SINLetter - April 2008

Welcome to edition 32 of Suria Investment Newsletter (SINLetter), a free monthly investment newsletter. The objective of this newsletter is to provide you with unbiased initial research and basic facts about individual stocks and other financial instruments so that you can research them further before deciding to add them to your portfolio or not. If you are reading this and are not a subscriber, you can subscribe by going to www.sinletter.com/subscribe.aspx and you will start receiving this newsletter from next month. I have provided relevant links throughout this newsletter, but if you have any questions or comments, feel free to write to me.


And The Winners Of The Second Stock Contest Are...

"D2cold" with an overall gain of 23.37% in just one month through his picks soft drink maker Cott Corp (COT), Canada based paper and wood products company AbitibiBowater (ABH) and the unstoppable fertilizer company Potash Corp. of Saskatchewan (POT). POT, which is currently trading at $155.21 was a $29 stock less than two years ago and "D2cold" made a good point with his question "what goes up, must... come down?" while shorting the stock. I did not think I would see the day when a fertilizer company would trade for more than 10 times its sales, a P/E of 45.61 and a dividend yield of just 0.30%. The forward P/E of 16.62 implies expectations of tremendous growth in either potash prices or fertilizer volume in 2008.

The runner up of the subscriber stock contest was "yc" with his brilliant move of shorting Bear Sterns (BSC). You can check out the rest of his picks along with the rest of the contestants here.

Gary of biiwii.com remained the unchallenged king of the stock contest for the top financial bloggers with a gain of 21.52%. Interestingly every other blogger (including myself) posted negative returns. A decision to short Washington Mutual (WM) helped the blogger Accrued Interest win the second prize in the blogger contest. You can check out the rest of his picks along with the rest of the bloggers here. I certainly hope that the first prizewinners do not pick the Nintendo Wii and instead pick the $250 Amazon.com gift certificates, as the Wii's are still difficult to get hold of. Maybe it is not too late to look into Nintendo (NTDOY.PK) as a potential candidate for the model portfolio.

It was fun to watch how this contest unfolded. If there is enough interest, we will launch a longer contest for the second half of 2008. So please drop me a note and let me know if you would be interested in such a contest.

First Prize:Second Prize:
Nintendo Wii Canon Digital Elph



Portfolio Performance:

March marked the fifth consecutive month of declines for the major market indices like the Dow and the S&P 500. The Nasdaq and Russell 2000 are approaching bear market territory with drops of nearly 20% since October 10th. I believe that the rally we experience the week before last did not mark the end of these declines and was no more than a bear market rally. While investor enthusiasm has clearly declined along with declining consumer sentiment and home prices, we have not yet experienced the capitulation and despair that marks the end of a bear market.

After yet another a volatile month that saw Suntech Power (STP) drop more than 20% and regain all those losses and then some, the SINLetter model portfolio managed to eke out a gain of 0.52% as shown in the table below. Investment newsletters that deliver high returns when the market is going up are also susceptible to crash spectacularly when the market starts heading south, especially if they are leveraged or highly concentrated in one area. Reading about how the investment newsletter Fredhager.com became the top performing newsletter in 2004 with gains of 150.3% only to achieve the title of worst performing newsletter in 2005 with a loss of 32.4% was very enlightening and was a clear example of the "reversion to mean" principle. In fact that 32.4% drop in 2005 paled in comparison to the drop Fredhager.com experienced in the summer of 2000, when the value of its portfolio went from $2.7 million to just $337,000. While we have not avoided the decline altogether, I am happy to see that after outperforming the market in 2005 (partial year), 2006 and 2007 on its way up, we have managed to decline less than the overall market in Q4 2007 and Q1 2008.

Performance Metric Dow S&P 500 Nasdaq SINLetter
March 2008 -0.03% -0.6% 0.34% 0.52%
First Quarter 2008 -7.55% -9.92% -14.07% -6.89%
Since Inception (Aug 2005) 15.44% 7.07% 3.81% 104.11%


SINLetter March 2008 Portfolio Performance

Our movie theatre and hotel company Marcus Corp (MCS) had a good month in March, posting a gain of over 20% after reporting a 20.5% increase in third quarter revenue to $86.04 million and an astounding 237.7% increase in operating income to $6.26 million. Net income however dropped 55% to $1.785 million because the year ago period benefited from one-time gains related to tax credits and the sale of Las Vegas condominiums. The company also acquired 7 Douglas theatres totaling 83 screens to expand its number of screens to 678 screens at 56 locations. The stock has almost reached break even in our portfolio and I plan to continue holding it as I expect the stock to perform well in the long run.

I am often asked by subscribers about the stocks in the model portfolio that may have the best potential going forward. In the last newsletter I mentioned "if you don't already have exposure to alternative energy in your portfolio, Suntech is worth a close look". At this point I think the stocks with the most potential are EMC (EMC) and BlockBuster (BBI). Turnaround stocks are difficult to invest in and more often than not, they are likely to go bust than survive. I have had my share of both successful (Priceline.com and Sirius Satellite Radio) and unsuccessful (Atari and Allegiance Telecom) turnaround stocks and the roller coaster ride they take you on is not for everyone. However I think BlockBuster is doing all the right things and despite a weak economy, I think it is likely to perform well in 2008. The company,

  • reported same store sales growth for the first time in five years
  • grew its same store sales by 12% in the U.S and 20% internationally
  • has a growing international business that accounts for 35% of revenue and 31% of gross profit
  • has a relationship with IFC for exclusive DVD and digital rights to its movies for 60 days
  • has decreased general and administrative (G&A) expenses by $50 million and is targeting a $100 million cut in yearly G&A expenses
  • expanded its product line to include sales of games, $599 PS3 bundles and an increased assortment of snacks
  • and now has a profitable online subscription business

Based on the foot traffic I have seen at my neighborhood Blockbuster store, the hiring signs, a new approach to merchandising and a slate of interesting exclusive titles (The Hunting Party and Awake to name a few that I have watched), I think a slow but steady turnaround is in progress at Blockbuster and plan to add to our position in the model portfolio.

Gold gave back some of its gains to close the month of March at $915.70 per troy ounce, a drop of $58.6 or 6.01% for the month.

Portfolio Readjustment:

Beyond adding an additional 1,500 shares of Blockbuster at $3.26 per share to the model portfolio and adding NetSuite to the watch list, I am not making any other changes this month.


NetSuite (N) $21.54

While analyzing potential Enterprise Resource Planning (ERP) solutions for a client CleanFish last year, I came across NetSuite as a contender that offered accounting, sales force automation, inventory management and CRM capabilities in a single integrated hosted solution. A single solution that can address the needs of a growing organization without having to spend millions or install infrastructure is music to the ears of any CTO who has worked with disparate systems before and has had to make them talk to each other. After considering industry specific solutions as well as NetSuite's competitor Salesforce.com (CRM), we finally decided to sign up with NetSuite. A few weeks after we started implementation, I wrote a detailed blog entry titled NetSuite: Another Hot Tech IPO? about the company and why I was excited by the IPO months before it actually came out.

However by the time the actual IPO took place in December, interest in the company was so high that they revised their dutch auction IPO price upwards twice from the original range of $13 to $16 all the way up to $19 to $22 and the auction finally closed at $26 per share. This gave the company a valuation of over $1.5 billion, much higher than the $750 million valuation I mentioned in my blog entry and a P/S of 13 based on my 2007 revenue estimates of $115.35 (actual 2007 revenue came in at $108.5 million). Investor enthusiasm for NetSuite was unabated and the IPO opened at $26 per share and closed its first day of trading at $35 per share. After rising to an intraday peak of $45.98 the following day, the stock began a slow and steady decline. Our experience with NetSuite has gone down a similar downward slope over the last few months.

During an investor presentation, NetSuite CEO Zach Nelson said "we have by far the best development team on the planet". As a customer I am very happy to hear that they have an outstanding team but when you look at the issues that are brought up over and over again by customers in the internal NetSuite forums, I have to say that the company really needs to focus on QA, support and development. Despite purchasing their Gold Support (they refused to sell the product without this support), our experience with NetSuite support has been downright terrible and we are not the only customer who feels this way. According to their recently released annual report, NetSuite derives 18% of their revenue from international sales and one of the key areas the company plans to focus on is expanding their international sales. Selling in different countries requires localizing the software not only to the language of the target country but also customizing it to local laws and accounting standards. With a core application that is far from satisfactory, I believe the company needs to focus its resources on building a rock solid foundation instead of spreading itself thin by taking on the complexity of international sales. I am very tempted to list some of the issues their application faces but that is outside the scope of this newsletter and probably only of interest to existing or potential customers of NetSuite and the NetSuite management team.

I started out writing this newsletter about NetSuite with the goal of adding NetSuite to our watch list as a long opportunity. However when I look at various financial metrics, the stock appears to be a better short candidate at this point. Comparing NetSuite with other companies like Salesforce.com (CRM), Rightnow Technologies (RNOW), SuccessFactors (SFSF) and DemandTec (DMAN) in the "Software as a Service" (SaaS) landscape, it looks like NetSuite has the richest valuation of the lot on a Price/Sales basis (as reported by Yahoo Finance). According to their amended S1 filing, the company plans on spending between $10 and $15 million on capital expenditure including a second data center facility in 2008. The company will most likely take an earnings hit on account of these expenditures as well as for expensing options that are exercised by management and employees. Investors in Salesforce.com are well aware of this situation as option exercises are one of the reasons why Salesforce.com tends to post tiny net income numbers. NetSuite's target audience of small businesses is likely to hurt the most during an economic downturn and are likely to postpone plans to implement ERP solutions. The impact of economic weakness on small businesses was one of the reasons we started a position in the UltraShort Russell 2000 (TWM) for our model portfolio.

The news is not all gloomy for NetSuite. The company is growing at a very healthy pace, posting revenue growth of 71.64%, 64.28%, 56.35% and 57% in the four quarters of 2007 and expects to grow revenue 44% in 2008. While the software is complicated, it is very powerful and well integrated across various modules. As NetSuite works out all the kinks in its application and heads towards profitability, I plan to add the company to our watch list as a potential short opportunity in the short-term and eventually as a long opportunity if the price declines to a reasonable valuation.

 

Model Portfolio - March 31, 2008

Long Stocks

Stock Symbol Number of Shares Cost Current Value Diff ($) Diff (%) Date Added
Lionsgate Entertainment LGF 1,000@9.41/share $9,410 $9,750 $340 3.61% 2/29/2008
Tata Motors TTM 500@17.52/share $8,760 $7,810 $-950 -10.84% 2/29/2008
Canon CAJ 200@45.83/share $9,166 $9,274 $108 1.18% 12/31/2007
Barclays PLC BCS 200@42.27/share $8,454 $7,240 $-1,214 -14.36% 11/20/2007
Powershares Water Resources PHO 400@22.10/share $8,840 $7,696 $-1,144 -12.94% 10/31/2007
Marcus MCS 500@19.94/share $9,970 $9,600 $-370 -3.71% 9/14/2007
Ultrashort Russell 2000 TWM 50@71.00/share $3,550 $4,145 $595 16.76% 9/7/2007
Blockbuster BBI 3,000@4.59/share $11,775 $9,780 $-1,995 -16.94% 7/9/2007
Gymboree GYMB 200@42.02/share $8,404 $7,976 $-428 -5.09% 6/14/2007
Unilever Plc UL 200@32.53/share $6,506 $6,744 $238 3.66% 5/11/2007
EMC Corp EMC 600@13.85/share $8,310 $8,604 $294 3.54% 3/31/2007
ICON Plc ICLR 250@37.30/share $9,325 $16,222 $6,898 73.97% 1/31/2007
Diamond Offshore Drilling DO 80@76.65/share $6,132 $9,312 $3,180 51.86% 1/3/2007
Alvarion ALVR 1000@6.87/share $6,870 $7,250 $380 5.53% 1/3/2007
WisdomTree Investments WSDT.PK 1000@7.40/share $7,400 $2,800 $-4,600 -62.16% 11/30/2006
Teva Pharmaceutical TEVA 300@35.05/share $10,515 $13,857 $3,342 31.78% 9/1/2006
Suntech Power STP 250@25.93/share $6,483 $10,140 $3,658 56.42% 7/31/2006
Procter & Gamble PG 180@55.60/share $10,008 $12,613 $2,605 26.03% 6/30/2006
Johnson & Johnson JNJ 200@57.65/share $11,530 $12,974 $1,444 12.52% 2/28/2006
Medifast MED 1000@6.955/share $6,955 $4,226 $-2,729 -39.24% 11/30/2005
  Cash     $26,094      
  Total     $204,108 $104,108 104.11%  

 

Voluntary Disclosure: From the stocks that are currently in the model portfolio, I own shares of Lionsgate Entertainment (LGF), Tata Motors (TTM), Canon (CAJ), PowerShares Water Resources (PHO), Barclays (BCS), Medifast (MED), Suntech Power (STP), Teva (TEVA), Alvarion (ALVR), WisdomTree (WSDT.PK), Unilever (UL), Gymboree (GYMB), BlockBuster (BBI) and Marcus (MCS).

 


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