Description
thesis
PETS sells pet supplies and medications thru the internet site 1800PetMeds.com. The 10k doesn't take long to read so you can peruse that so I won't spend time there, but the company is overcapitalized, generates a tons of free cash flow, buys it own shares, and issues a reasonable amount of options, and so far has managed to avoid the sort of idiotic high price buyback or stupid acquisition mindset which has ruined so many good companies.
here is why I like the company:
*low valuation. Stock trades for 14x trailing earnings.
*balance sheet. Company has 47m in cash and investments with almost no liabilities.
*high free cash flow. Company generated more than 19m in cash flow in the past year with Capex under 1m.
*growth record. Company has grown sales from 32m in 2002 to 162m in 2007. Earnings grew from under 1m to over 14m over the same period
*buyback plan. PETs has a small buyback plan in place
*good words from CFO. the CFO has stated in conversations that the company is not looking to blow its cash balances on stupid buybacks at very high prices or overly expensive acquisitions.
*Three Year View. Assuming PETS achieves absolutely no growth in the next three years, the company will generate another ~57m in free cash flow.
*Options have been trailing down and are very reasonable on a 5 year basis now
Here are some issues:
*no moat. Anybody can step up a website. Anybody can compete. From conversations with management, PETS is the top dog in standalone pet merchandise internet sales.
*no more Betty. Betty White was the spokesperson for the past year and this year the company has gone in another direction. Having seen the latest commercials myself, I hope they can either bring back Betty or somebody comparable in the future (opinion only)
*law of large numbers and difficulty of forecasting. while PETs continues to achieve double digit top line growth rates (19% Dec 07), and management feels like double digit rates are achievable, you have to begin to wonder if low-hanging frut has been obtained, especially since new order sales have come down in recent periods (though latest was blamed on lower advertising levels).
*tough near term sales comparison. For those who monitor such things, the Q4 Mar compare is very tough but easier with margins
*there are some auction notes in the investment line.
*as the presidential election heats up, so does competition for ad space on cable which is PETs primary method of advertising
*in the end, what management does with the cash will be the ultimate driver of long-term shareholder value
Finally, there was an unflattering portrait of the company (pub in Barrons) in this piece:
I just think this stock is way too cheap. Most companies that generate 19m in cash, and that get to keep that cash, ought to get more than a 7% free cash flow yield. Throw in the existing cash and it seems off, esp. when the most gloomy assumption three years hence could see 100m on the BS sans no buybacks. They'd really have to futzed this up to have give a bad investment here, though all things are possible....
Catalyst
somebody realizes that companies that generate 19m in free cash flow ought to be valued more than this