Last year, as I was making my way through some of the microcap restaurant stocks (a process that ultimately led me to MHGU), I stumbled upon an interesting turnaround story, ELXS. Unfortunately for me, I passed on the stock, and it’s now up ~4x in the past year. However, it’s an interesting enough story and may still have enough upside (to whet your appetite- it’s trading at ~5x P/E) that I thought I’d bring it to everyone’s attention.
Basically, the company operates two divisions- the Cues division (creates video equipment for the wastewater industry) and a restaurant division. The Cues division had been quite profitable over the past few years (operating income of $2.8m in 2010 and $3.4m in 2009), but it had been hidden by horrendous losses at the restaurant division for the past decade.
Thus, the opportunity- if the company could just get the restaurant business to break even, the value of the cues division would shine through. Remember, when the stock was trading at $1.25 last year, it’ market cap was under $6m, and even today, with the stock at $4.75, the MC is under $20m. With Cues making $3m+ in EBIT, there was significant upside in a turnaround scenario.
The big problem I saw was management had been trying literally for years to get the restaurant division under control, but operating leases had hampered their ability to close underperforming locations.
So I passed.
In hindsight, this was quite a mistake (to say the least).
If I simply go back and look at their 2010 earnings report, it’s pretty obvious (in hindsight) that the restaurant division is starting to hit an inflection point where it will no longer drag down the Cues division. Operating loss at the restaurants were way down due to continued store closure, and the Cues division was finally starting to show through.
Alas, I missed it all.
To compound my mistake, I didn’t continue to follow the company. Check this out- the company announced 3Q earnings in November. TBV sat at $4.20 per share, and net income for the first nine months of the year came in at $0.56. Despite that, as late as mid-December, you could buy the stock in the $2.20-$2.40 range (about 4x net income, and half of TBV).
But, even after missing the huge run up in the past year, that doesn’t mean there’s not still opportunity here.
ELXS came out and pre-announced record profits this week, as well as a $1.5m share repurchase (~7.5% of their stock). That seems to imply that management still thinks the stock is cheap.
And the company looks cheap as well- net income per share is going to come in a $0.94, and tangible book value sits at $4.57 per share. And net income (assuming the cues division can maintain its current operating levels, which may be a big if!) should continue to climb as they company continues to get underperforming restaurants off its books!
So, despite the big run up, the stock trades for basically tangible book value and just 5x net income… and net income should grow!
Personally, I’m passing at these levels- the easy money from the turnaround has been made, and I don’t really have industry expertise on the Cues division. But readers with a deeper understanding of it should certainly take a look- the stock continues to look very cheap, and management has certainly shown a focus on increasing shareholder value.
Disclosure- Long MHGU
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Wow:
I actually owned this stock years ago (2006 & 2007?). Part of my family still owns this stock (they’ve been in since the late 90′s). This has been a “value” stock & turnaround play for AT LEAST 10 years.
I wound up selling and begged my family to do so also.
I spent a LOT OF TIME researching this company.
The company is run like a private feifdom…
The value of the real estate of the restaurant division was PROBABLY several times the market cap of the company at that point. Most of their locations were in the North East, where real estate is very expensive. I actually looked up the assessed tax value of the parcels…
The reason I passed was twofold…
A). Alexander Milley pays himself a TREMENDOUS salary for running this company. Too much in my opinion.
B). There are all sorts of related party transactions that stink to high heaven. If I remember correctly, Mr. Milley had sold a couple of company parcels of real estate to his father (or other family relations). I came to the conclusion that management was out to enrich themselves and loot the company. I think they also had “loans” made to themselves…
C). The liquidity of this stock is not good. Sometimes it would go WEEKS without trading. The bid/ask spread was out of this world too.
If you raised a little bit of stink and provided proof that you were a shareholder, they would give you quarterly reports…
I don’t doubt that the value of the company is MUCH more than the quoted price. I came to the conclusion that there are so many other opportunities out there…
There was a takeout offer at $2/share I think not too long ago…
Now that you mention it, I do remember being scared by the insider dealings.
They post quarterly reports online. Didn’t see anything about the $2 offer, but I likely just missed it- press releases are hard to find with these small companies.
Even with the high insider dealings and salaries, the moral of the story is still that I completely whiffed on this one. Was right in my wheelhouse and I just didn’t grab it.