The goal of the premium version of Inside Arbitrage is to provide subscribers with a set of tools that help with their investment process. I don’t often write a premium post unless I see an interesting opportunity. Sometimes I don’t write a post for more than six weeks and at other times it can be twice in the same week. This is one of those weeks and I wanted to write this post after I noticed insider buying in a net-net.
The father of value investing Benjamin Graham used to like net-nets, a group of beaten down unloved stocks that are trading below their liquidation value. The classic Benjamin Graham type net-nets are defined as companies trading below the value of their net current assets after subtracting total liabilities. In other words if you were to buy all the stock, pay off all the liabilities and convert all current assets into cash, you would end up with more cash than you paid for the whole company.
As anyone that has run a business will tell you, it is nearly impossible to convert all receivables into cash or sell all the inventory at the value it is carried on the balance sheet. Some calculations of net-nets apply a 75% discount to receivables to account for bad debt from customers that may not pay their invoices and a 50% discount to the value the inventory is carried on the balance sheet. The problem with net-nets is that they often represent lousy operating businesses that bleed cash and may not have a liquidity event that will allow investors to get the extra cash on the balance sheet. This especially holds true during a time the economy or the stock market is not in crisis and I have personally found it only useful to look at net-nets after a crisis.
When looking through the list of insider purchases and sales from last week, I was surprised to come across a net-net company where the CEO is buying stock and that has a near-term liquidity event (more on this later). The purchases by the CEO of Support.com (SPRT) were not insignificant as he purchased $1.9 million worth of stock of a company with a market cap of $38 million. His average price across multiple transactions was $2.04/share. Support.com has $44.8 million in cash and short-term investments on its balance sheet as of September 2019 and just $5.3 million in total liabilities. The company is a net-net even without including the $10.4 million in accounts receivables. The company does not have much in terms of other assets but one could argue that a company like Nuance Communications (NUAN) or Zendesk (ZEN) would be willing to pay a few million dollars for a prominent domain like Support.com.
Silicon Valley based Support.com provides outsourced customer support services and the company has had a rocky history trying to make money in such a competitive and low-margin business. After years of losses, the company finally reversed course last year and posted four consecutive quarters of positive operating and net income. Operating income for the trailing twelve months was $3.2 million and net income was $4.1 million, boosted by interest and investment income from the large cash position on the balance sheet. Unfortunately revenue has been declining and unless the revenue decline is arrested, it is possible that the company may swing back to losses once again.