it pursues strategic alternatives.

 

Conclusion

 

We believe XNTN is worth at least $15M in either liquidation or a merger. This represents a nearly 37% discount to the company’s current market value of $10M. A strategic alternative to enhancing shareholder value needs to take place before the end of this year. Otherwise, the company may burn through all of its cash at hand because there is currently no revenue stream. We believe management has taken the right steps to preserve cash while the company explores strategic alternatives. Finally, we believe the probability of a merger or sale above the estimated $16M value is high, so XTNT is being added to our ValueHuntr Portfolio.

 

[Full Disclosure:  We do not have a holding in XTNT. This is neither a recommendation to buy or sell any securities. All information provided believed to be reliable and presented for information purposes only. Do your own research before investing in any security.]

 

 

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Update: GE loses AAA credit rating

Posted on March 12, 2009 by -| Leave a comment

Standard & Poor’s Ratings Services lowered its long- term credit rating for General Electric Co. on Thursday to AA+ from AAA, and reaffirmed its stable outlook.

At the conglomerate’s troubled GE Capital unit, the rating was dropped to A from A+. The financial arm is facing write downs from its consumer and commercial loan businesses, as well as from its real estate assets. Obviously, GE Capital’s earnings are under pressure due to the recent sharp deterioration in general economic conditions around the globe. But as we analyzed in our first GE posting, the market was counting on a worst case scenario that was (and still is) very unlikely to occur.

Lowering the rating by just a single notch was better than some Wall Street analysts and investors had expected. As we commented on our last post, If the long-term credit rating of GE were to fall below AA–/Aa3 or its short-term credit rating were to fall below A–1+/P–1 GE Capital would be required to provide approximately $3.5B of capital to various counterparties to account for this increase in credit risk. But because GE’s long-term rating remains above AA–/Aa3, we do not expect any significant operational or funding impacts from this change.

The disprepancy between price and intrinsic value of GE shares has certainly narrowed since we added GE to our ValueHuntr Portfolio. However, we still believe the company’s intrinsic value is greater than the current market price.

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General Electric Company (NYSE: GE)

Posted on March 10, 2009 by -| 3 Comments

General Electric Company (NYSE: GE) has been added to our ValueHuntr portfolio. This company is an odd one for us to include, as it is a blue-chip widely covered by Wall Street analysts. However, it is clear to us that GE’s latest downturn has been driven by fear and uncertainty rather than the fundamentals. We estimate that GE’s market value of $77B ($7.41/share) at yesterday’s closing is lower than our estimated value for the GE Technology Infrastructure segment alone, making it one of the most undervalued Dow components at the moment.

 

About GE

 

General Electric Company (GE) operates as a technology, media, and financial services company worldwide. The company was founded in 1892 and is based in Fairfield, Connecticut. GE is the only company remaining in the Dow index today from the original 12 Dow components at its creation in 1896.

 

Energy Infrastructure

 

This segment produces gas, steam, and aero-derivative turbines; generators; and combined cycle systems, as well as provides water treatment services and equipment. This segment also sells surface and subsea drilling and production systems, floating production platform equipment, compressors, turbines, turbo-expanders, and high pressure reactors to national, international, and independent oil and gas companies; and offers equipment overhauls and upgrades, pipeline inspection and integrity services, remote diagnostic and monitoring, and contractual service agreements.

 

Technology Infrastructure

 

This segment manufactures jet engines, aerospace systems and equipment, and its replacement parts, as well as provides repair and maintenance services for commercial aircraft; military aircraft, includ­ing fighters, bombers, tankers, and helicopters; marine applications; and executive and regional aircraft. This segment also produces healthcare products, including diagnostic imaging systems; offers transportation products and maintenance services; provides enterprise solutions using sensors for temperature, pressure, moisture, gas and flow rate, as well as non-destructive testing inspection equipment.

 

NBC Universal

 

This segment engages in the production and distribution of films and television programs; operation of television stations and cable/satellite television networks, as well as theme parks.

 

Capital Finance

 

This segment offers loans, leases, and other financial services to customers, including manufacturers, distributors, and end-users of equipment and major capital assets. Its Consumer & Industrial segment produces various house hold appliances, lighting products, and electrical equipment and control products, as well as provides related services.

 

 

Earnings-based Valuation

 

The latest 10-K submitted by GE shows every company segment is profitable, including its GE Capital arm. Though GE is a complex company with a lot of moving parts, we can get a sense of how much each segment is worth individually by assigning the appropriate sector multiple to each. Our estimated segment value is simply the product between the assigned multiple and the reported earnings for each segment. Mathematically, the multiple is the number of years that an investor is willing to wait before he breaks even with his investment given the earnings produced. Therefore, in the face of lower earnings expectations and current market conditions, we assign a lower multiple to those segments with the lower earnings prospects, and vice versa. For the sake of conservatism, we have assigned multiples that are all lower than the current multiple of the S&P500 average.

 

ge-earnings

 

Our quick analysis shows that, based on the earnings each GE segment generates and the poor market conditions (reflected on the low multipliers), GE is worth at least $139B today ($12.68/share) The sum of all GE segments is nearly twice GE’s market value of $77B ($7.41/share) at yesterday’s closing. Again, this is a rough estimate, but it is useful because it allows us to place a value to each segment. Obviously, this value would be greater if the future expectations of the economy and the company improve (greater multipliers).

 

Assets-based Valuation

  

GE’s assets, particularly those within GE Capital, have lately been scrutinized due to GE’s exposure to declining mortgages. The latest 10K shows that GE has consolidated assets of $198B, of which $53B are investments in GE Capital. This is essentially the equity value of GE Capital’s portfolio. Therefore, any potential write-downs in GE Capital’s portfolio will ultimately lower the reported shareowner equity. The report indicates that as of December 31, 2009, the net equity per share of common stock is $9.53, after adjusting for possible dilution from warrants.

 

 

 ge-as-reported1

  

 

 
 
 
 
 
 
 
 
 
 

The following analysis attempts to estimate what a worst case scenario for GE Capital would look like for GE as a whole, and the effects it would have on the company’s balance sheet.

 

Focusing on GE Capital

 

A critical misconception behind GE’s stock price plunge is that GE Capital has nearly $45 billion in commercial mortgage backed securities (CMBS) that will need to be marked down. However, our analysis shows that this completely wrong.  The latest 10-K shows GE does not hold $50 billion in CMBS, but rather in a commercial real estate loan book, a senior secured position where GE underwrites each individual property. This means that the $34 billion of equity is the actual value of the properties, with over 80% of that with no third party debt. GE currently has $2.9 billion of CMBS in its investment portfolio, as reported in its 2008 10-K. GE Capital’s balance sheet is shown below.

 

 gecs-as-reported

 

We have made the following adjustments to GE Capital’s balance sheet to reflect a worst case scenario for GE.

 

Adjustment 1

 

Reality: GE Capital accounts for its real estate holdings at the price they paid for them, depreciating the values over time, rather than periodically marking them to their current market values. 

 

Adjustments: We have marked down GE Capital’s real estate asset holdings by 30% to reflect their possible current market value. 

 

Adjustment 2

 

Reality: The balance sheet does not include the potential effects of a credit downgrade.

 

Adjustments: If the long-term credit rating of GE Capital were to fall below AA–/Aa3 or its short-term credit rating were to fall below A–1+/P–1 GE Capital would be required to provide approximately $3.5B of capital to various entities to account for this increase in credit risk.

 

Adjustment 3

 

Reality: The balance sheet does not include any potential losses due to deteriorating conditions in the market since December 31, 2008.

 

Adjustments: Increased delinquency rates on on-book and off-book equipment financing loans and leases from 2.17% to 3.00%. Also, increased managed financing receivables delinquency rates, including defaulting consumer credit cards, from 7.47% to 10%.

 

Adjustment 4

 

Reality: Latest balance sheet excludes benefits in dividend cut announced February 27, 2009.

 

Adjustment: Dividend cut from 31 cents to 10 cents will allow GE to attain an extra $9B a year.

 

Adjustment 5

 

Reality: GE Capital holds $41B of investment securities, some of which are backed by consumer and commercial mortgages. Unrealized losses were included in fair value, but additional losses will mount if market continues to deteriorate.

 

Adjustments: Marked down all investment securities at GE Capital by an additional 15% to reflect the possibility of further deterioration in asset-backed securities and continuing decline in property values. This adjustment resulted in an additional $7B write-down to the fair value calculations reported in the 2008 10-K. GE’s Capital worst case scenario adjusted balance sheet is shown below.

 

 

 

 

 

 

 

  

gecs-adjusted1

 

Our analysis shows that in a worst case scenario, GE Capital is still valued at nearly $9B in equity, which is an 83% reduction in equity compared to that reported in the 2008 10-K. Writing down this equity in the consolidated balance sheet results in an adjusted equity of $71B for GE as a whole, or $6.51/share.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

ge-adjusted1

 

 

 

 

 

 

 

 

 

 

 

Conclusion

 

At its $7.41 close yesterday, GE is trading near our estimate worst case scenario estimate of $6.41.  However, we believe that this worst case scenario is very unlikely to play out. GE Capital accounts for its real estate holdings at the price they paid for them, depreciating the values over time, rather than periodically marking them to their current market values. We believe this is the right approach for GE as a long-term investor, as unlike other financial institutions, GE is not forced to sell any of these investments to raise additional cash. Furthermore, the latest dividend cut saves GE an additional $9B a year, which can be preserved as cash in the near term. We expect the unrealized losses in mortgage-backed investment securities to shrink as the price of property values stabilize in the long term. In general, we believe our earnings-based valuation of roughly $12/share is closer to the company’s intrinsic value. This represents a nearly 50% discount to the current market price of $7.41 with a high probability of upside in the near term, once market fears about GE Capital assets start to dissipate. For this reason, GE has been added to our ValueHuntr Portfolio.

 

 

[Full Disclosure:  We currently have a holding in GE. This is neither a recommendation to buy or sell any securities. All information provided believed to be reliable and presented for information purposes only. Do your own research before investing in any security.]

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Soapstone Networks (NASDAQ: SOAP)

Posted on March 9, 2009 by -| 7 Comments

Soapstone Networks Inc. (NASDAQ: SOAP) has been added to our ValueHuntr portfolio. According to the latest SEC disclosure, the company had $90.1M in current assets and total liabilities of $3.0M as of December 31, 2008. This means that with a net asset value of $87.0M ($5.88/share) and a market capitalization of $42.5 ($2.85/share) the company is currently trading at a nearly 48% discount to its net asset value and a 49% discount to its net cash value.

 

About SOAP

 

Soapstone Networks is at the forefront of the movement to Carrier Ethernet by developing resource and service control systems that realize NGN software-provisioned services in the new Carrier Ethernet transport network. Soapstone’s common control framework decouples services from underlying network technologies. The Soapstone solution is designed to dynamically provision precise, SLA-quality services, continuously optimizing utilization of network resources to bring orderly, predictable business-driven behavior to service provider networks.

 

Valuation

 

SOAP is an unprofitable business with currents assets completely in cash and virtually no short-term or long-term commitments. With an average ROIC of -27% for the past 5 years, it is our view that the company does not have the ability to create shareholder value with the exception of special cash returns or liquidation. Therefore, we value the company at how they would sell at a possible liquidation rather than future earnings expectations or how the assets are currently carried on the company’s books.

 

With a net-cash value of $86.0M ($5.8/share) and a market capitalization of $42.5 ($2.85/share) the company is currently trading at a 49% discount to the cash the company has in its books. We estimate its value at liquidation at $87.3M ($5.7/share), a 51% discount to the company’s present market value.

 

  

SOAP's Balance Sheet

SOAP's Balance Sheet

 

 

Catalyst

On February 19, 2009, the company announced that is has engaged Morgan Stanley as its advisor to assist the company in exploring strategic alternatives for enhancing shareholder value. The press release indicated the following:

 

Soapstone Networks Inc. has engaged Morgan Stanley & Co. Incorporated (“Morgan Stanley”) as its advisor to assist the Company in exploring strategic alternatives available to the Company for enhancing shareholder value, including but not limited to, continued execution of the Company’s business plan, the payment of a cash dividend to the Company’s shareholders, a repurchase by the Company of shares of its capital stock, the sale or spin off of Company assets, partnering or other collaboration agreements, a merger, sale or liquidation of, or acquisition by, the Company or other strategic transaction.

 

A sale is a likely, but we believe the board of directors will only approve such option if the sale price is higher than the value shareholders would realize through an auction or liquidation. Liquidation of the company would result in a nearly 100% return to shareholders due to the discrepancy between market value and cash assets. However, the current economic climate makes it difficult to approximate the value that the company’s non-cash assets would attract from interested buyers. Furthermore, Bill Leighton, the company’s CEO stated the following during the February 12, 2009 earnings call:

 

Like many companies in this macro-economic environment, we have heard from certain of our shareholders that, for their particular interests, a near-term cash return from the Company is desirable. With the help of our outside advisors, we will carefully consider this expressed interest in a cash return, within the process of evaluating a range of alternatives, understanding that our goal is, as always, to provide enhanced value to all of our shareholders

 

It is obvious that cash-stripped shareholders have been pushing management for a quick cash return. Thus, we consider a special cash dividend to be the most likely scenario. The company has the ability to declare up to $2 per share in special dividends without affecting the company’s operational goals for this year.

 

 

Conclusion

 

At its $2.85 close yesterday, SOAP is trading at approximately half our estimate of its value in liquidation.  Fortunately, management is taken the right steps to increase shareholder value. We believe that the probability of a special dividend is high, followed by the liquidation of the company.  Due to its high probability of realization and its steep discount to the value that could be realized through auction or liquidation, we are adding SOAP to the ValueHuntr portfolio.

 

 

[Full Disclosure:  We do not have a holding in SOAP. This is neither a recommendation to buy or sell any securities. All information provided believed to be reliable and presented for information purposes only. Do your own research before investing in any security.]

 

 

 

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Vanda Pharmaceuticals (NASDAQ: VNDA)

Posted on March 6, 2009 by -| 4 Comments

Vanda Pharmaceuticals Inc. (NASDAQ: VNDA) has been added to our ValueHuntr portfolio. According to the latest SEC disclosure, the company had $47.7M in current assets and total liabilities of $3.9M as of December 31, 2008. This means that with a net asset value of $43.8M ($1.64/share) and a market capitalization of $21.4M ($0.80/share) the company is currently trading at a 50% discount to its net asset value.

 

About VNDA

 

VNDA is a biopharmaceutical company focused on the development and commercialization of clinical-stage drug candidates for central nervous system disorders, with exclusive worldwide commercial rights to three product candidates in clinical development. The Company’s product portfolio includes Fiapta (iloperidone), a compound for the treatment of schizophrenia and bipolar disorder; VEC-162, a compound for the treatment of sleep and mood disorders, and VSF-173, a compound for the treatment of excessive sleepiness.

 

Valuation

 

VNDA and its management have not produced any revenues for shareholders since its founding in 2003. For over 5 quarters, the company has been burning cash at an average rate of $45M per year ($11M per quarter).

 

Cash & Cash Equivalents

Cash Equivalents & Short-Term Investments

 

The company is awaiting the FDA’s decision in May 6, 2009, regarding iloperidone, its schizophrenia drug candidate. However, the company’s first try was rejected with the FDA last July. Taking the conservative approach that another FDA rejection is in the horizon, the company will likely run out of cash by the end of 2009. Even assuming FDA approval, it would take years for shareholder to realize this value. Therefore, we believe the company is worth more dead than alive, and that its assets are best valued at how they would sell at a possible liquidation rather than how they are currently carried on the company’s books.

 

liq-val

VNDA's balance sheet

Catalyst

 

On February 13, 2009, shareholder Kevin Tang, Managing Director of Tang Capital Partners LP, filed an amended proxy material urging VNDA’s board to immediately cease operations. The filing states the following:

The stockholders of the Company hereby request that the Board of Directors of the Company promptly take all necessary action to swiftly and orderly liquidate the Company’s remaining assets and return all remaining capital to the Company’s stockholders

Keving Tang disclosed his 15% stake in VNDA along with his associates in the amended 13D notice. Mr. Tang has said he plans to nominate two members to the company’s board. The 13D notice discloses in the Election of Directors Proposal that Kevin Tang himself will be one of the board nominees, along with Andrew D. Levin, a principal at Tang Capital Management, LLC.

Through the filing, TCP has also proposed that the annual stockholders meeting be conducted on April 30, 2009, a week before the FDA’s May 6 response regarding VNDA’s iloperidone drug.

 

The company has responded as follows:

 

The Company believes that, even in the absence of an approval by the FDA for iloperidone, there remains significant unrealized value in the Company’s other compounds. Therefore, the Company does not believe that liquidation is currently in the best interests of the Company or its stockholders and intends to oppose TCP’s proposal to liquidate the Company

 

Conclusion

 

At its $0.80 close yesterday, VNDA is trading at approximately half our estimate of its value in liquidation.  Unfortunately, management has not taken the right steps to increase shareholder value over the years. Given that it has no current sources of revenues and that it has continued operating with negative operating cash flow and earnings, we think shareholders will vote in favor of Kevin Tang’s proposals. We believe that the probability of liquidation before this year’s end is high, even in the case of FDA approval.  Due to its high probability of realization and its steep discount to liquidation value, we are adding VNDA to the ValueHuntr portfolio.

 

 

[Full Disclosure:  We do not have a holding in VNDA. This is neither a recommendation to buy or sell any securities. All information provided believed to be reliable and presented for information purposes only. Do your own research before investing in any security.]
 
 
 
 
 
 
 

 

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