Description

Minim (formerly Zoom Telephonics until November 2020) now has a classic value-investing fact pattern: An obscure microcap whose business is finally poised to outperform expectations after years of disappointment, plus a strong capital markets catalyst (an imminent uplisting from the pink sheets to the Nasdaq).  It is rare to see a small-cap with as many different types of investing factors turning positive as Minim/Zoom has had in the last seven months, and in particular since its 1Q earnings release and call last month.  The stock price has not yet responded to the improving news, and it is cheap at 1.8x EV to 2021 revenue.  Although the software side of Minim’s business future is highly uncertain, the range of possible outcomes produces an excellent risk/reward balance for the stock.  The valuation could result in triple-digit returns if the business does merely OK and a clear multi-bagger if the business does well.  Even if Minim disappoints my vague baseline “OK” expectations, the stock price should not fall and could rise materially thanks to the uplisting alone.

FIVE DISAPPOINTING YEARS

Zoom first received Value Investor Club attention in late 2015 when it won the Motorola brand licensing rights for cable modems and gateways (which are combined modems + routers).  Zoom has almost quintupled its revenues since then, from $10.8m in 2015 to $48m in 2020. The problem is that management in late 2015 had predicted revenues would reach $50-100m in 2016; actual 2016 revenues were $18m.  Management also predicted 8-10% operating margins, while 2016 results came in at -16%.  The company’s best operating margin over these five years was 0%, and in 2020 it was -10%.

This disappointing top and bottom line were driven by steady series of operational disappointments, most of which were outside the company’s control:

• 2016 - Arris, the former Motorola license holder and market leader, continued selling down a larger-than-expected remaining inventory of Motorola-branded products.

• 2017 - Zoom suffered substantial delays in launching several important new product models.

• 2018 - Walmart, a major Zoom sales channel, dropped one of its two Zoom SKUs and heavily discounted its remaining inventory for that SKU, which killed Zoom’s sales through other channels.

• 2018 - Trump imposed 10% tariffs on almost all Zoom products, which were produced in China.  Zoom tried to raise prices to cover the cost, but its rivals did not match, and Zoom was forced to revert and eat the added cost.

• 2019 - Trump raised most Zoom-related tariffs to 25%.  These tariffs depressed gross margins by as much as 13 percentage points in some quarters, according to management.

• 2020 - Supply and shipping disruptions from Covid required heavy use of air freight to ensure timely deliveries, at times accounting for almost all the company’s shipments.  The extra freight charges depressed margins by as much as 9 percentage points in some quarters.

Spread across all these years was the core problem of Zoom’s failure to capture as much market share of the customer-purchased cable modem/gateway market as management had predicted.  In hindsight, it appears that the former CEO had a micromanaging, put-your-head-down-and-deliver style that was ill-suited to identifying new strategic opportunities and reaching out to capture them.  Management also spent too much effort and money developing and trying to sell step-out products in step-out geographies that never appeared all that promising and in fact never gained traction.  

Also disappointing was the company’s failure to uplist to the Nasdaq, which management had begun talking about by at least 2018.  I vaguely remember that the talk may have begun already in 2017, and I do know that by 2018, those of us on VIC who were following the company thought a listing application was imminent.  Prior management never filed an application.

SUBSTANTIAL IMPROVEMENT IN 2020

Most of these problems were fixed or resolved themselves during 2020, and new positives emerged:

• The company reinvigorated its market share gains, with revenue growth accelerating from 10% in 2018 to 16% in 2019 to 28% in 2020.  Zoom gained new shelf space at Best Buy, gained share at Amazon, and won some credible “best cable modem” awards from independent reviewers.

• Management announced in late 2019 that it would move all production from China to Vietnam to avoid the tariffs.  The transition was easier and more seamless than one might have expected, because Zoom’s primary Chinese contract manufacturer had already begun the process of setting up a Vietnamese plant.  Zoom then added a second backup supplier who had already been in Vietnam for 10 years.  (The first supplier still produced 99% of the company’s 1Q21 volume.)  All production successfully shifted to Vietnam by June 2020, with production costs within 2-3% of what they had been in China.

• The need for excess air freight ended by late 2020.

• Motorola extended Zoom’s license for another five years.  Based on Motorola’s behavior with all its licenses and its relationship with Zoom/Minim so far, it will probably continue renewing indefinitely, unless Zoom/Minim does something badly wrong.

• The company gained a new majority investor, Jeremy Hitchcock, who had founded, grown, and sold a software business, Dyn, to Oracle for $600 million.  Hitchcock in 2020 was the founder and near-majority owner of Minim, a wifi management and security software business that was already a software supplier to Zoom and a key sales channel for one of Zoom’s gateway models that used Minim’s software.

• Over the course of 2020, Hitchcock engineered a near-complete revamp of both senior management and most of the board of directors.  The old CEO retired, resigned from the board, and sold his shares.

• Zoom merged with Minim in November and began doing business as Minim.  See the late-2020 VIC write-up on Zoom (ticker ZMTP) for further details about the process surrounding that merger and the opportunities it could create.

ACCELERATING POSITIVES IN 1Q21

The most recent earnings release and call was the most positive one I have observed in my five years of following the company.  Everything appears to be going the company’s way.

• The core hardware business accelerated further.  Sales at Amazon, Minim’s dominant channel, rose 42% YoY and 59% QoQ.  Minim achieved the #1 market share at Amazon for the first time, growing its share from 22% in 4Q to 33% in 1Q.  ASPs increased 15% YoY.

• Minim added Staples, Barnes & Noble, and B&H Photo as new retail channel partners.  Management predicted several more new channel partners during 2021.

• 1Q marks the end of almost a year’s worth of elevated SG&A costs for the merger run-up, merger execution, and other corporate transactions.

• The merged company has again remade its management team with what looks like a solid line-up.  It is composed of legacy-Minim’s CEO, CFO, CTO, and CMO and legacy-Zoom’s COO (hired in 2019).  The CEO, Gray Chynoweth, spent nine years at Dyn with Jeremy Hitchcock and rejoined Hitchcock at legacy-Minim several years after Dyn’s sale.

• Minim is about to launch a mesh wifi router that could materially expand the future software sales opportunity by creating a better offering to serve all home broadband users (and potentially their employers) and not only those that purchase their own cable modems.  (More on that below.)

• The company replaced its ineffective third-party investor relations firm with a more competent one, substantially improved its investor materials and some of its disclosures, and started participating in investor conferences for essentially the first time in its history.

Best of all was the announcement that the company had recently filed an application to list on the Nasdaq.  On June 4 the official company name changed from Zoom to Minim, which cleared another self-imposed hurdle before listing.  The listing should prove to be important enough for the stock price to merit its own discussion . . . .

NASDAQ LISTING!

Jumping from the pink sheets or a backwater exchange to the Nasdaq expands by 10x-100x the number of investors who are able and willing to invest in a stock and therefore its likely trading volume, which further boosts investor interest.  No matter how much you currently think this effect is worth to the stock price, you are probably underestimating, possibly by a lot.  I say this as someone who badly underestimated the effect myself in two similar situations -- obscure microcaps that we had known for years and that were uplisting from backwater exchanges to the Nasdaq.  In both cases my underestimation caused me to botch the trades, failing to rebuy in one case and buying far too little in the other.

The first stock was Xpel Inc., which we owned for years but sold in 2018 at what seemed like a nice take-the-money profit at the time, just above $7 per share.  Xpel had been listed for many years on the Toronto Venture Exchange, a junior exchange with mostly-dodgy companies and low trading volumes (plus a few hidden gems like Xpel).  Like Zoom/Minim, Xpel management had been saying for years that it would eventually uplist to a U.S. exchange.  They finally announced they had filed their application in April 2019, as part of their 4Q release.  Unfortunately for the stock, they also said 1Q earnings growth would turn negative as their channel worked off a large inventory build; the stock price fell about 25%, from above $6 into the $4’s.  We were fully up-to-date on the company and its prospects and had almost three months after that announcement to rebuy our stock between $4 and $5.

We didn’t do so, not because we didn’t believe in the business as much as we had in the preceding years, but because we badly underestimated the uplisting’s impact.  The price hit $8 already in July, when the uplisting occurred; $12 by September; $16 by November; and just recently hit $95, a 20-bagger in two years from our potential purchase price after the listing announcement.  The company’s news in the second half of 2019 was not materially better than expected; the company merely made it past the two bad quarters caused by the well-telegraphed inventory correction.  I have continued loosely following Xpel’s business over the last two years, and the recent results are not materially better than what I expected for it two years ago. I am fairly sure that the same is true for other VIC members who were following the company prior to 2019, and I can guess that the same is probably true for most other investors following the company back then.  In short: investors had plenty of time to buy on the uplisting news, but then suddenly -- in value investing terms -- they (we) found themselves missing a multi-bagger within months.  Here is the 2019 chart:

The second stock was GAN Limited, which uplisted last year from the London AIM, another mostly-dodgy backwater exchange.  We had known about GAN for years and had done a full work-up on them, but we had never purchased any stock.  Like Xpel and Minim, management had been talking about an eventual uplisting for most of those years.  By early 2020 the business was doing very well and had brighter prospects ahead. In February and again in early April -- i.e., ignoring the huge Covid-panic stock dip during March -- the stock was trading on the AIM at around 150p, equivalent to $7.50 on the Nasdaq after translating for currency and a 4:1 share consolidation.

GAN announced the filing of its Nasdaq application on March 25, when the stock was much lower yet, and we bought a pitifully few shares.  The stock closed its first day on the Nasdaq above $13 and hit $28 within two months. Since then its perceived business fortunes, Robinhood-crowd enthusiasm, and stock price have waxed and waned.  The price has ranged from $15 to $32.  Although a precise number is impossible to know or prove, my best guess is that the Nasdaq listing alone was worth at least 100% for the stock and likely closer to 200%, from $7.50 to $22.50.  I will steal the best chart I have seen of GAN’s relisting effect, which was in VIC’s Bragg Gaming Group write-up:

Bragg Gaming Group is a bonus example of an uplisted microcap, albeit one that I do not know well. Puppyeh posted his write-up last November when management said the company would relist from the Toronto Venture Exchange (same as Xpel) to the Nasdaq.  Bragg semi-failed in that goal, uplisting instead to the senior Toronto exchange.  It didn’t matter; the stock still tripled within two months.

THE BUSINESS GOING FORWARD

To really work, these uplisting situations require a good story about the business’s prospects for improvement and growth.  Minim is telling a great story, which management is pushing hard in its earnings materials, investor deck, and conference presentations: A transformation, thanks to the Zoom/Minim merger, from a hardware seller to a recurring revenue, high margin, low capital intensity, scalable software seller.  

To paraphrase an old Henry Kissinger line, this story will probably have the added benefit of becoming true.  It is too early to tell, because the legacy Minim software business is nascent, and the software’s value proposition to specific potential purchasers and its go-to-market paths remain murkier than they should be.  My best guess after my investigations is that we can count on modest software success, which is more than enough to make Minim’s $99m market cap a bargain.  It has a lower-odds chance of much greater success that could turn Minim into a multi-bagger even after the initial uplisting boost, i.e., a 10-bagger from here.

Measured by recent revenues, the merged Minim is almost entirely a hardware maker, and more specifically a cable modem/gateway maker, with software aspirations.  The 1Q revenue mix was 97% cable modems and gateways, 2% other hardware, and 1% software.  Minim has begun accounting for a portion of the cash received from some gateway models’ sales as deferred software revenue, to be recognized over the three years following a sale.  The 1Q deferred revenue is worth another 2% of total sales.  Apart from the new deferred revenue, the 1Q proportions match those for 2020; legacy Minim reported 9M2020 revenues of $500k, while legacy Zoom reported full-year 2020 revenues of almost $50m.

So what software is Minim going to sell in the future to change these numbers, why is it valuable enough for people to want to purchase, who will those people or entities be, and through what sales channels?  It is difficult to know, in part because this is currently the weakest piece of Minim’s communications to potential customers and investors.  As an operating business, Minim must do a better job telling consumers what concrete value its software adds that is worth paying for in a gateway or router purchase.  (I don’t know about Minim’s pitches to enterprises.)  As a capital markets participant, Minim’s current software pitch to investors focuses roughly 50% on the general strategy to become a software business, 45% on why wifi management and security software is important as a category, and 5% on why Minim’s particular software will sell.

In my 20+ years of tech and telecom work, I have found that, if a tech company can’t crisply describe its product’s value proposition versus competitors and other alternatives -- including the alternative of buying nothing -- it probably doesn’t have a good one.  And plenty of small-cap pure-play software companies limp along without much success because their products never gain enough traction.  In Minim’s case, though, I think the opposite; Minim probably already has something good, with multiple possible paths to success.  In addition, management has been telling investors that its products and strategy are still developing rapidly and that they will be able to offer more details on those topics in coming months.  I am more comfortable giving them some benefit of the doubt when the business and the product category are relatively nascent than I would be for a more-established product niche.

With that context, below is my own synthesis of the opportunity from their existing products.  

The foundation is the core cable gateway business.  When you run through all the features of Minim’s wifi management and security software and the app that runs it, it should be a real selling point for a decent portion of consumers, i.e., enough to choose a Motorola gateway over a competing brand and to pay a premium for it.  Most competing devices don’t offer many of these features at all, and from what I’ve seen personally, Minim’s software is superior to that from other device makers and to the similar functionality offered for free by some carriers.  Minim is highlighting that its new MG8702 gateway, which comes with the new software, sold 135% more units in its first 90 days than its predecessor model, at a 69% higher ASP.  The implication is that the software made the difference, and it may have.  If so, it would be in spite of rather than because of Minim’s marketing.  The MG8702’s listing page at Amazon, Minim’s dominant channel partner, barely mentions the software; the big graphics-filled “product description” section doesn’t mention it at all.

https://www.amazon.com/MOTOROLA-MG8702-MU-MIMO-Approved-Xfinity/dp/B08DL4QB25

The first, conceptually close and imminent step-out is to non-gateway wifi products, and in particular -- this is solely my opinion -- the soon-to-launch ZM.1 mesh router.  Minim’s hardware sales volume has been almost entirely cable modems and cable gateways sold to consumers.  That focus restricts the addressable market to households who get their internet service from cable companies that allow customer-purchased modems on their network.  I.e., it excludes customers of Charter (which requires customers to rent their modems from the company), all the legacy telco successors (AT&T, Centurytel, Frontier, Windstream, Ziply, etc.), all satellite providers (a tiny market so far, but Starlink is coming), and apartment tenants whose landlords provide them an internet feed.  Minim has offered traditional wifi routers but has not gained traction with them in the past.  That could change going forward with:

• The inclusion of its software in more router models.

• Launch of the mesh router, because most people who are purchasing a separate router are probably looking for an improvement over their crappy carrier-provided gateway’s router function, and mesh routers offer the most improvement.  (I say this as a 20-year AT&T broadband customer.  All six of my AT&T gateways’ routers have performed relatively poorly.  Almost every AT&T outside-plant technician I have talked to admits that all its gateways’ routers perform poorly.)

• Ever-increasing internet speeds exposing the deficiencies of the carrier-provided gateways.  

Minim has two other potential sales avenues that could boost Minim’s software revenues significantly over time. The first already has a reference customer in place:  A South African carrier that provides gateways to all its customers has decided to continue sourcing them from another maker (ZTE) but to include Minim’s software on them, as a benefit to its customers.  The carrier has directed ZTE to load Minim’s software on its units and is paying Minim a small license fee per user, per month.  This type of arrangement seems like an obvious win-win-win for all involved and could expand to other international carriers.  Minim will need to make a concerted step-out effort to pursue the opportunity, because it doesn’t have much of an international presence (~2% of revenues).  The opportunity will also be restricted to smaller international carriers.  As a former consultant to several large telco and cable carriers and to large global telecom equipment providers, I know that the largest American and European carriers who provide all their customers with gateways will likely either try to build this type of software themselves in-house, or take years to approve and purchase an outside solution after a painful sourcing process, or both.

The final already-visible opportunity is by far the largest one but also the farthest out in time and in likelihood of success:  Businesses could purchase Minim equipment and software to provide their employees with a more secure work-at-home setup.  Minim’s software lets the user look at each device connected to a wifi network, control what devices can get added, monitor the traffic device by device, etc.  It allows both a corporate IT department and the home user to monitor the network.  And it allows the network to be partitioned, so that the IT department can monitor the corporate-relevant devices but not the other personal devices.  This functionality should be valuable to more security-conscious businesses, such as the larger financial services providers.  The trick is, selling most IT products to enterprises requires an enterprise sales force.  Minim effectively doesn’t have one today, so it would likely take significant time and money to scale up a serious sales effort.

It is worth reiterating that important new opportunities may open up as Minim evolves its software or launches new applications.  Material changes in opportunity sets occur more frequently in early-stage software than they do for other types of businesses.

VALUATION

Valuing today’s Minim is unusually difficult, to the extent that it is counterproductive to be precise.  At a market cap of $99m, and assuming 25% revenue growth in 2021, Minim is trading for less than 1.8x EV to forward revenues. By any measure, that is very cheap for a solid hardware business plus a software business with real promise.  The hardware business should be on a rapid path to reach the long-promised 10% operating margins.  10% on $60 million of sales would be $6 million of EBIT.  Trivial interest expense and taxes – Minim has large NOLs relative to its market cap – leaves $6 million of net income, which is 0.17 per share.  That’s a 16.5x multiple for the hardware business value alone.  The hardware profits, however, are going to be hidden for a while behind software losses.

Now add the value for a software business that might go nowhere but should go somewhere and could produce high long-term growth for the entire business.  Choosing a multiple has to be a very loose judgment call, but having analyzed many currently-unprofitable software businesses over the years, in a world where the no-brainer great software businesses trade for 30-50x revenues and plenty of earlier-stage software businesses with uncertain prospects trade for 5-15x revenues, I would expect this hybrid hardware/software one to go for more like 5x once the Nasdaq buyers appear.  That’s a triple from here.  If things go well for the business over the next year the momentum looks set to continue, both the revenue base and the appropriate multiple will be materially higher.  For example, if expected 2022 revenues are 20% above 2021 and you use 6x instead of 5x, the loose price target would rise 44%.  Other investors have suggested specific valuation comps for Minim, but I don’t think a peer exists with a business profile close enough to be more meaningful than that rough assessment.

Catalyst

Imminent Nasdaq listing

Continuation of recent success for hardware sales

Any sort of material traction in software sales, announced software deals, or new software products