Saturday, January 31, 2015

Nobility Homes ( Nasdaq - NOBH ) -- Sun Dance

Nobility Homes (NOBH $9.50) is a regional producer of manufactured homes, specializing in the northern Florida market.  The company has been run carefully throughout its 45 year history, allowing it to participate in the industry's boom times while surviving the downturns.  Finances remain solid despite the most recent malaise.  Before the 2007 housing collapse Nobility established a broad-based retail network that leveraged sales volume and profit margins.  At the peak almost 90% of sales were made through the company's own retail network.  Following the crash Nobility scaled back that operation to conserve capital and reduce everyday costs.  Nobility currently has 10 retail centers compared to 21 in its heyday.  Only 40% of sales are going through the retail channel today.  The rest are sold to mobile home parks on a wholesale basis.

Total sales are approximately 50% of what they were before the housing market collapse.  Nobility expected the industry to rebound more quickly than it has.  Florida traditionally has been a volatile market, but one that has followed an upward progression over the long haul.  Activity has remained depressed longer than normal during this cycle.  Explanations vary.  A weak job market combined with strict mortgage requirements were primary factors.  Nobility has a relationship with a subsidiary of Berkshire Hathaway to provide mobile home financing.  So the company was able to help some marginal customers purchase homes.  But Dodd-Frank regulations have kept most banks out of the business, making it difficult for low income earners to buy what otherwise would be an economical place to live.

The market has turned positive during the past year.  Further improvement is likely in 2015.  And a lengthy period of progress is possible through the end of the decade.  The cancellation of extended unemployment benefits drove a large increase in new workers during 2014.  The U.S. unemployment rate declined to 5.5%, as a result.  Most of the new jobs were of the lower income variety.  Still, $30,000 a year is more than nothing.  If your wife makes that, too, now you're in the 600-700 credit score range.  That's a key demographic for mobile homes.  Retirement demand is on the rise, too.  Many 60-75 year olds held off on moving to Florida due to the uncertainty that prevailed during the last several years.  That continues to be a factor.  But the stock market is up.  And time is marching on.  More are making the move.

Manufactured housing continues to be a cost effective option.  Triple wides with 2,000 square feet or more still cost less than $100,000.  Resale values have improved over the years due to regular improvements in quality.  Younger buyers often purchase land and install the homes there.  Older customers gravitate to parks, which are like fraternity houses for retired people.

A large number of competitors have gone out of business.  The rest are mainly private companies.  Most of them are run by managers that, like Nobility, have been involved in the industry for decades.  Nobility's chief executive is more than 70 years old, although he used to be a pole vaulter and a marathoner and remains in remarkably good condition.

The industry is bouncing back.  Nobility's finances are in excellent shape and improving.  The company is in breakfast counter talks with several private companies about consolidating into a much larger operation, using Nobility's publicly traded stock as the investment vehicle.  The most likely outcome is that Nobility will remain independent, drive performance, and sell to Cavco or some other nationwide operator.  If the housing market keeps improving, which seems likely in the lower end of the market where Nobility operates, a decent premium from the current valuation could emerge.  If Nobility actually can persuade its local competitors to join forces and create a regional powerhouse, substantially higher gains are possible.

We don't have a target price.  The stock is trading at book value.  The industry is turning around.  Big operating income gains are possible if the industry just returns to normal.  A corporate maneuver could amplify appreciation.  Plus, if Jeb Bush or Marco Rubio is elected president, the great state of Florida is bound to benefit.


( Click on Table to Enlarge )



Sunday, January 25, 2015

Simulations Plus ( Nasdaq - SLP ) -- Computer Monkey

Simulations Plus (SLP $6.45) is a leading software provider for pharmaceutical development.  Drug companies use the technology to simulate the performance of large numbers of prospective molecules.  That computer testing enables them to identify promising candidates efficiently, eliminating the need to conduct expensive and lengthy laboratory experiments.  Simulations Plus's products are built on mechanistic equations that explain the actual biologic reactions taking place.  That limits the software's scope because much of what occurs in the human body remains a mystery.  The company recently expanded its potential market with an acquisition.  The new operation ("Cognigen") develops statistical models that fit the data obtained during clinical trials, even if the correlation can't be explained scientifically.  The two segments currently operate independently.  But cross selling opportunities already are starting to emerge.  Penetration of existing accounts is likely to expand.  The broader product line promises to attract new customers more easily, as well.

Approximately 10% of sales is generated by non-pharmaceutical customers.  Most are chemical manufacturers.  Those customers employ simulation software to identify potential environmental risks and other toxicity problems.  The U.S. Environmental Protection Agency licenses the technology, as well.  The fact the regulators use the systems to assess risk endorses the products' quality.  It also encourages private sector users to buy their own copies so everyone is speaking the same language.

The U.S. Food and Drug Administration has become a significant user, too.  Government sales tend to be at discounted prices.  So the direct revenue contribution is insignificant.  The FDA's experience with the technology has expanded over the past several years, though.  Confidence in the results has grown to the point that new drug submissions are encouraged to include simulation data.  Simulation Plus's products are used by the drug companies in pre-clinical applications.  They also are applied in the entire clinical trial process, from Stage One to Stage Three.  Interaction with the F.D.A. occurs during the entire development process.  Simulation still represents only a small part of the entire new drug application.  The part the company can scientifically explain remains an important but incomplete element of the entire process.  The remainder of the approval process remains statistics based.  "What are the odds it will work?"  That's where the new Cognigen operation fits in.

Cognigen was acquired at the end of fiscal 2014 (August).  Results were consolidated for the entire first quarter (November).  Q1 performance was impacted by the transition.  Cognigen's main shareholder became president of Simulations Plus, which cut into the amount of time he had to sell the service.  New sales people were added to take up the slack.  But those deals won't contribute until later in the year.  The combination holds excellent potential, though.  Competition for new drug approvals is intensifying, fueled by a booming IPO market.  Funds are available to improve the likelihood of success.  Spending on simulation software and statistical modelling promises to keep rising at above average rates, accordingly.

International sales are advancing even more rapidly.  That's hard to explain intuitively.  American drug developers have more money to spend.  And the F.D.A. has endorsed the technology.  The biggest gains are being achieved in Asia.  Part of that reflects the superior growth that region is registering.  Asian drug companies also are protected by self-serving national regulations that tend to block foreign competition.  Asia also is the one area of the world where Simulations Plus employs third party distribution channels to sell its products.  Foreign sales are likely to keep rising at a superior rate as sales efforts move closer to end users.

First quarter (November) financial results were mixed.  The software business performed well.  The Cognigen operation generated lower than expected revenue, and low profitability.  We are confident the Cognigen segment will improve performance in upcoming periods.  Even without the industry tailwind there's little question the people involved would make the numbers improve.  Software sales promise to continue advancing at an above average clip.  A new biologics element could expand the addressable market by 25% or more.  A significant percentage of new drug development is biotechnology oriented.  The new product aims at that segment.  A separate niche product ("Membrane Plus") is being released, as well.  Renewal rates remain in the 95% range.  Pricing is on a recurring revenue basis.  Simulations Plus was a pioneer in the SAAS pricing model.  With volume up it now earns 40%-50% pretax on software sales (15%-20% on statistical modelling).

We estimate income will achieve $.25 a share in fiscal 2015 (August).  In 2-3 years that figure could reach $.35 a share.  Applying a P/E multiple of 30x suggests a target price of $10 a share, potential appreciation of 55% from the current quote.  Faster gains are possible.



( Click on Table to Enlarge )




Tuesday, January 20, 2015

Deep Down (Nasdaq - DPDW) -- Engineers Success

Deep Down (DPDW $0.75) is a leading provider of engineering services for the offshore drilling industry.  The company has expertise in several niches, enabling it to land key sub-contracting work.  Deep Down currently is supporting 90-95 offshore projects.  Customers include private energy corporations, sovereign oil companies, and larger service providers that hire Deep Down for specific tasks.  The company also designs and manufactures unique products tailored for individual projects.  Deep Down recently has been able to re-use some of those designs, accelerating turnaround time and profitability.  Backlog stands at $30-$35 million.  It was $33 million at the end of September.  December quarter results have not been published yet.  Despite the fall-off in crude oil prices no orders have been cancelled or deferred to date.  Offshore oil development customarily takes 2-3 years to complete.  Production lasts 20-30 years.  Unlike onshore fracking operations, output can't be shut in temporarily without impacting long term flow rates.

Deep Down was poised to participate in the offshore bonanza in 2010.  Sales were booming.  Orders were accelerating.  The outlook was bright because huge offshore reserves had been discovered both in the Gulf of Mexico and internationally.  The British Petroleum spill brought development to a screeching halt.  Deep Down's sales slipped by a third over the next three years.  The company controlled costs and remained marginally profitable.  But it was challenging to keep its labor force busy and overhead paid for.  The offshore industry spent those years improving processes and technology.  Legal liability was established.  New drilling opportunities were identified with software analysis.  Break even prices declined to $50-$60 a barrel.  Projects came back to life in 2013-2014 as crude oil prices traded in the $90-$110 a barrel range.

Deep Dive rarely had a backlog in the past.  It performed business as it came through the door and was happy to get it.  Project activity surged in 2014, though.  That lifted backlog to $33 million at the end of the September quarter, essentially securing a full year's activity.  Additional orders were obtained in the December period despite the decline in crude prices.  Deep Down also is bidding on $300-$350 million in additional orders.  Those contracts won't be issued until the customers need the work done.  And there's no guessing what percentage the company might win.  The orders span two years, perhaps a little more given the current environment.  It appears the sunk costs on these projects already are high.  So the break even on moving forward at this stage could be $25 a barrel or less.  Considering the longevity of the reserves, most if not all are likely to go to completion.  Deep Down is well positioned to thrive over the next two years no matter what OPEC does.

The risk in the stock is that oil prices remain low 2-3 years from now.  In that case new offshore projects probably won't be pursued.  Deep Down might thrive for a few years.  But if new orders aren't forthcoming the company would be sure to struggle.

We don't know the answer to that.  The way we see it, the world has 7 billion people today.  About 5 billion are poor.  They all aspire to an American lifestyle.  That will create tremendous environmental pressure.  But gasoline is by far the best transportation fuel on earth.  Electricity, heating, desalination, and other requirements may be satisfied with cleaner solutions.  But we think oil is here to stay.  As cheap reserves are depleted new ones will have to be developed.  Offshore is a great opportunity.  Deep Down could be a big winner over the next decade, perhaps longer.




Saturday, November 8, 2014

LRAD ( Nasdaq - LRAD ) -- Sounds Great

LRAD (LRAD $2.75) is a leading manufacturer of long range accoustic devices used in military and public safety applications.  The company's high tech bullhorns deliver focused beams of sound over distances up to three miles.  That allows military and public safety personnel to provide specific messages instead of warning blasts or garbled instructions.  The genesis of the technology was the near sinking of the USS Cole, a Navy vessel that Arab terrorists damaged in 1997.  LRAD was recruited by the Pentagon to develop a system that could talk over all the noise ships make on the water.  The terrorists attacking the USS Cole were able to plausibly pretend they didn't understand the Navy's order to stop.  With LRAD's technology, that excuse no longer works.  Sound is focused in a narrow beam.  Machines can be made larger or smaller, depending how much range is desired.  Operation is simple.  Turn it on - point - adjust the volume - start talking.  The components are solid state.  Reliability is high.

Military business drove sales in the company's early years.  The U.S. Navy was an especially big customer.  The Coast Guard and Army adopted the technology, as well.  Civilian demand expanded as time went on.  Police departments and other public safety groups used the systems to deliver verbal messages.  But a new application also emerged -- pure noise.  Police began using the systems for crowd control.  In the 1950s they used water hoses.  In the 1960s it was tear gas.  In the 1980s rubber bullets became popular.  LRAD's technology offered a less dangerous and more reliable solution.  Ear splitting noise makes crowds disperse, without injuries.  Demonstrations in Ferguson, Missouri were broken up with the company's systems.  They weren't used in Hong Kong.  But the local police had them ready.

Applications are proliferating.  Commercial customers employ the systems to guard facility perimeters.  Those often are integrated with motion detectors.  Portable machines can be loaded on helicopters so authorities can instruct people where to go during floods, fires, and other calamities.  A new line, the "sound barrier," is built into limousines used by diplomats in foreign countries.  When locals surround the car and beat on the windows, a blast of sound sends them running.  There are no casualties on either side.

Foreign sales have propelled growth since the Republicans gained control of the House of Representatives in 2010.  Congress has been unable to pass a budget since that time.  Funding has been sustained exclusively under continuing resolutions.  LRAD has been able to sell systems under previously established programs.  But no additional programs have been possible without new budget authority.  Foreign navies, coast guards, and police have adopted the technology, though.  And that trend remains in an early stage of development.  The recent Republican capture of the Senate means a budget could be passed in 2015.  Several programs are in development.  Continuing resolutions meant continuing R&D.  Those include outfitting drones with LRAD systems, among a variety of other things.  Orders promise to accelerate next year if the military budget expands, the LRAD systems are included, and President Obama doesn't veto everything.

The mass notification market promises even greater long term potential.  Approximately $6 billion per year is spent around the world on public loudspeaker systems.  Authorities rely on them to warn citizens of impending danger, like an air raid.  More commonly, they're used for tornadoes, fires, or, in the Middle East, to announce it's time to pray.  The installed base generally is old and in need of repair.  An upgrade cycle is underway.  LRAD's new "360" systems offer superior sound quality, lower costs, and greater versatility.  That line employs multiple speakers to direct sound in all directions.  New markets are opening up, including universities.  Schools need a way to respond when gunmen strike.  LRAD's units provide a means for telling people what to do, rather than just send out a general warning.

LRAD is down to the wire on two particularly large "360" deals in the Middle East.  Landing one almost would certainly fuel a major sales gain in fiscal 2015 (Sept.)  It also would provide a helpful reference account, setting the stage for additional contracts.  The company expects to find out before the end of the calendar year on both proposals.  Each is in the $8-$12 million range.  U.S. military business promises to bolster performance in the year ahead, as well.  And international growth is likely to remain robust.  Competition exists.  But no other company offers comparable sound quality.

We estimate income will advance 75% in fiscal 2015 (Sept.) to $.14 a share.  Sales could advance 40% to $35 million.  Explosive gains could follow in succeeding years.  Three activist shareholders sit on LRAD's five member board.  Once the company breaks into the mass notification market a sale of the company to one of the current industry leaders is possible.  Assuming the company remains independent sales could reach $75-$100 million in 2-3 years to provide (fully taxed) earnings of $.25-$.45 a share.  Tax loss carryforwards shelter income, so cash flow would be greater.  Applying a P/E multiple of 20x to the midpoint suggests a target price of $7.00 a share, potential appreciation of 155% from the current quote.


( Click on Table to Enlarge )






Thursday, November 6, 2014

Xplore Technologies ( Nasdaq - XPLR ) -- Ready to Rumble

Xplore Technologies (XPLR $5.50) is a leading manufacturer of  tablet computers for business and military applications.  Its rugged systems withstand heat, vibration, water, and jarring drops better than consumer tablets.  They also have superior displays and a variety of special purpose inputs and processors to accommodate customer specific add-ons.  Xplore concentrated on the high end of the market until recently, selling the extremely rugged (Windows based) XC6 at prices ranging from $5,000 to $6,500 apiece.  Those machines remain in strong demand for environmentally challenging applications, particularly in the military area.  The company recently introduced two lower priced systems for the business market.  Many users are converting from notebook computers to tablets for ease of use and maintenance savings.  Consumer tablets, like Apple's iPad, have proven to be easier to carry and use than notebooks.  But they've tended to break easily, too, creating expensive downtime and repair bills.  Many large companies now are transitioning to more rugged tablets, like the ones made by Xplore, to reduce the cost of ownership while preserving the tablet's operational advantages.




A low-cost Android version ("Ranger") was released last year.  A major U.S. telecommunications provider placed a huge order for one of its divisions.  Pricing is approximately 33% of the high end XC6.  Google doesn't charge license fees for the Android operating system.  The physical characteristics of the machine are less robust than the XC6, as well.  For instance, the Ranger can survive 30 seconds under water; the CX6, 2 minutes.  The Ranger can keep working after a 5 foot fall onto concrete; the CX6 can handle a 10 foot drop.  For the field service applications the telecom had in mind, the Ranger was ample.

Last spring Xplore launched a low cost Windows unit ("Bobcat").  That system costs more than the Ranger, because Windows licensing fees are required.  But demand appears to be much greater.  Most corporations run their computer systems on Windows.  It's less expensive overall to pay a little more for the machines rather than rewrite large computer programs to operate on Android.  A dozen or more major prospects have been conducting Bobcat field trials.  Substantial orders now are rolling in.




September quarter results probably will be unexceptional.  Bobcat shipments will be low because most customers still were in the testing phase during the period.  Some of those units were provided as demos, moreover, and weren't recognized as sales.  The big Android telecom buyer also scaled back purchases temporarily.  It had to rewrite some software, delaying the full rollout.  That project now is complete.  The rest of the order will start shipping in the December quarter.  Sales to additional divisions appears likely next year.  Bobcat sales are mounting in the December period, as well.  And military orders for the CX6 remain vibrant.  That machine already is specified by several high profile programs, which are ramping up again as hostilities flare in the Middle East.  Xplore's lower cost Bobcat might do the trick but that would require extensive testing, which would delay production.




We estimate sales could approach $15 million in the third (December) quarter.  A similar level appears realistic for the March period.  For the entire year sales could attain $45 million (+26%) to provide (fully taxed) earnings of $.25 a share.  Next year all three lines promise to expand.  The Bobcat and Ranger offer the greatest potential.  Sales could advance 45% to $65 million.  Income could rise faster, as margins expand, to $.60 a share (+140%).  

Xplore faces two direct competitors -- Panasonic and a Taiwan computer manufacturer.  Neither participates in the Android segment.  And while both do well in the Windows area, they sell standard systems at elevated prices.  Xplore offers more customized solutions, which appeal to customers with unique applications.  The industrial tablet market is approximately $500 million in the United States.  Market research forecasts see it expanding to $1-$2 billion over the next 3-5 years, if not sooner.  Xplore doesn't do business overseas for now.  Export opportunities could emerge down the road.


( Click on Table to Enlarge )