PSB Monthly Issue April 2011
April 2011
TO ZOOM HIGHER!
America’s love affair with video games is stronger than ever. If you don’t play video games, chances are you have a friend or a child that does.
According to recent industry data, 67% of American households play video games in some way, shape, or form.
And if you didn’t know it, games aren’t just for kids these days…
The average age of people playing video games is amazingly, 34 years old. And the infatuation is spreading. In 2010, over 26% of Americans over the age of 50 played video games. Up 200% from 1999!
So it should come as no surprise… strong demand for video games is driving rapid growth for the industry.
Global market research firm, the NPD Group, recently reported computer and video games sales soared in 2010 to $24 billion. That’s an impressive 22% increase over the prior year’s sales.
For years, gamers have been playing on their PCs and video game consoles like XBOX, PlayStation, and Nintendo. But a big shift is now changing the industry in a major way.
Today, you’ll find more people than ever playing games on their phones or on social media websites like acebook.
Digital and web-based game content is growing as fast as users can handle it…
Take a look at the power of Facebook. With over 600 million active users, Facebook is sweeping the globe. The company’s still privately held, but Goldman Sachs recently valued the upstart social media firm at a cool $60 billion.
And for good reason…
You see, half of all active users log on to Facebook in any given day. What’s even more amazing is people spend over 700 billion minutes per month on Facebook! And much of this time is spent playing video games.
Clearly, Facebook is a simple and easy way to market video games to nearly a billion people worldwide.
As you can see, video gaming is a hot industry with lots of change and innovation on the horizon. And I’ve found one small company poised to cash in on this trend.
Introducing Zoo Entertainment Inc. (NASDAQ: ZOOG).
Name: Zoo Entertainment Ticker Symbol: ZOOG Market Cap: $26.6 million Recent Price: $4.17 PSB Rating System 4.9 Stars Raging Revenue: (4.9 stars) 2010 revenues are expected to have jumped by 42% to $69 million. And the outlook for 2011 a 60% surge to nearly $105 million. Beautiful Books: (4.9 stars) Earnings are expected to skyrocket 66% in 2011. And better than expected demand could drive that estimate even higher. The balance sheet is solid with $1.2 million in cash. Stellar Structure: (4.9 stars) Insider ownership is very strong at 42% of shares outstanding. Insiders are clearly confident in the company’s future. Institutional ownership is solid at 26%. Valuation Verification: (4.9 stars) Despite a robust growth outlook, the stock is dramatically undervalued. Based on our valuation analysis, we think the stock is worth at least $10.90 a share. That’s upside potential of 287% or more. Meaningful Milestones: (4.8 stars) The company recently reported their 2011 lineup of games will exceed 70 new releases! The company is also diversifying their exposure and getting into the high margin digital gaming space. |
THE VIDEO GAME BUSINESS
Zoo Entertainment is a relatively new player in the video game industry. They opened up shop in 2005 but just started trading publicly in 2010. They make video games for Nintendo, Xbox, PlayStation, PC, Mac, and social media sites such as Facebook…
ZOOG’s games are easy to buy.
You can find them at big box stores like Wal-Mart and Best Buy, as well as the smaller video game stores you see in the mall. More importantly, the company’s expanding to digital download and social media game delivery. More on this in a moment…
ZOOG’s games are different from the big role playing games like Halo or Call of Duty. These games take literally hundreds of hours to play. But ZOOG’s games are low priced and are quick easy plays.
You could easily play one while waiting in line at the Motor Vehicles office on your phone for ten minutes. Then come back to it later when you have free time to kill…
In fact, most of their games are quick playing with a fast learning curve. Maybe you’ve heard of some of them? Titles include “Minute to Win It”, “Deal or No Deal”, “Boot Camp Academy” for Wii Fitness, and “Mayhem 3D”.
Although ZOOG develops software for multiple platforms, the company’s focus has been on one primary platform, the highly popular Nintendo Wii and Nintendo DS.
This is a standard industry practice. You see, every company has to start developing for one system first. Once demand for their titles increase, a game maker will often choose to expand into other formats, just as ZOOG is doing now.
And that’s a good thing…
Think about it, more platforms mean exponentially more potential customers. And if one gaming system falls out of favor, ZOOG will still have revenue from other gaming platforms.
In fact, ZOOG’s making a platform addition now that will revolutionize the company.
Plans are in motion to transfer a major percentage of their gaming titles into the digital space. In 2011, Zoo’s mobile device products (games for mobile phones and smartphones) will increase by 27%. Additionally, over 44% of their games will be offered on social media sites like Facebook.
Digital downloads are a much higher margin way to deliver product. There is no production, shipping, delivery, distribution, or inventory expenses…
In other words, digital downloads are almost pure profit!
As of right now, ZOOG has over 100 total games released with more than 50 of them out in 2010. The company expects to grow that number to 71 releases in 2011.
While ZOOG’s growth in 2010 was off the chart, it’s their growth potential for 2011 that makes them so exciting. Let’s take a closer look at the numbers now…
THE NUMBERS
Final numbers for 2010 aren’t in yet, but the company’s expecting record revenue between $67 million and $69 million. That’s a 38% to 42% increase over 2009’s results. Robust growth by any measure.
What’s more impressive is ZOOG was able to grow despite the Nintendo market declining 10% in 2010. Cheaper game titles spurred the big jump in sales. And more importantly, ZOOG was able to capture more market share. This sets the company up to grow sales even more rapidly going forward.
While revenue is vital for any company, it’s the bottom line that counts…
And ZOOG is doing a great job sending income to the bottom line. For 2010, earnings are expected to jump to $0.53 per share. That would be a 150% increase over 2009 earnings.
The outlook for 2011 is even better…
2011 revenue is estimated to come in between $105 and $112 million. Depending on where 2010 final revenue numbers come in, we’re looking at potential year over year growth of 50% to 70%.
And 2011 earnings are expected to surge as well. Analysts are forecasting earnings of $0.88 per share. That’s a stunning potential increase of 66%.
Remember, the company is moving into the higher margin digital space. Simply put, a higher margin equals a fatter bottom line. Rising margins will help accelerate earnings growth going forward.
ZOOG also has a strong balance sheet.
They’re sitting on over $1.2 million in cash and virtually no long term debt. As a caveat, Zoo has set up a $10 million purchase order agreement with Wells Fargo which doesn’t show up in Zoo’s long-term debt.
INVESTMENT RISKS
As with any investment, Zoo Entertainment has its risks.
There is always a chance certain games and gaming platforms could become obsolete. ZOOG will need to stay ahead of any changes to prevent obsolescence of their product line.
ZOOG may also see an increase in production and distribution costs. Any manufacturer can come across unforeseen costs that may reduce profit margins.
Zoo is also subject to increased debt payments if interest rates rise.
POTENTIAL RETURN OF 287%
ZOOG is significantly mis-valued by the market.
Currently, ZOOG is trading at only 4.3x projected earnings. No matter what comparison you use, a 4.3 P/E ratio is extremely low for a company expected to grow earnings 25% a year. But it’s shockingly low compared to the Software and Programming industry P/E of over 35x.
If ZOOG merely trades up to the industry average P/E, we could see a gain of 775%!
Another method of valuing a company is price to sales. It’s a good one to use when a company has a large amount of intellectual property.
ZOOG is currently trading at 0.33x sales. The entire Software and Programming industry has a price/sales ratio of 1.28. If ZOOG was simply to trade in line with their peers, we could see returns of 287% or more!
Based on our analysis, we see the stock trading up to at least $10.90. Buy ZOOG now for gains of 287%!
ACTION RECOMMENDATION
BUY Zoo Entertainment (NASDAQ: ZOOG) up to $4.65 per share.
Recent price is $4.17.
Use a stop-loss of $3.45 on this position.
Don’t forget your position sizing and stop-loss rules.
Sometimes I get the pleasure of researching boring companies. It comes with the job. But then there’s spectacularly depressing research which uses all my spare energy. Near the top of the list has to be a company which runs funeral homes and cemeteries.
But a company doesn’t need to be the next Yahoo! or Google to offer us a superior return. And we’ve found a national level company in death care space with amazing return potential…
Death and taxes are one of the few guarantees in life.
A cliché, to be sure, but true none the less… Death is a certainty we must all face. And most of us will have a funeral or other service to commemorate our passing. And then we have a burial or cremation to finalize our time here on Earth. All of which cost money…
Somebody has to provide these services… So why not make money from it. It’s the capitalist way, right?
This month we’ve found a serious value play in the funeral home and cemetery business. And morbidly enough, I’m excited about death here!
THE FUNERAL HOME AND CEMETERY BUSINESS
While it’s not a cheerful topic, a company operating in the “death care” industry has one thing going for it no other business model could boast… A guaranteed customer base!
Let me explain the different ways in which these companies make their money…
Funeral homes are a service business providing traditional burials and cremations. If a loved one dies, you go to the funeral home and purchase a service agreement. In the agreement, you’ll arrange all of the details of the service such as flowers, music, etc… In addition, a funeral home will generate revenue by selling related merchandise such as caskets and urns.
Now cemeteries operate similar to funeral homes, but are completely separate entities. A cemetery will make its revenue primarily from sales of interment rights, which consist of grave sites and mausoleum spaces. In addition, there are charges for grave markers (head stones) and the opening and closing of grave sites.
How and when you purchase the services can make a big difference in the costs.
You can make these purchases either at the time of death or pre-pay in advance. If you make the purchase at the time of death, it’s known as “at-need”. If you planned all the details in advance, you’d have a “pre-need” contract.
Since the average funeral and burial cost nearly $9,000 in 2010, most advanced or pre-need contracts are financed in a trust. And funeral homes and cemeteries can make a good income as these services are paid for.
Actually, pre-need contracts can be a big win for consumers too…
If you plan ahead, you can make unemotional decisions regarding the services and merchandise. If you wanted to limit your expenses, pre-planning is the way to go. You can even choose an “inflation proof” contract which will allow you to buy your contract at today’s cost.
Every detail of your funeral plans can be arranged from the type of casket down to the flowers, the music, and even how long the open bar will be at your service!
And your survivors won’t make rash emotional decisions about the expenses at your time of death…
Now, the type of contracts and services offered and investment income are just the basics in the death care business. There are many external variables which affect profitability for national level death care companies.
For instance, burial services generate much higher “revenue per contract” than cremation.
So it would be in the best interest of a multi-site company to acquire facilities where burials are more common than cremations. Again, this is stuff you normally wouldn’t pay attention to unless you are in the business.
An even more important consideration for national companies is finding ideal conditions in which to acquire and operate facilities…
The main focus for these companies is geographic location. Factors such as demographic trends, population growth, and average age all impact death rates. And certain areas of the country, or a state, will see higher death rates than others. Just think of retirement focused states such as Florida to get a better picture…
Here’s the bottom line, a funeral home, which has the right mix of demographics and geography, will have a higher death rate and be better able to grow their revenue. And we’ve found a star player in the death services business that’s dramatically mispriced by the market…
Introducing Carriage Services, Inc. (NYSE: CSV).
Name: Carriage Services Ticker Symbol: CSV Market Cap: $98 million Recent Price: $5.47 PSB Rating System 4.7 Stars Raging Revenue: (4.6 stars) Revenue is up 4% from 2009 and is expected to increase to 5% in 2011 to over $197 million. It’s quite impressive for a company in a stable services industry. Beautiful Books: (4.6 stars) Earnings are expected to pop 17.7% in 2011. And better results are expected in 2012 at over $0.61 per share! The balance sheet is strong with annual free cash flow of $18.6 million in 2010. Stellar Structure: (4.8 stars) Insider ownership is just under 15% of shares outstanding. Insiders are clearly confident about the company’s future. Institutional ownership is very strong at over 47%. The big buyers know a deal when they see one. Valuation Verification: (4.9 stars) Despite a strong earnings outlook, the stock is dramatically under-valued. Based on our valuation analysis, we think the stock is worth at least $9.40 a share. That’s upside potential of 176% or more. Meaningful Milestones: (4.8 stars) CSV has successfully executed a string of acquisitions that has spanned four years. In addition, the company continues to make purchases in 2011. |
Founded in 1991, Carriage Services is a leading provider of death care services in the United States. Carriage operates 147 funeral homes in 25 states and 33 cemeteries in 12 states. CSV is based in Houston, TX and has over 2,000 employees nationwide.
CSV leverages a massive advantage over your mom & pop funeral home. You see,Carriage can search out the best demographic locations that may produce the highest death rates! A standalone location is stuck with the demographics of their home town, good or bad.
But there’s more. Carriage holds another clear edge over the competition…
CSV can leverage their size by using their free cash flow to acquire more funeral homes and cemeteries. In 2010, they were able to make $19 million in acquisitions and only add $600,000 in debt to their books!
Carriage is ensured a large amount of free cash flow coming from regularly occurring funerals and burials. The company can earn even more income when investments are made using cash inside the trust funds.
Remember, those pre-need contracts are all protected inside trust funds held with the funeral home or cemetery. Another way in which CSV earns income is through the life insurance policies they sell.
Funeral homes and cemeteries sell life insurance policies specifically to fund the services. So when CSV sells these policies, the facility earns a commission from the carrier. In effect, the company acts as an insurance agent.
Now, any leading death care company looks at two primary variables of their business for profitability…
Volume and pricing.
Since CSV is a service-based company, these two variables affect funeral revenues the most. You see, the more deaths and burials Carriage can process, the more they make. And if they can sell upgraded packages and increase the average price per service, they’ll be able to improve same store sales.
Remember, burials are more profitable than cremation services. Carriage knows this fact and must balance the type of service with the demographics of a region when making acquisitions.
You see, CSV management knows buying funeral homes in baby boomer rich areas will lead to higher volume. But buying in areas where burials are more common is also important.
I want to point out one more fact to you if I may…
In the death industry, the only way to grow significantly is to acquire more facilities. And it’s how Carriage has been able to steadily grow their revenues. CSV has shown aggressive growth by purchasing nine funeral homes and one cemetery in 2010.
The bottom line, Carriage has grown funeral operating revenues by 3.7% last year alone primarily through these acquisitions.
As a large death care company, CSV does a suburb job controlling expenses. Their variable, regional, and corporate overhead has remained near 11% of revenue for the past five years.
Now that you know who CSV is, let’s take a look at the health of their books…
THE NUMBERS
CSV has done an impressive job adding to their top line through acquisition. Funeral homes make up 75% of Carriage’s business. And they’ve continued to add funeral homes to drive funeral revenues higher.
And their smart acquisitions have grown total revenue by 4.1% from $177.6 million in 2009, to $184.9 million in 2010. In addition, CSV projects 2011 revenue will surge to just under $200 million!
Now, all the funeral home acquisitions by CSV have certainly added to their revenue. But it’s also added expenses to their balance sheet. Let’s take a look at their bottom line to see how management is really doing…
Even though Carriage has added expenses by acquiring funeral homes in 2010, they’ve also done a great job of growing the bottom line! 2010 earnings were a record $0.45 per share. And that’s up 12.5% from 2009 earnings of $0.40 per share. With revenue growing only 4.1%, a 12.5% earnings growth is amazing margin expansion!
But even more exciting is what’s coming down in the future…
Analysts have estimated that 2011 earnings will come in around $0.53 per share and a whopping $0.61 per share for 2012! That’s close to 40% earnings growth over the next two years.
Now, a cursory look at CSV’s balance sheet would reveal low cash to debt levels. But if we dig a bit deeper, we find that Carriage had record cash flow in 2010 of $18.6 million and made $19 million worth of acquisitions. They did it using all cash and only adding $600,000 of debt to the books! The company was able to do this as they don’t have debt maturing until 2015.
CSV’s stellar earnings growth and amazing cash flow are just a part of what has me excited about this company. We have an excellent opportunity to buy CSV at a steep discount. And I’ll tell you how we can earn massive profits in just a second…
First, let’s cover the risks.
INVESTMENT RISKS
Every investment carries risks. CSV is no different.
CSV makes the largest margin from traditional funeral burials. CSV has identified a growing trend toward the less profitable cremation service. Cremation services have risen from 35.7% in 2007 to 44.1% in 2010. If this trend was to continue, earnings at Carriage Services could be hampered.
Pre-need contracts are important to funeral homes. And CSV is no exception. CSV makes a good return on their trust funds. And a reduction in advanced planning could reduce income, thereby hampering earnings.
CSV may see earnings impacted by an increase in interest rates. If interest rates rise, the company will need to pay more to service their debt.
POTENTIAL RETURN OF 173% OR MORE
CSV is currently trading at a steep discount and it’s time we profit from the market’s mistake…
At current price levels, CSV is trading at only 9x projected earnings. The entire personal services industry currently has a P/E of 24.6. If CSV was simply to trade in line with their peers, the shares would jump 173%.
And there’s potential for this stock to shoot even higher!
What’s even better is CSV has a price to book ratio of 0.84. With a P/B ratio under 1, Carriage poses little risk of substantial devaluation. And just as a note, the service industry P/B is significantly higher at 4.3. If we were to value the stock equal to half of the industry, at 2.17x book value, CSV would rise over 158%!
CSV has made a number of smart acquisitions to grow into a powerful player in the death care industry. Management is ensuring optimal growth and performance by making sure each facility acquired is maximizing their potential.
While death care is a depressing topic, investing in strong, undervalued companies offer me plenty to get excited over…
We’ve identified a company with superior return potential in the death care business. Don’t let this opportunity slip away.
Based on our analysis, we see the stock trading up to at least $9.40. Buy CSV now for potential gains of 176% or more!
ACTION RECOMMENDATION
BUY Carriage Services (NYSE: CSV) up to $6.10 per share.
Recent price is $5.47.
Use a stop-loss of $4.60 on this position.
Don’t forget your position sizing and stop-loss rules.
- We’re going to exit three positions. The charts for all three stocks aren’t looking so great. So, we think it’s time to books some profits and conserve capital. SellLJ International (JADE) for gains of 45% or more. Sell L&L Energy (LLEN) for gains of 11% or more. Sell ZST Digital Networks (ZSTN).
- Summer Infant (SUMR) has moved above our buy up to price. We’re moving SUMR to a hold. Hang on to your shares for bigger gains ahead.
Category: PSB Monthly Issues
