No matter how you calculate Invested Capital, Stamps.com generates terrific returns on capital. Thomas434 wrote up STMP this past July and did a great job of covering the STMP’s current operating situation.  As thomas434 pointed out, pgu103’s write-up in 2003 gave a “great description of the company’s history and customer economics.”  Given the background provided in both of their write-ups—and thomas434’s great explanation of the STMP’s “increased investment in their marketing program”—this write-up is short.  I have chosen to focus on two items that haven’t materially changed thomas434’s thesis but have made the STMP a much more timely idea.

 

STMP’s stock price is down over 34% since 7/6/07.  The bulk of this has been YTD as shares are almost 25% cheaper today.  What caused this decline?  Who knows?

Revenue growth hasn’t normalized since Q2 07.  Thomas434 pointed out the then-current Wall Street concern that STMP was experiencing slower customer growth while increasing marketing costs.  Accordingly, thomas434 projected $95 MM in revenue for 2007.  STMP ended up with $85 MM while increasing marketing costs from $27 MM to $33 MM or from 33% of revenue to 39% of revenue.  It’s important to keep in mind that these increased marketing costs are not permanent changes in response to competition and are solely an investment similar to growth capex.  These marketing costs are not impairing STMP’s normalized earning power on its PC Postage franchise, and they are depressing current earnings below normalized levels.

Using current performance by STMP in determining value will give you a valuation under STMP’s normalized earning power.  Nonetheless STMP’s TTM FCF (EBITDA minus Maintenance Capex or $9.5 MM minus $0.8 MM) is $8.7 MM and Invested Capital was $1.6 MM as of FY 07 ($104.9 MM in Total Assets minus $90.8 MM in Cash minus $12.5 MM in Non-Interest-Bearing Current Liabilities).  STMP’s current TEV is $91.5 MM.  That means that even with STMP’s depressed FCF that is currently below normalized levels, you’re buying a great PC Postage franchise with extremely high barriers to entry and long-term revenue guidance above 15% for only 10.5x FCF.

 

Part of the timeliness of this idea is obviously the recent drop in STMP’s stock price.  Beyond this there are two more important reasons why an investment in STMP is a great current opportunity.

 

Thomas434 discussed STMP’s NOL as it related to STMP’s valuation.  The tax-shield is certainly an important part of STMP’s value, but it’s the effect of IRC § 382 I want to focus on.  (Side note: a great, accessible discussion on § 382 for non-tax types can be read here, http://www.cfo.com/article.cfm/10804094 )   STMP’s FY 07 results announcement reiterated § 382’s importance:

 

 

Thomas434 astutely pointed out that ownership change considerations “has probably discouraged larger institutions from taking a position in the stock, and also leaves stamps.com as one of the small caps today without a private equity buyout premium.” 

Why has § 382 changed the situation on STMP’s shares?  In the same results announcement, STMP announced that it “is currently planning to seek shareholder approval during its 2008 annual meeting for additional measures to protect its NOL asset.”  This “would include an amendment to the Company’s articles of incorporation which would restrict transfers that would create new 5% shareholders. Investors wishing to become a 5% shareholder could request a waiver of the restriction from the Company, and the Stamps.com Board of Directors may grant a waiver if it is deemed to be in the best interest of shareholders.”  Beyond simply discouraging larger institutions from buying STMP, this would damn near prevent it.  I see no reason to say this hasn’t been incorporated into the current share price.  The stock price is still 16% below the price immediately prior to the FY 07 results announcement.  The systematic decrease in potential demand has added to the creation of the current opportunity for, in a sense, ‘eligible’ investors.

 

After seeing STMP’s share price decrease over 30% from 1/1/07 to 2/7/07, STMP’s Board added to the share repurchase program and authorized another for the purchase of an additional 1.2 MM shares over the following six months.

After seeing STMP’s share price decrease another 21% ($11.02 to $8.61) from 2/14/07 to 2/28/07, six insiders—the CEO, CFO, VP of Sales and Marketing, VP of Development, and a Director— went on a nice buying spree to the tune of $1.51 MM.  These six insiders have individual cost bases on these purchases ranging from $8.96 to $9.12.  STMP’s recent share price is $9.21 or barely a hair above these bases.

 

 

These purchases were substantial purchases relative to individual cash compensation received in 2006 by any party and to their individual STMP holdings prior to this round of insider buying.

 

 

 

STMP is giving us the opportunity to buy a great franchise yielding 9.5% in FCF.  This opportunity is particularly attractive because it’s a depressed level of FCF meaning that the normalized FCF yield is substantially higher and pushing above 12% (at $11.5 MM in FCF).  If no marketing push had been made in FY 07 and such costs had stayed at 33% of revenue, then FY 07 FCF would have been $13.4 MM leaving a FCF yield of 14.7%.  That is hardly a reasonable FCF yield for a business with a strong franchise and considerable growth prospects (evidenced by the 15% long-term revenue guidance).

Insider buying and the increased authorized share repurchases are an additional signal that the STMP’s value is substantially higher than current prices.