SMSI Special Report: Part IV

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.

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

PART IV – WHAT COULD THIS MEAN FOR THE STOCK?

I ended Part III of this series by saying that the rollout is going much better than I expected.

In my opinion, something catastrophic would have to happen to the Safe & Found story for us to lose ANY money on SMSI from these levels (especially with the fantastic financial controls that “new” — 1 year this month — CFO Tim Huffmyer has been putting into place).

I’m sure I’ve already discussed these measures, but to quickly recap:

  1. Moving expenses to cheaper geographies (particularly engineering resources). If a developer in the area of SMSI’s headquarters costs $175K, the same one in Pennsylvania costs something closer to $130K… and in Europe can be as cheap as $35K. Of course, iMobileMagic (SafePath’s developer) was founded in Portugal.

 

  1. Divestiture of non-strategic / non-profitable product lines and development projects.

 

  1. The use of metrics (i.e. the Rule of 40).

 

With better cost controls in place, I feel that Mr. Huffmyer might be able to make SMSI’s non-SafePath businesses profitable. If correct, our downside risk is shrinking with each initiative he institutes.

In my opinion, the downside risk is 1x revenue, plus SMSI’s net cash balance (which is about 50-cent per share). That adds up to $1.50 per share if things go wrong.

On the flip side, based on my calculations, I just raised my EPS estimates to 51-cents for next year and 85-cents for 2020 (with room for upside). If that proves accurate, SMSI should end next year with $1.00 of cash on the balance sheet, which should be added to whatever P/E multiple you wish to apply to the $0.85 EPS estimate.

Pick your number.

OK, let’s move on to other aspects of our data set.

Anecdotal feedback from experienced employees indicated that the results of our survey will only improve over the coming six months (which was said to be the critical time frame during which the success or failure of an application is determined).

This meshes well with the separate data points I have collected, which suggest that the company has been rolling out the product methodically and plans to institute incentives/metrics once the 4,000 stores are substantially onboarded.

From what we are seeing so far, it is clear that Safe & Found fits in the “success” bucket.

Other factors to consider include:

1) Sprint adding 500+ new stores this year.

2) The merger with T-Mobile being viewed by SMSI management as bullish (winning T-Mobile U.S. would likely triple the size of the account in short order, while increasing its overall opportunity by 150%).

3) Our data only covers Sprint’s retail stores. It doesn’t account for the online channel, where many stores (and AAA) are driving customers.

4) Not all customers are going to keep the product beyond their 30 day free trial. That being said, the feedback from customers has been fantastic. This stands in contrast to the online reviews, which have been less-stellar.

 

As I have discussed before, there are several reasons why the reviews skewed to the negative early on (and continue, to skew negative to some extent):

  1. Alleged tempering. Multiple individuals have noted suspicious review, including timestamps and geographic footprints, which suggest that a number of negative reviews have originated from outside of the U.S. (where Safe & Found isn’t even offered).

    The prevailing belief is that Location Labs has been planting these reviews in hopes of sabotaging the Safe & Found rollout.

    In fact, one of the reviews even stated that Sprint is allowing customers who are unhappy with Safe & Found to switch back to Location Labs. Those who traded on this information without confirming it will be disheartened to learn that the information is false.

    I have many contacts in strategic positions and this rumor was categorically rebuffed. I’ll provide an additional data point in my next installment of this report.

  2. People Don’t Like Change. Sprint customers of the sunsetting Location Labs product are being forced to download, install, configure, and learn a new product.

    Regardless of how good the product is, I wouldn’t be happy either. I’ve experienced this first-hand with Apple products, where I was miffed at a forced change, but very happy once acclimated to the product.

  3. Squeaky Wheel Syndrome. Online app reviews are generally dominated by 5-star and 1-star ratings. In other words, most people don’t leave reviews unless they are wowed or disgruntled.

    This was exemplified by the fact that 5- and 1-star reviews dominate the Safe & Found ratings page. However, despite this, both represent less than 0.3% (1 in 300) of estimated downloads. In other words, almost nobody is leaving a review.

 

It should be noted that the reviews have improved markedly over the past month or so (see the Review Data tab of my SMSI Profit Model). The average review was 2.15 before April, 2.38 in early April, 2.89 in late April, 2.99 in May, 3.18 month-to-date (June), and 3.48 since June 6.

For the record, as someone who has personally tested the product with multiple families, I still don’t believe that the reviews are anywhere near reflective of reality (due to continued manipulation and squeaky-wheel dynamics).

To be clear, our channel-checks (and my personal experience with multiple families) suggest that Safe & Found is closer to a five-star product than a three-star product.

Incidentally, even though the number of 1-star reviews has been in decline (2.8 per day in April, 1.6 per day in May, 1.4 per day in June, and just 1.1 since June 6), the total number of reviews has been rising. These factors point to an increase in the number of Safe & Found downloads.

This is validated by the fact that Safe & Found moved up the download rankings in late May and have remained stable at those higher levels. This should produce an upbeat Q2 earnings report.

I think downloads will remain in this range until the Sprint Stores are fully ramped up (about a month from now, based on their current pace). Thus, I expect to see a spike around the beginning on August, leading to an even stronger Q3 for SMSI.

I suspect they will talk about that on the Q2 call in a few weeks (and you can bet I’ll be asking them about it!).

Looking at the trading action, short interest has been on the decline and the stock has been in a pennant formation for a few weeks (just taking a breather after the big LD Micro Conference run up).

It looks ready to break out of that formation to the upside:

SMSI Chart

 

FYI, now that SMSI is in the Russell Microcap Index ups & downs in the index will impact ETFs like $IWC (not $IWM), which now impacts SMSI (because of its inclusion in the index)
This will present opportunities.
For example, when IWC is down (yesterday it was down nearly 2%), it will pull SMSI with it. But that’s blind selling, which we can take advantage of. So, I like the idea of being long SMSI and short IWC for anyone who likes SMSI but is afraid the market might drop some more.
If SMSI merely outperforms that market, that move will produce a profit. Better yet, both sides of the trade could work.

OK, that’s it for today. We’ll review my conclusions in Part V tomorrow!

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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.

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18 thoughts on “SMSI Special Report: Part IV

  1. Hi Mark,

    I spent some time talking through SMSI with some contacts. We came up with these questions:

    1.) If they are trying to clean up the company why offer additional warrants in a private placement?

    2.) Where did all the cash go? Most recent balance sheet does not look great.

    3.) The registrations for selling shareholders are highly concerning as they include warrants for conversion. Does this piece together more like a pump than a pure investment?

    Sorry Mark if these are repeat issues / questions. but thanks for the response!

    Like

    1. 1. Warrants are fairly standard part of financing deals. They wanted to build their cash warchest for many reasons. Just remember, Bill Smith owns the most number of shares of this company, so he wouldn’t make a decision to hurt his own value over the long-term. Personally, I would have raise less money, but again, he is the CEO and has the most to lose for making a bad decision on this.

      2. The balance sheet actually looks very good. You just haven’t seen a recent one, because $12 million of financing has taken place since the last one came out. If you have read my report carefully, you know that there is $12 million on the balance sheet that you don’t see in the March balance sheet.

      3. The registrations for selling shareholders is a standard filing. It doesn’t mean that anybody is actually selling. I have covered this in my reports. I recommend reading them.

      Good questions though. I recommend learning more about these things (via Google and my reports). It’s very important for you to understand what is happening and not get shaken out when the stock goes to a normal correction after a big run up like the one few weeks ago.

      Reading my research carefully can go a long way towards understanding the situation. That’s what I write it for.

      Cheers,

      Mark G

      Liked by 2 people

  2. Also does the .88 EPS for 2019 include everything fully diluted? I know some companies with private placements and warrants pull it off, but it usually takes very smart management. How do we know the people with private placements and warrants won’t screw everyone over?

    Like

    1. Your question requires an entire lesson in financial accounting. A lot of people are now shellshocked because of what MoviePass has been doing. But that’s one situation.

      Every stock is a separate situation, which is why it’s SOOOO critical to learn about fundamental instead of charts!

      Just like I knew what was happening with MoviePass (based on that situation), I am familiar with SMSI’s situation as well.

      The fully diluted question is a good one though. Remember, if the warrants get exercised, it will add more cash to SMSI’s balance sheet, thus adding to the company’s value. Of course, if the stock goes way up, it will be a bit dilutive, but that will be a great “problem” for us to have.

      In my professional opinion, the issues related to the financings and warrant issuance are behind us now. That’s why this is my largest position (seven figures) making me one of the 10 largest shareholders.

      Cheers!

      Like

          1. Short VOLUME is decreasing. My apologies if I said “short INTEREST“. In fact, if you can point out where I said that, I will correct it. Thanks!

            FYI, I do know that I provided a short interest analysis in one of my recent articles that stated that the higher short interest this month, the more bullish it would be.

            I can’t teach a whole lesson on this here, but the short interest is related to hedging activity on the part of the firms who invested in SMSI’s recent rounds of funding.

            The high short interest indicates that the hedging activity is behind us… and with the stock at the end of its pennant consolidation pattern (see my last report), I anticipate the next leg up should get started here.

            Like

  3. Hi Mark, OK thanks I will look into it further. I just think that if they have that much control over the short interest, they could naked short or basically do whatever they want because they have so many warrants. How low do you think this could get before starting the next leg? That’s all the questions I have for now. Have a great one.

    Like

  4. I think it’s noteworthy that the lowest part of the trading range of the stock is just above what the participants paid for shares during the last secondary. Once the shenanigans are over, we should climb back up.

    Like

  5. Folks,

    Someone sent me a question via direct message. Please, only direct questions via this board. Soon, I’ll only answer a limited # of questions via a weekly Live Q&A. This thing is getting so big that the questions are interfering with research time… and we don’t want that! 😂 I hope you all understand and agree.

    Anyways, the person asked if SMSI was a “pump” and appeared to hope so (presumably because it appears poised to break out of its technical channel… and because I write a lot about it… and because he/she will make los of money from current levels of it gets “pumped”).

    My response was as follows:

    I can understand what you’re saying, but I focus on undervalued companies achieving their fair value. To me, a pump denotes a movement to overvaluation, leaving some investors holding overvalued/overhyped shares.

    I’ll play no part in that and nor should you. Making money at the intentional expense of others is immoral, besides being unnecessary. Stocks are INVESTMENT assets, not win/lose gambles. As such, EVERYONE can make money on a good long.

    The same is not true for shorts, but I do try to warn people about overvalued companies (as I have with HMNY), as opposed to tricking them for my benefit. There’s NEVER a cause for that And I do believe that God, karma, kismet (or whatever you want to call it) punished those who do.

    Remember, Greed is a deadly sin… and I don’t believe the 7 deadly sins are merely religious. After 47 inquisitive and experiential years in this planet, I believe they are scientific as well. A story for another day (or a GAIA video…haha).

    BOTTOM LINE: My goal is to educate investors on how to REALLY analyze companies and work together. Through collaboration and teamwork, I believe we can achieve as much as the biggest Wall Street research teams. They simply can’t compete with our numbers if our efforts are properly directed.

    I am NOT about trading, NOT about charts (though I appreciate the role they can play as a risk/reward tracking tool), and certainly NOT about that Lightning Round type garbage Jim Cramer lays out. Properly assessing the value of a company takes TIME and meticulous attention to detail.

    Like learning a song, once you know a company and its stock, you can play it like a pro for your entire life.

    That other stuff is exciting and sells, but it’s not how professionals REALY do it.

    Not even Cramer. I know… his firms were clients of mine for MANY years. They do deep research too. It just doesn’t appeal as a way to get TV ratings.

    Cheers,

    Mark G

    Liked by 2 people

      1. In fact, over the next weeks I plan to review Smith’s website and read all your articles on SMSI. I will compile a list of meaningful questions in 1 post. Hopefully you will still be taking questions then or at least be willing to make an exception. I look forward to digging in!

        Liked by 1 person

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