Description
Background: Microcap with a 44% upside to cash per share. This is a super-illiquid stock so many of you may want to stop reading here. Infosonics (IFON) previously had a ~220M in revenue business distributing Samsung phones into Argentina. That business went extinct in late 2009 after a new 30% import tariff was introduced. For the last two years, IFON has been transitioning to developing and selling its own “verykool” brand of cell phones in Latin America.
IFON now competes in a brutally competitive industry known for its creative destruction with the company having no scale or competitive advantage. This is not a buy and hold forever type stock. The thesis here is that IFON offers an opportunity to purchase part of a company at levels well below its net cash per share that is on its way to profitability.
Surf1680 posted this idea a year ago at $.92 when the stock had net cash per share of $1.21 for an upside of 31% to cash per share. At that point, IFON was beginning its transition from the distribution business and had just launched its first two branded phones. Since then, the company’s cash balance has declined from $17.2M to $13.5M (-$3.7M) from a combination of operating losses (-$2.9M) and an increase in working capital (-$.9M).
Please refer to Surf1680’s write-up for more background about the company, but in brief, IFON is using cheap Chinese engineering labor and open-sourced Android operating systems to design low-quality/price smartphones. It then outsources production to Chinese contractors to manufacture the phones for sales primarily in Latin America, with ambitions to sell into India/China as well.
I am now posting this stock at $.66 with IFON having net cash per share of $.95 for an upside of 44% to cash per share. You may ask yourself why bother with this stock, because if history repeats itself, by this time next year IFON will be selling for $.46 with net cash per share of $.66. I believe that the company has gone through the worst of the transitional cash burn and by this time next year the company will be profitable with a similar level of cash per share.
Despite its operating losses during “startup”, the company has shown decent progress and is now offering around a dozen branded phones for sale. As shown below, IFON has been steadily increasing its verykool sales as well as reducing SGA expenses. I believe that the company is now a quarter or two away from cash flow breakeven and 3 to 4 quarters away from becoming profitable.
Recent and Projected Quarterly Financials:
|
|
1Q11A
|
2Q11A
|
3Q11A
|
4Q11F
|
1Q12F
|
2Q12F
|
3Q12F
|
Annualized
|
|
Distribution Sales
|
6,469
|
2,318
|
1,185
|
|
-
|
-
|
|
-
|
|
verykool Sales
|
3,000
|
4,000
|
5,988
|
7,000
|
8,000
|
8,500
|
9,000
|
36,000
|
|
Distribution Margins
|
7.0%
|
7.0%
|
7.0%
|
7.0%
|
|
|
|
|
|
verykool Margins
|
12.0%
|
18.5%
|
19.0%
|
19.3%
|
19.6%
|
19.8%
|
20.0%
|
20.0%
|
|
Dist Gross Profit
|
453
|
162
|
83
|
-
|
-
|
-
|
-
|
-
|
|
verykool Gross Profit
|
359
|
741
|
1,135
|
1,351
|
1,568
|
1,683
|
1,800
|
7,200
|
|
Total Gross Profit
|
812
|
903
|
1,218
|
1,351
|
1,568
|
1,683
|
1,800
|
7,200
|
|
SGA
|
1,434
|
1,276
|
1,256
|
1,225
|
1,225
|
1,225
|
1,225
|
4,900
|
|
R&D
|
357
|
394
|
384
|
400
|
400
|
400
|
400
|
1,600
|
|
Total Overhead
|
1,791
|
1,670
|
1,640
|
1,625
|
1,625
|
1,625
|
1,625
|
6,500
|
|
Operating Profit (Loss)
|
(979)
|
(767)
|
(422)
|
(274)
|
(57)
|
58
|
175
|
700
|
|
Depreciation
|
58
|
37
|
43
|
40
|
40
|
40
|
40
|
180
|
|
CAPEX
|
7
|
113
|
47
|
50
|
50
|
50
|
50
|
180
|
|
Cash Flow Before WC
|
(928)
|
(843)
|
(426)
|
(284)
|
(67)
|
48
|
165
|
700
|
|
Cash
|
13,759
|
14,335
|
13,452
|
13,757
|
13,642
|
14,085
|
13,985
|
13,985
|
|
Cash Per Share
|
0.97
|
1.01
|
0.95
|
0.97
|
0.96
|
0.99
|
0.99
|
0.99
|
While SGA expenses are not likely to get cut much further, verykool sales growth should continue to increase with the introduction of additional smartphones (4 new models have been released since 3Q11).With a couple of quarters of increased sales growth, IFON should be close to breakeven in operating profit. IFON could be cash flow positive as early as 4Q11, as I think working capital could be a source of cash for the next couple of quarters as inventory and prepaid expenses are currently high than likely needed for the near future.
Context and Insider Ownership:
With IFON’s marginal position in an unattractive industry, it’s not inconceivable that the company never makes an operating profit. But if nothing goes right and the company continues to burn cash at the last quarter’s recent rate, it would take ~3.25 years for the cash per share to equal the share price. In addition the CEO, Joseph Ram currently owns 30% of the stock so he should be incentivized to avoid a dumb acquisition or continue on the current path forever if operating profits never materialize. His 30% share of the net cash equates to about 12 years of his current salary. He is currently 63 years old and has led the company since he founded it in 1994.
Valuation:
Below is a list of possible scenarios and the resulting share prices:
| |
Low |
Mid |
High |
| Quarterly Sales Level |
6,000 |
8,500 |
9,500 |
| Gross Margin |
18.5% |
20.0% |
22.0% |
| NWC as % of Sales |
19.0% |
13.3% |
13.3% |
| Operating Income |
(1,940) |
300 |
1,860 |
| Multiple |
2x |
4x |
8x |
| Business Value |
(3,880) |
1,200 |
14,880 |
| Net Cash |
12,401 |
13,583 |
14,025 |
| Net Cash/Sh |
0.86 |
0.94 |
0.97 |
| Total Value |
8,521 |
14,783 |
28,905 |
| Shares |
14,434 |
14,434 |
14,434 |
| Value Per Share |
0.59 |
1.02 |
2.00 |
| Gain |
-11% |
55% |
203% |
The company has about $6.1M in operating loss carry forwards, so it shouldn’t be paying taxes for several years.
I think this stock has limited downside due to protection from IFON’s highly liquid balance sheet ($1.36 TBV and $1.33 NWC per share). If operating losses continue for 2 years before CEO Ram decides to give and liquidates, there would still be a gain from these levels:
| |
3Q11 |
Liq Value |
In 2 Yrs |
Liq Value In 2 Yrs |
| Cash |
13,452 |
13,452 |
9,572 |
9,572 |
| AR |
5,240 |
3,930 |
5,240 |
3,930 |
| Inv |
3,125 |
1,250 |
3,125 |
1,250 |
| Total Liquid Assets |
21,817 |
18,632 |
17,937 |
14,752 |
| Total Liabilities |
4,694 |
5,000 |
5,000 |
5,000 |
| Net Liq Value |
17,123 |
13,632 |
12,937 |
9,752 |
| Shares |
14,434 |
14,434 |
14,434 |
14,434 |
| Liq Value Per Share |
1.19 |
0.94 |
0.90 |
0.68 |
You may be able to obtain a higher IRR by waiting a couple of quarters and buying just before IFON's first quarterly result with positive earnings. But beacuse of the magnitude of the discount, I am content to buy right now and wait.
Risks:
Weak 4Q11 results if some of the increase in 3Q11 sales was for Christmas inventory build.
Weak 1Q12 results if Chinese holidays effect production.
Stock price never rerates to cash per share.
Volume dries up and you get stuck in the stock.
IFON never liquidates and margin of safety erodes away. (Inertia is a hard thing to overcome and CEO/Founder Ram hasn’t quit yet with a cumulative deficit of $12.6M)
Catalyst
IFON reaches profitability or market rerates stock towards cash per share.
IFON calls it quits and liquidates proceeds to shareholders.
4Q11 sales increase more than expected due to Christmas season.