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The Danger Zone Pick: 12/17/12

Monday, December 17th, 2012

Check out my latest Danger Zone interview with Chuck Jaffe of MarketWatch.com.

Tivo (TIVO) is in the Danger Zone this week.

Most investors do not recognize the value/liability of all the options that companies give employees. These options dilute the value of existing investors’ stock.

In TIVO’s case, the current liability related to all the options the company has granted is over $89mm or 6% of the current market value of the company. And if you do not think that employees will exercise those options, all you have to do is read the footnotes and see how much employees are cashing in.

For a company that is hurting for earnings, options are a great compensation tool b/c they require no cash. However, that just delays the cash cost to current shareholders until employees cash in on their share.

Two key follow-up points:

1. As the stock price goes up so do the value of the options and so goes the value of the liability. So, exiting shareholders own less and less of the company. In other words, existing shareholders realize a decreasing amount of the value of future stock price increases.

2. Now lets talk about what kind of future cash flow expectations the current stock valuation ($12.70) reflects: 20% CAGR in revenue for 12 years while also improving ROIC from -22% to +26%. That is what I call a dramatic turnaround. Consensus analysts estimates do not project the company generating positive earnings before 2014.

Now let’s turn to all the potential litigation settlements and measure their impact on the valuation of the stock.

Here’s a few scenarios for litigation settlements and their financial implications:

$2.4bn settlement makes the stock worth $18/share. That is probably the BEST CASE SCENARIO and it does not reflect the increase in value of the ESO liability that results from the increase in the stock price. Nevertheless, that is good upside.

$1bn settlement makes the stock worth $7/share. The incremental cash flows required to justify the $12.70 stock price require the company to achieve 20% CAGR in revenue for 6 years while also improving ROIC from -22% to +12%

$500mm settlement makes the stock worth $2.65/share. The incremental cash flows required to justify the $12.70 stock price require the company to achieve 20% CAGR in revenue for 10 years while also improving ROIC from -22% to +22%

Short interest ratio on this stock is 4.6 – over 4 days of trading volume – in case you thought everyone was optimistic about this stock. Admittedly, a high short interest ratio could also cause a short squeeze or it could crush the stock.

The take away is: investing in this stock is quite a gamble.

Disclosure: I receive no compensation to write about any specific stock, style or theme.

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3 Comments

  1. varadha says:

    Terrific, yet simple analysis. I’ve always been a fan of ROIC as a measure of capital efficiency and believe that no size/growth outperformance can replace the quest for efficiency.

    Sort of like a big gas guzzling v8 that needs ever increasing gallons of fuel to keep its engine running

  2. David says:

    But Angie’s $90 per user acquisition cost is going to go away. That’s what their approach probably is. How would their outlook be if that $90 cost dropped down to a total cost of $3 per user?

  3. David:

    That would be great, but cost per user acquisition is not something that’s very easy for a company to fix. ANGI can slash their marketing budget to the bone, but then they would stop acquiring new members. They would probably lose members in fact, as their membership renewal rate is at ~75% and declining. If they cut marketing expense by ~95% as you seem to be suggesting, ANGI might be able to eke out 1 year of slight profits, but they would start shedding members and losing money very quickly. ANGI’s only hope is to keep its marketing budget high and hope it can reach the scale and brand awareness to be able to sustain its business while scaling back marketing costs enough to turn a profit. The fact that ANGI’s revenue growth is slowing down even as its marketing costs keep increasing makes it very unlikely it will achieve that goal.

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