TPS Trade Alert – May 29, 2015

Recommendation:

Buy Pendrell (NASD: PCO) up to $1.15 per share.

 

Trade Rationale:

Often times, when investing in micro cap stocks, you have to dig a bit deeper to find value in a company.  Superficial numbers may not tell the whole story.

For instance, a company may report a significant reduction in revenues.  But what’s the reason?  Is it seasonal?  Did management make a strategic shift to the company’s business model?  Or did the company lose a major customer?

Obviously, in the last case, that’s bad news.  However, the first couple scenarios are not necessarily bad.  Regarding management changes, it may even be a good thing.

Here’s the thing…

Sometimes a company has to take a step back in order to move forward.  It’s certainly true for small companies.  But, it’s even true sometimes for mega-cap companies.   Industries change.  Technology changes.  Customer tastes change.

Management either has to roll with the changes or get left behind.

What’s more, when researching a company going through significant changes, you have to know what numbers to focus on and what to ignore.

Seeing lower revenues for a company in transition is a pretty normal situation.  Meanwhile, a huge accumulation of debt, on the other hand, can be a bad sign.

Conversely, a company with a ton of cash on hand has plenty of flexibility when it comes to making big picture changes.

One company in transition that I’m fond of is Pendrell (NASD: PCO).

PCO acquires, invests in, and develops businesses with unique technologies.  The company focuses on procuring technologies protected by intellectual property (IP) rights.  Currently, PCO is focusing on four main IP channels:  digital media, digital cinema, wireless technology, and memory and storage technologies.

Here’s the deal…

Initially, Pendrell was focused on buying technology and licensing it out to other companies.  They planned on enforcing their patents, when necessary, through the legal system.

However, recent law and regulation changes have made this business model impossible to sustain.  It’s now much harder to enforce patent rights through the courts.

So, PCO management decided a change was needed.

Once the company realized there was no way to thrive under the old strategy, management decided to make key strategic changes.  Now, PCO is focused on developing its IP and selling its own products.

For instance, the company’s Yovo photo messaging app is a competitor to the ultra-popular Snapchat.  Not only do the photos vanish after 24 hours (or less), but they can’t be taken as screenshots either.

Another product in PCO’s ContentGuard portfolio of products allows for private email and document sharing at work.  The user can set a specific time after which the document expires.

That’s just a sample of what Pendrell is working on.  They have several other businesses in the process of developing new technology, including a robust memory and storage division and a global IP solutions advisory business.

Here’s the problem…

The shift in strategic focus has temporary resulted in much lower revenues, and subsequently hurt the stock price.  It almost goes without saying that the company is losing money as well.

However, revenues and profits will undoubtedly get a boost once the business model has been fully transitioned.  In the meantime, the company has $165 million in cash and no debt.

Clearly, with so much cash (and no debt), PCO has strong staying power.  Moreover, management has plenty of flexibility on how to proceed with current products and further acquisitions.

Finally, the current cash balance amounts to $0.63 per share.  That works out to roughly 60% of the total stock value and barely places any value on the company’s massive IP portfolio.  In other words, the company’s IP and products are extremely undervalued.

Let’s buy PCO here while the shares are trading at bargain basement levels.

Remember to use limit orders when placing your trades.  And stick to your position sizing rules.

 

Key Facts:

Company:                                  Pendrell

Ticker:                                       PCO

Recent Price:                              $1.02

Buy up to Price:                          $1.15

Market Cap:                               $272 million

Avg. Daily Volume (3 month):       263,794 shares

 

Chart:

Category: TPS Trade Alert