While micro-cap stocks can be an appealing and profitable part of your investment portfolio, their illiquidity can be frustrating.
Some micro-caps are liquid because they have a huge number of shares outstanding. It can be frustrating to watch these companies soar following promotional press releases.
But maintain your discipline.
After experiencing a share spike, these companies will often sell additional shares through a secondary offering, causing the stock price to crash down to earth, and in the process, burning investors who bought on the way up.
Historically, micro-cap stocks have performed incredibly well, but most liquid micro-caps have performed incredibly poorly. See the data below.
As shown above, illiquid micro-caps generated an 18.4% average return from 1972 to 2017, while liquid micro-caps generated an average return of just 5.2%.
Remember this statistic when you are tempted to chase the next popular micro-cap!
This week, we have a couple updates that I want to highlight.
First, we are increasing our buy limit for Medexus Pharma (PDDPF) from Buy under 2.50 to Buy under 3.00. The company reported an excellent quarter and continues to act well. Despite the stock’s appreciation, PDDPF remains dirt cheap.
Second, we are upgrading hopTo Inc (HPTO) to Buy below 0.45 from Hold. We will be closely watching the second-quarter 10-Q for an update on the closing of the backstop agreement (see details below), but below 0.45, the stock looks attractive.
Last week, we published our latest issue and highlighted Greystone Logistics (GLGI) as our latest recommendation. You can read that write-up here. We also recently hosted our monthly webinar, and you can watch a replay here. As a reminder, the next issue of Cabot Micro-Cap Insider will be published on Wednesday, August 12.
If you have any questions that you want me to address, feel free to send me an email at rich@cabotwealth.com.
Changes This Week
Upgrading PDDPF to Buy below 3.00
Upgrading HPTO to Buy below 0.45
Updates
Greystone Logistics (GLGI) is my most recent recommendation. There was no news this week, but I expect GLGI to report quarterly earnings imminently. You can review my investment thesis here. GLGI is up slightly since I profiled it but remains attractive. The company is a micro-cap manufacturer of plastic pallets. It has historically grown revenue at a 34% compound annual growth rate and is on pace to grow EPS 140% this year. Despite such strong growth, the stock trades at a P/E of 7.3x. Management and directors own 44.1% of the stock and are well aligned with shareholders. My price target is 1.58.
HopTo Inc (HPTO) traded down slight this week with no news and as a result, I’m upgrading the stock to Buy under 0.45. HPTO will likely file its second-quarter 10-Q within the week. I will be looking at sales trends as well as an update on the backstop agreement. As a reminder, HPTO had a rights offering in March and as part of the offering, there was a backstop agreement whereby management and a consortium of accredited investors agreed to purchase at $0.30 per share up to $2.4 million of hopTo stock. Essentially, the backstop agreement is a massive insider buy and bodes very well for the outlook of the stock. That transaction was expected to close in April but the 10-Q indicated that it was not expected to close until May. We haven’t received an update on whether the backstop agreement has closed. If it fails to close, it will be a negative signal for the stock. Buy under 0.45.
Liberated Syndication (LSYN), my June recommendation, was down slightly this week. LSYN finally filed its Q1 10-Q. This is a major positive as the delayed 10-Q has been a drag on the stock. Revenue in Q1 was down 0.5%, which was somewhat surprising. However, the decline was driven in large part by a difficult comp for Pair (website hosting business), which reported an incredibly strong Q1 in 2019. A bigger concern for me was that LSYN’s podcast hosting business only grew by 14%. I will be looking for growth acceleration in Q2 (April was LSYN’s second-best month ever for new podcast sign-ups). On the positive side, LSYN continues to spew cash. It generated $1.7 million of free cash flow in the quarter. Also, there continues to be significant strategic interest in the podcasting space. SiriusXM recently announced that it is acquiring Simplecast, a podcast host for an undisclosed price. It also announced that it is acquiring E.W. Scripps’ unprofitable podcast business (Stitcher app and Midroll podcast network) for $325 million, or a 4.5x revenue multiple. Libsyn is very profitable and currently trades at an EV/revenue multiple of 3.2x. LSYN could announce the results of its strategic review at any time, but I expect the announcement after the company has filed its second-quarter 10-Q. Buy under 3.35.
Medexus Pharma (PDDPF) reported excellent fiscal fourth-quarter results recently. As a result of the transformative XINITY acquisition, Medexus generated adjusted EBITDA of $4.2 million in the quarter, or $16.8 million on an annualized basis. Better yet, revenue grew organically 27%. So clearly there is significant growth ahead. One other positive is that Medexus bought back 919,000 shares (~9% of shares outstanding) in the past fiscal year including 139,400 in the most recent quarter. Based on Medexus’ run rate EBITDA of $16.8 million, the stock is currently trading at an EV/EBITDA multiple of 6.1x and an EV/Revenue multiple of 1.0x. It’s even cheaper on forward estimates. Specialty pharma companies trade at an average EV/EBITDA multiple of 16.5x and an EV/Revenue multiple of 3.4x. Given the excellent quarter and dirt-cheap valuation, I’m upgrading my buy limit to 3.00. Buy under 3.00.
P10 Holdings (PIOE) was flat this week on no news. I expect PIOE to report second-quarter earnings by the end of July. In the first quarter, revenue grew 8% y/y due to additional fund raising by RCP Advisors. Cash earnings stayed flat y/y at $0.04, although that was due to costs related to acquiring Five Points and almost acquiring another private equity manager. RCP Advisors noted it has already raised $165 million of additional capital commitments for its private equity funds. It will launch two more funds this year and Five Points will also begin a new fundraise. Excluding one-time costs, PIOE will generate $0.27 in cash earnings in 2020. As such, PIOE is trading at 9.6x 2020 free cash flow. Buy under 2.50.
Riviera Resources (RVRA) was flat on the week with no news. The next catalyst for the stock would be the announcement of a sale of one of RVRA’s assets. This would likely result in another distribution for investors. RVRA continues to be an attractive long-term holding. It has minimal debt and is generating positive free cash flow. Further, it has a valuable asset in its Blue Mountain midstream business. Once the energy market turns (and it always eventually does), Riviera will be well positioned to benefit. Buy Under 2.25
U.S. Neurological Holdings (USNU) was up slightly on the week with no news. USNU operates as a holding company in the United States. It is engaged in providing medical treatment and diagnostic services that include stereotactic radiosurgery centers, utilizing gamma knife technology, and holds interests in radiological treatment facilities. USNU reported Q1 2020 earnings on May 15. The company generated $0.02 of earnings and $399,000 of free cash flow in the first quarter, and as a result net cash on the company’s balance sheet increased to $1.7 million or $0.22 per share. USNU did note that revenue declined 12% in the quarter driven by fewer procedures being performed due to the outbreak of COVID-19. Eventually, I would expect deferred procedures to resume. USNU stays at Hold this week, but if it were to drop below 0.20, I would upgrade it to BUY under 0.20. HOLD
P.S. Registration is now open for the next Cabot Micro-Cap Insider call on Thursday, August 13 at 2:00 PM ET. Click Here to Register
Buy means accumulate shares at or around the current price.
Hold means just that; hold what you have. Don’t buy, or sell, shares.
Sell means the original reasons for buying the stock no longer apply, and I recommend exiting the position.
Sell a Half means it’s time to take partial profits. Sell half (or whatever portion feels right to you) to lock in a gain, and hold on to the rest until another ratings change is issued.
Disclosure: Rich Howe owns shares in GLGI, HPTO, LSYN, PDDPF, PIOE, and RVRA. Rich will only buy shares after he has shared his recommendation with Cabot Micro-Cap Insider members and will follow his rating guidelines.