Smith Micro (SMSI) Special Report: Part II

Opening Disclosure — Long-time readers should note some significant changes in how I communicate in the public domain. The primary purpose of this forum is now to attract new contacts with professional industry expertise to share research and receive feedback (confirmation / refutation) regarding my investment theses.

Accordingly, this document should not be construed as an endorsement or recommendation of the companies or securities discussed herein. I am not an investment advisor and this is not an investment thesis. It is merely one part of the story, which I present for debate in hopes of determining all risks and upside potential. The disclosure at the end of this piece is critical to understanding the content and context of this document. Further, I frequently trade my positions and may buy, sell, or short the securities mentioned herein at any time, regardless of the facts or perceived implications of this article.

_________________________________

FYI, I’LL BE HOSTING MY NEXT STOCK RESEARCH & INVESTING LIVE Q&A ON WEDNESDAY AT 1PM ET. DON’T MISS IT!

SMSI SPECIAL REPORT: Safe & Found Reads Into Sprint’s Retail Channel

PART II – IMPLICATIONS FOR SMSI’s EPS

I decided to release Part 2 early today because of the plethora of questions and new data points I’ve uncovered. I’ll share some today and some tomorrow. Suffice it to say, ALL THINGS CONSIDERED, things are looking quite bullish for the company and it’s stock.

Let’s go over it all…

For starters, I ended Part I of this report by saying that the average Sprint Store in our survey is doing 3.56 subscription sign-ups per week.

That implies an overall attach rate of 15% (suggesting that our aforementioned 30% data is indeed affluent-area skewed). But that’s still enough to add over 750,000 subscribers per year (Sprint added 1.275M new customers in Q1 alone, which is 5.1M annualized).

If this plays out across the entire system, it will be enough to add $0.85 of EPS to SMSI’s bottom line annually (based on SMSI management’s operating margin guidance).

Now, obviously we shouldn’t count on numbers that high. That would take EPS from here to $0.85 to $1.70 to $2.55 over the next three years. It can happen, but it’s always better to set expectations low and go from there.

However, what’s great about these numbers is that they leave more than enough room to overcome a lot of risk, along with our affluent-area skew (something likely caused by the fact that we are all stock investors who probably called stores in nice areas, near where we live).

That being said, even if we assume that 100% of our calls were into affluent areas (without fully-completing a demographic analysis, I know for a fact that at least 7% were not), the data would still be enough to support over 350,000 sign-ups annually.

That’s enough to add $.40 of EPS to SMSI’s bottom line (again, annually).

In other words, our data suggests that Safe & Found can drive earnings of $0.80 (thanks to an initial boost from the Location Labs installed base), $1.20, $1.60 etc. over the coming years, starting in 2019 (with EPS possibly exceeding $0.10 in Q4)… and that’s assuming that our data is 100% skewed toward affluent areas.

Now, assuming that they only get half (50%) of THAT, we’re still talking about ~0.60 of EPS in the 12-months following the Location Labs sunset date (which is weeks away, according to my due diligence). Then, we can see that number rise to $0.80, $1.00, etc.

At that point, we’re starting to get silly, because it cuts our math in half… and then in half again… and then in half again (for no reason in the last case).

In other words, a LOT can go wrong and we’ll still make out nicely.

So, I wouldn’t worry about scary things you hear out there. The reviews have been misleading, the concerns about the sunset date have been overblown, and the rumor about customers being able to switch back are flat-out wrong according to my very reliable sources.

I’ve investigated each issue as it has come… and none of them have proven efficacious.

Of course, the concerns that SMSI might lose Sprint someday, after they merge with T-Mobile have validity. However, I’ve already discussed why this is nothing to fear for at least three years…

…and by that time, SMSI could / should have over $2.50 in cash (or some equivalent value in acquisitions). Further, they will have won / ramped other accounts. So, anyone who lets this bother them isn’t weighing the positives alongside the negatives.

It’s the opposite of what HMNY investors did, and no less detrimental to an investor’s long term wealth.

Once again, the key to making a winning investment decision is knowing how (and WHEN) to put a data point into perspective.

We’ve seen plenty of examples of this over the past several months (including GAIA, WDAY, FIZZ, CELH, and of course HMNY).

Valuation-wise, you can do the math. Its stock price is $2.35 and its market cap is $60 million. However, they have about $12 million in net cash, giving the company an enterprise value of just $49 million ($1.89 per share.

In other words, even if things fall apart, SMSI should still be valued at 1x revenue plus net cash.

Thanks to all the cash on their balance sheet, that works out to $1.50 per share.

Based on that math, our risk from here is only 85-cents per share. Meanwhile, our potential reward could exceed 10x. See my “SMSI Hidden Assets” report for more on that.

So, while SMSI’s cash raises cut our upside a bit, it also lowered our risk (while keeping the stock low, giving us a chance to see the Sprint relationship ramp up before backing up the truck).

So, as you can see, our disaster scenarios don’t result in heavy losses. In fact, even if they lose Sprint in a few years (as described in the $0.60, $0.80, $1.00 scenario above) AND they win no more accounts, SMSI still stands have 50% more cash than their entire enterprise value at that point.

This, along with the expense reductions being instituted by first-year CFO Tim Huffmyer promise to keep SMSI’s risk profile much lower than its potential reward.

Of course, this is exactly what Bill Smith figured before increasing his stake in the company.

In other words, for better or worse, we’re all going along for the same ride he is.

Moving along… some folks have smartly asked about non-renewals after the free trial period. Well, yes. Of course, some percentage of customers will cancel after the free trial period. However, that number is likely to be closer to 10% than the 50% referenced above. The families with whom I trialed the product have kept it.

Further, my research has indicated that the current pace of sign-ups is only expected to increase, adding more cushion to our margin of error, not less.

And that’s JUST at Sprint (and only its stores)… while overcompensating for the probable affluent-store skew and without accounting for the continued ramp up that is expected to occur over the next six months (something that has been confirmed by multiple internal contacts)!

In other words, there is a lot of room for upside (and error) in our data.

Looking beyond Sprint, we’ll find a lot of opportunity and competition. Make no mistake — SMSI is not going to monopolize this market. However, few companies ever do. The idea is for SMSI to get its piece of the pie and profit from that.

So, don’t be surprised to see other vendors win deals. Many carriers are going to try many products in pursuit of figuring out which ones will resonate with consumers. Until that resonance is proven, a smart investor won’t react / overreact.

Even I need to re-learn this lesson sometimes. I made the mistake of overestimating the oncoming $FIZZ competition. In reality, not enough customers like the competing products (at any price).

Basically, as long as a company gets its piece of the pie, all is good…

…and SMSI will likely owns the Sprint pie for at least the next three years.

IMG_2140Northwest Regional President, Suehyun Johan Chung, training Sprint associates

Indeed, SMSI has had its hands full and that’s all we need to make a great profit.

In fact, until a few weeks ago, Bill Smith was adamant about focusing all of SMSI’s attention on making Sprint a successful account (to showcase to new potential customers). He only started talking about trying to win new accounts at the LD Micro conference on June 4.

For now, we have Sprint ramping fast (along with others listed below). Despite how explosive that can be on its own (see the numbers above) Sprint only represents 3% of the global wireless market. In other words, there is plenty of room for plenty of competitors to win big.

Here’s what we already have outside of Sprint:

* AIS – “Advanced Info Service Public Company Limited, branded and most commonly referred to as AIS, is Thailand’s largest GSM mobile phone operator with 39.87 million customers as of Q3 2016”, per Wikipedia.

* MEO – “Serviços de Comunicações e Multimédia SA, headquartered in Lisbon, is Portugal’s first mobile communications company, both chronologically and in market share”, per Wikipedia

* DIGI – “As of fourth quarter of 2017, Digi had 11.75 million subscribers (9.27 million prepaid, and 2.48 million postpaid customers”, per Wikipedia

* Dtac is the third-largest carrier in Thailand, behind AIS and True, with 23.1 million subscribers.

* T-Mobile Albania – likely has about 1.5-2.0M subscribers.

_______________________

By the way, as I expected, our channel check data was all over the board. This is especially important information for those of you who collected negative data points. It’s also instructive, showing that you can’t trust 1 or 2 or even 10 data points.

That’s simply not enough to provide any confidence… and as I’ve been preaching for years, there’s almost nothing worse than missing out on a winner because of confirmation bias (especially when that bias stems from relying on a small sample set).

If I had to rate each data point on a scale of 0 to 10, we would have a lot of 0/1s and a lot of 9/10s and a lot of 5s, but not a lot of 2s, 3s, 4s, 6s, 7s, or 8s. In other words, the store was either: 1) not trying to sell it at all, 2) doing pretty well, or 3) absolutely knocking it out of the park.

Now, anything I would rate “5” or over can be considered VERY bullish. To give you an idea of the dispersion, I would rate 46% of the data points below 5 (somewhere between terrible and OK). I would give 32% a “5” (nicely bullish). The remaining 22% were off the hook.

FYI, I noted a correlation in the data along three dimensions:

  1. Non-poor areas are selling better than poor areas (no surprise)
  2. Fully-trained stores are doing better than those that haven’t been trained yet (ditto)
  3. Moms are eating it up (again, no surprise)

While all obvious, a deeper look into the dynamic tells us that the Safe & Found ramp up is just getting started and promises to be powerful once fully ramped.

Best of all, this is something that our numerous contacts at Sprint have already been saying. So, the data is all lining up nicely with our anecdotes from the field.

For now, we have a fairly even split of 54% bullish/unbelievable data points vs. 46% terrible/OK data points.

The difference is easy to discern.

Stores in non-poor areas that have been trained on the product are doing great, on average. This data is making its way through Sprint and feeding into the product’s internal momentum. As Sprint starts to understand the ramifications, it’s likely that they will redouble their already-formidable plan of action.

With our mid-June reads already pointing to profitability and strong Cloud-based EPS growth for SMSI, it will be “interesting” to see what our data looks like once all of the stores are onboarded…

More in Part III…coming tomorrow morning!

FYI, I’LL BE DISCUSSING MORE SMSI FINDINGS, INCLUDING NEW (NON-SPECIAL REPORT) INFO IN MY NEXT STOCK RESEARCH & INVESTING LIVE Q&A

WEDNESDAY AT 1PM ET. DON’T MISS IT !

_________________________________

More Research:

To get my posts in real-time, just follow/subscribe to my free blog.

If you only want to receive my most critical reports, simply sign up for my MailChimp mailing list instead. If you’re on that list, you will only get key articles and occasional recaps of all the work I’ve recently done.

Disclosures / Disclaimers: I am long SMSI. However, this is not a solicitation to buy, sell, or otherwise transact any stock or its derivatives. Nor should it be construed as an endorsement of any particular investment or opinion of the stock’s current or future price. To be clear, I do not encourage or recommend for anyone to follow my lead on this or any other stocks, since I may enter, exit, or reverse a position at any time without notice, regardless of the facts or perceived implications of this article.

I am not a financial advisor. Nor am I providing any recommendations, price targets, or opinions about valuation regarding the companies discussed herein. Any disclosures regarding my holdings are true as of the time this article is written, but subject change without notice. I frequently trade my positions, often on an intraday basis. Thus, it is possible that I might be buying and/or selling the securities mentioned herein and/or its derivative at any time, regardless of (and possibly contrary to) the content of this article.

I undertake no responsibility to update my disclosures and they may therefore be inaccurate thereafter.  Likewise, any opinions are as of the date of publication, and are subject to change without notice and may not be updated. I believe that the sources of information I use are accurate but there can be no assurance that they are. All investments carry the risk of loss and the securities mentioned herein may entail a high level of risk. Investors considering an investment should perform their own research and consult with a qualified investment professional.

I wrote this article myself, and it expresses my own opinions. I am receiving no compensation for it, nor do I have a business relationship with any company whose stock is mentioned in this article. The information in this article is for informational purposes only and should not be regarded as investment advice or as a recommendation regarding any particular security or course of action.

The primary purpose of this blog/forum is to attract new contacts with professional industry expertise to share research and receive feedback (confirmation / refutation) regarding my investment theses.

21 thoughts on “Smith Micro (SMSI) Special Report: Part II

  1. Very good report. Thanks Mark
    On the subject of affluent areas. I live in Westchester County NY which is a very affluent ar a but the 3 Sprint stores are in 2 of the poorest towns and the 3rd is in White Plains which is a mini city with a vibrant business district but not an affluent area around the business district. Verizon and Apple both have store in all the nicer towns. So obviously Sprint is trying to compete overall in the less wealthy areas and ceding the more affluent customers to Apple and Verizon. How this affects the hit rate nationally I do not know but a point worth noting.

    Like

    1. Hey Eric. Good observation, and that’s not an isolated situation. Thankfully, it’s not pervasive either…and more importantly, factored into my calculations.

      Sprint definitely caters to poorer customers but doesn’t cede the middle and upper class… and I expect them to move upstream with their new offerings.

      They don’t need to be successful though. They have 30M+ customers and SMSI only needs 500,000 over the next couple years for us to do very well. Lots of room for failure / error and many more ways to hit a grand slam.

      Thanks for the info !

      Like

  2. Great report! I was a bit worried after the Tmobile release of their application — but i agree, by the time the merger is even completed we would have already made off with what we want!

    Like

  3. Hey Mark, thanks for the post. I am curious about the sunset timing of Family Locator. How does that sync with the fact it has not been available on the Sprint website for several weeks, and whether Smith will be able to indicate with near certainty when they report Q2 how many subscribers moved over?

    Like

  4. What a fantastic report. I really appreciate the level-headedness here, it is easy to get excited when you find an undervalued gem and get carried away. You deliver the great news and research but still encourage investors to calculate their own risk and PT.

    You have enough followers that invest in this stock and being the only coverage on SMSI, were this responsibility is appreciated as no one wants any more market buy *ahem* spikes 😉

    Like

    1. Thanks Aenathema. My goal is for everyone to win via smart investment decisions, NOT tactic trades (especially via manipulation or hype).

      I can’t teach folks to become productive members of our network if I set a bad example.

      Cheers!

      Like

    1. Disagree For reasons I discussed in the report and will discuss tomorrow’s live Q&A. What you are describing constitutes recency bias and confirmation bias. If professional investors were involved with the stock, they wouldn’t get shaken by that.

      I know I’m not.

      More on this in tomorrow’s report and tomorrow’s live Q&A.

      Like

      1. We can agree to disagree 🙂 If the merger goes thru & Tmobiles platform is successful & more comprehensive, it will become a big concern quickly imo. Can we make money between that time? Sure can but I like to look further down the road. This isn’t enough to get me to sell but I will probably think about lightening my load.

        Like

        1. Of course it factors into the DCF analysis, but it already has. Plus, SMSI stands to have $2.50 of cash on the balance sheet by the time TMobile makes a decision (which SMSI Management is confident will favor us). IMHO we have more important things to worry about than the year 2021.

          Remember, T-Mobile has multiple products, one weak and one convoluted. The product that gains the most traction will be the one that will be chosen by management (assuming they don’t choose to keep multiple products to support multiple types of customers, which I think is as strong a likelihood as any).

          Right now the product with traction is SMSI.

          To factor in risk without potential reward is as much of a mistake as to factor in reward without factoring in risk.

          Like

    1. I once wrote an article entitled “PE is BS”.

      I don’t like PE ratio for a valuation. No offense to you, but it’s lazy.

      Professionals do DCF analysis.

      I like to look at acompany’s potential operating margin and what earnings can be down the line. Then I can apply a PE to that if I want to be lazy… or do a DCF analysis if I want to do it right.

      Alternatively, ask on my live Q&A tomorrow. It’s a very good question that many people have and I don’t mind answering it multiple times to help people understand how to really value a company.

      Cheers!

      Like

  5. Kudos to T Mobile for realizing what parents want more than a simple locator is parental controls. When I talk to Sprint reps and when I see S&F advertised, its always about the location service that has as a bonus parental controls.
    No Sprint! The parental controls is the sell, the location is a bonus(a free commodity). I tell the Sprint reps this every time I go in which has been a lot lately trying to get setup with new service.

    Like

    1. Not so fast. Let’s see how good a job T-Mobile actually does in its stores of pushing this product.

      Plus, they lied on their comparison chart. They’ll be hearing from Sprint’s lawyers 😂

      Liked by 2 people

  6. As for Sprint, they are still in rollout / training mode. A large percentage of the stores don’t even have their promo materials yet… much less training… much less their metrics and incentives.

    I’ve had several conversations with people inside the Sprint organization and LOVE how they are rolling it out methodologically, unlike what HMNY did. #patience

    You can feel free to disagree. I respect all informed opinions.

    Liked by 1 person

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out /  Change )

Google photo

You are commenting using your Google account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )

Connecting to %s