Tuesday, January 24, 2006

news and notes

  • Int'l Game Tech. (IGT) has been on fire of late. Co. reported very strong quarterly #s. Particularly impressive were gains in ARPU and non-machine sales. Here's the Mark Sellers interview where he discusses IGT {Note I am long IGT}

  • JP Morgan has been pushing Tweeter (TWTR) hard prior to its earnings report tommorrow. Stock could move $1 either way on a beat or a miss. I'm hoping for a beat and a run into the $7's to short into. Also, something on TWTR that I believe I failed to mention earlier is that the auditors noted weaknesses in financial controls in their most recent 10k.
  • My favorite confectionary co. is coming back to me. Wrigley is down to about $64 now from $70ish a few months ago. Another 10% move lower and I'll be very interested.
  • A new Greenblatt idea: IMS Health (RX) is a medical information service provider. Here's a presentation to get you started. Co. will report Q4 and FY05 on 1/31.
  • A new short idea: Cosi Restaurants (COSI): Co. has very aggressive expansion plans and very poor expense control. Take a look.

Saturday, January 21, 2006

my newest position -- Overhill Farms (OFI)

OFI is a stock that came across my radar screen via VIC. Before I begin, note that OFI is a microcap stock and my track record with stocks in this area is poor. But these mistakes have been in the sexy sectors -- biotech, medtech, any tech. One difference here is that OFI is decidedly unsexy. OFI manufactures frozen food products (entrees, meal components, soups, sauces, poultry,meat, fish). The current share price is $3.66, market cap of $55 million. FY05 sales were $162.6 million.

Here's what I like about OFI:

Sales were up 21.4% in 2005

Income statement ratios moving in the right direction (05 vs. 04)--GM% at 12.2% vs. 10.7%, SGA% at 4.8% vs. 6.0%, Op margin 7.3% vs. 4.7%.

Panda Restaurants and Jenny Craig are OFI's two largest customers (combined 50% of business). Both have been growing smartly.

OFI's move into a new maufacturing facility seems to have been behind the op. expense improvement at the co. OFI still has excess capacity at that plant to "grow into."

Possibility of re-financing of debt--OFI has a 10/31/06 note that carries an interest rate of 13.5%. Re-financing that debt (maybe to the 7% range) would make a big dent in the int. expense that shows up on the income statement.

OFI is pretty cheap--They earned $0.24 in 2005 (15x trailing) and I think that number can move materially higher based on the discussion above--sales growth at the 2 large clients, op expense improvements, debt refinancing.

OFI insiders hold about 20% of the shares.


Client concentration (Panda and Jenny Craig). Also airlines are a big piece of the pie. This is a bit disconcerting due to many airlines deciding to cut back on in-flight meals. However, OFI has managed to keep this part of the business around $30 million in the past 3 years.

Not much volume--20k or 30k per day

The re-financing doesn't happen.

OFI had hired Piper Jaffrey to explore alternatives for the co. The risk here is that Piper's recommendation, if followed, might be suboptimal to the shareholders.

The Holy Grail of Value Investing

What is it? I don't know. Where is it? Maybe it's in Seth Klarman's "Margin of Safety." No, I decided not to fork over the $700 for this mysterious tome; my library is going to snag me a copy. I'll let you know if I come across any nuggets. I'm also just getting into Thorton O'Glove's "Quality of Earnings." So far, so good.

Wednesday, January 18, 2006

Get thee to the VIC!

VIC stands for Value Investor's Club. As I've mentioned before, upon registration, guests can access VIC member posts on a 45 day delayed basis. If you're searching for some unique stock ideas, I highly recommend signing up (it's free, just do it). Ideas are very well researched and professionally presented. As a matter of fact, yesterday I initiated a position in a co. I initially read about on VIC. The company is Overhill Farms (OFI). A more detailed write-up on OFI will follow, but for now, here are some other VIC ideas that might make some sense:

Discovery Holdings (DISCA) is a recent spin-off from Liberty Media. It's main asset is a 50% stake in Discovery Communications (TLC, Discovery Channel, Travel Channel, Animal Planet). These are some of the most popular stations that are not yet part of a media conglomerate (e.g. Time Warner). Besides VIC, the armchair analyst has a nice write-up on DISCA.

Femsa is another co. that I'm interested in (FMX). The co. has 3 units (a massive and very profitable Coca Cola bottling unit, a brewery unit and also a convenience store unit). Here's a corporate presentation to get you started.

Monday, January 16, 2006

the Bear Case on Tweeter (TWTR)

I have previously mentioned Circuit City (CC) as a short opportunity around $25 but I think Tweeter (TWTR), in the $6's is a more compelling idea with a medium term (6m-2yr.) time frame in mind. Tweeter is a consumer electronics retailer that caters to the mid-high end shopper. Market cap of ~$150mm, FY05 sales of $795mm.

Before we get to the bear case, what do longs hang their hats on?

Gross Margins have increased nicely over the past 3 FY's (34.3% in '03, 38.9% in '04, 39.5% in '05). GM improvement is due in part to a greater focus on installation services and parts & accessory sales.

Q4 of FY05 saw SSS up 10%

Recent positive analyst comments -- JPM sees SSS gains up mid-upper single digits in 2006 and expenses coming under control. The analyst also notes that TWTR is cheap compared to Best Buy or CC on a price/sales basis. Finally, JPM sees the HDTV upgrade cycle as a big benefit to TWTR.

Before I start with the bear case, note that my belief is that the market in general (and specifically certain retailers) will come under pressure in 2006. I think TWTR will suffer from a gradual slowdown in the U.S. consumer.

Bear case:

GM% has been increasing nicely, but so are selling expenses and G&A. Selling expenses have moved up from 30.1% in 2003 to 34.1% in 2004 to 36.5% in 2005 and G&A has moved up from 6.0% in 2003 to 6.7% in 2004 to 6.8% in 2005. I think part of the selling expense ratio deterioration stems from the increased focus on home services/installation. Sure this provides a GM lift, but TWTR pays for it in selling expenses. On the G&A side, the deterioration here might be due to having these corportate expenses spread over fewer stores--which brings us to the next point....

Stores are closing. 176 were open at FY end 2004 and 159 were open at FY end 2005 (net 17 closed). Because of this, I don't put that much weight on the JPM comment that SSS growth should be ok next year. It sure as hell better be! You just removed 17 dumpy stores from the store base.

Weak balance sheet--TWTR had $1.3mm in cash and $39.2mm in working capital at the end of FY05. Of the co's credit facility ($90mm in revolving credit loans and $13mm in term loans), all but $15.3mm has been drawn down. Int. expense has hurt and will continue to hurt the inc. st.

Even if you don't include the restructuring charge from 2005 ($16.5mm), operating loss still widened to $30.6mm from $20.9mm the year before. OCF flow for the year was minus $26.7mm.

Couple of Red Flags:

Accounts Rec. were $17.8mm in 2004 vs. $28.2mm in 2005 (up 58%) while sales were up 4%.

Sale-Leaseback transaction -- This type of transaction involves a co. selling an asset to another party and then leasing that asset from that party. So it enables the seller to get an asset off the b/s and generate some cash up front. For TWTR to make such a move makes sense; they're hardly flush with cash. So TWTR decided to enter into a sales-leaseback transaction with its Rhode Island store with (drumroll) the Chairman of the Board of TWTR! The co. mentions in the footnotes that they had independent valuations of the property. But I still have an uneasy feeling here. Did TWTR do all they could to maximize the value they rec'd for this property?

Store closing arrangement--I think this stinks too. As mentioned earlier, TWTR closed several stores in FY05. So the co. had to get out of leases, restructure leases, etc. And who did TWTR turn to for these RE services? Gordon Brothers. And who runs Gordon Brothers? The Chairman of the Board's brother. Super. Longs can't like that.

It's difficult to come up with a price target for TWTR because all of the earning's based metrics don't apply. My guess, based on strong competition from BBY/CC/WMT and even SHLD, a weakened U.S. consumer, a faltering b/s and a bloated expense structure is the $3 range. I would not be surprised to see shares in that vicinity by the end of 2007.

{Note that I have no current position in TWTR or Best Buy or CC}

Saturday, January 14, 2006

PSPT on a roll

PeopleSupport (PSPT) has been on a tear of late. The analysts all have good things to say (see here, here, here and here) about the Philippines based outsourcer. Plus the co. recently made a smart acquisition of a transcription co. to better utilize their new corporate facility.

{Note that I am long shares of PSPT}

IPO's I'm following

If you have some time on your hands, check out these two S1's from traffic.com and Chipotle Mexican Grill. I wouldn't be surprised if Chipotle, in particular, spikes 20% on day 1.

Two picks from Greenblatt's Magic Formula

As I mentioned before, I'm not willing to chuck all the research that I do to follow Mr. Greenblatt into the promised land. But I'm not willing to dismiss his high ROC/high earnings yield formula, either. Here are two stocks that I find interesting that pop up at magicformulainvesting.com

Holly (HOC) is an independent refiner ($2B market cap). It processes heavy crude and has had very strong spreads in recent years. Basically, the bet here is that spreads will stay wide and HOC might eventually be taken over by a giant like VLO. Here's a presentation if you're interested.

Hewitt Associates (HEW) is a business services co., another midcap ($3B). What intrigues me here is that HEW is the leader in HR BPO, that is Human Resources Business Process Outsourcing. HR BPO is an area that is expected to grow smartly over the next five years. Just think about all of the administrative tasks that your HR dept performs at work. Could someone else perform those tasks better and at lower cost? I think so. HEW grew its HR BPO business significantly through it's acquisition about 1.5 years ago of Exult. Right now, HEW's business is roughly 2/3 HR BPO and 1/3 consulting services. The problem is that the HR BPO unit is growing faster than consulting and carries lower margins (results in lowering of corporate margins). HEW management thinks this will be alleviated as the HR BPO long-term contracts mature. The stock hasn't really done anything for years, but based on HR BPO demand and increasing (hopefully) margins here, HEW is worth a look. I'm looking for sub $25.

Monetary Myopia

The Economist takes el jefe to task.

"The deepest flaw in Mr Greenspan's policy towards asset prices is its asymmetry. If the Fed always cuts interest rates when asset prices tumble, but never raises them when they soar, then investors will be encouraged to take bigger risks. That makes bubbles more likely. The Fed was right to ease when the stockmarket bubble burst, to avoid repeating the Bank of Japan's mistake in the 1990s. But such “mopping up” should be a last resort, not a concerted strategy that cushions the bursting of one bubble by inflating another—since 2002, in housing."

Bull vs. Bear (Faber vs. Gave)

Financial Sense has put up an interesting discussion between Dr. Doom and Louis Vincent Gave on the outlook for 2006 and beyond. As you might expect, their disagreements center on the health of the U.S. economy.

Paul Kasriel puts out his latest

Here is the January Economic Outlook, "Mission Accomplished.

Paul thinks we get to 4.5% FFR on 1/31 and the Bernanke cuts will begin in September.

Sunday, January 08, 2006

3 Commentaries

Stephen Roach tries to put 2005 behind him, Dr. Hussman shares some thoughts on 2006 and Jim Willie is, as usual, mad as hell.