Marquette University’s Applied Investment Management (AIM) Program
AIM Fund Investment Advisory Board Meeting
AIM Equity Fund Presentations
Thursday, May 10, 2007
10:30 AM – 12:30 PM Room DS265
Table of Contents
Page
Acme Packet, Inc. 4
American Oriental Bioengineering Inc. 7
Diodes Inc. 10
Empire District Electric 13
First Cash Financial Services 16
Healthcare Service Group, Inc. 19
InfoUSA 22
Journal Register 24
K-Swiss Inc. 28
Marlin Business Services Corp. 31
Medical Properties Trust Inc. 34
Radiation Therapy Services Inc. 37
Watsco Inc. 40
Ceradyne Inc. 43
Frontier Financial Corp. 46
Lincoln Educational Services Corporation 49
Sun Healthcare Group Inc. 52
TTM Technologies 55
Acme Packet, Inc.
APKT
Price: $12.01 ($11.50-$21.97)
Fiscal Year Ends: December 31
Date: May 7, 2007 Christopher Caparelli
Russell 2000 Index: 831.87 (668.58 – 835.17) Software Sector
Acme Packet, Inc. is the leading provider of Session Border Controllers (SBC); devices that enable interactive communication service providers to provide high quality and secure communication over Internet Protocol (IP) networks. SBCs, which contain both hardware and software components, play an integral role in the continuing development of the internet as a viable medium for voice, video and other real-time multimedia communication. Acme’s technology, primarily used for Voice over IP (VoIP) transmissions, is sold to over 360 carriers in 75 countries, comprising more than 50% of the SBC market. Founded in 2000, Acme went public in October of 2006 at $14.00 per share. Acme is headquartered in Burlington, Massachusetts and has 250 employees in 20 different countries.
Recommendation
Key Statistics /May 7, 2007
Market Cap / $704.36 MShares Outstanding / 58.7M
Average Volume / 345,843
Beta / 1.62
EPS (TTM) / $0.43
2007 Estimated EPS / $0.34
P/E (TTM) / 26.88
PEG / 1.31
WACC / 13.23%
ROA / 21.95%
ROE / 25.24%
Gross Margin / 34.33%
Operating Margin / 27.58%
Target Price / $18.50
The market for Acme’s products comes primarily from internet service providers looking to merge their traditional voice networks and next generation data services onto one network. While the current Public Switched Telephone Network (PSTN) provides flawless voice service, it does not have the bandwidth capabilities that video and other real-time multimedia transmissions require. The internet, while designed for high volume data transmission, does not offer the security or reliability necessary to successfully transmit voice communication. Using SBCs for reliability, security and control, VoIP has offered a solution to this problem, allowing for the routing of voice conversations over the Internet. This allows service providers to deliver voice, video and data service packages over the internet, providing unmatched convenience which has already proven popular with businesses and consumers. Global revenues in the market for SBCs are forecast to grow from $143 billion in 2006 to $571 billion in 2009 by market research firm Infonetics, leaving Acme with fantastic growth prospects. Sales growth for Acme in the coming years is forecast at well over 100%, leaving me to recommend Acme Packet for addition to the AIM portfolio with a target price of $18.50.
Investment Thesis
· Technological Evolution. Through the routing of voice conversations over the internet, service providers have experienced a major decrease in the use of traditional wireline services. With the PSTN no longer serving as a viable alternative, service providers will continue to look towards Acme Packet for the SBCs crucial in the VoIP process. Acme will look to maintain its status as the leading provider of SBCs as this technology continues to grow and evolve.
· Market Strength. Acme sells its products and services to over 360 different customers in 75 different countries. Their customers include 23 of the 25 largest service providers in the world as well as 72 of the largest 100. Acme controls greater than 50% of the market share for SBCs, dominating the pure-play competition including Nextone (17% market share) and Newport Networks (7%). The overall market for SBCs is one characterized by high switching costs, with providers unlikely to change vendors once their equipment has been integrated into their networks. This places Acme in a dominant position as providers look to aggressively expand their VoIP offerings in the coming years.
· Attractive Valuation. Acme’s stock has taken a hit in the last few months after having reached a closing high of $19.64 on January 16, 2007. This tumble has not been caused by any company news as the company has remained relatively inactive since last quarter’s earning report. The market has been bearish as a whole for the space in which Acme operates, but I expect this trend to reverse in 2007. The recent downturn in Acme’s stock has not changed the underlying assumptions in my valuation, but rather, presents an attractive buying opportunity.
Valuation
A five year discounted cash flow model yielded an intrinsic value for Acme Packet of $18.43 with a 30% margin of safety built in, suggesting that the stock is currently undervalued by about 35%. The company is trading at a high earnings multiple because of its strong growth prospects and the expectation that sales growth could exceed 100% for the next year or two. While the financial statements from the last year look optimistic because of a large one time tax credit, Acme appears positioned to continue their strong financial performance.
Risks
· Technological Adoption. The biggest risk posed to Acme’s success is the rate at which this new technology is adopted as a mainstream form of communication. Currently the cable industry leads the way in VoIP adoption, integrating this service into their popular “triple play” subscriptions. Traditional companies such as AT&T and Verizon have yet to push for VoIP technologies to be integrated into both their wired and wireless offerings. If the rate at which these traditional telecommunication companies adopt this technology is slower than expected, it will have a negative impact on Acme Packet.
· Revenue Lumpiness. While Acme is expected to perform at a high rate on an annual basis, revenue lumpiness on a quarterly basis can cause high price volatility. The nature of Acme’s business leads to a huge influx of revenue whenever a new customer makes a purchase, followed by a period of little revenue as Acme services and supports their products within their customer’s networks. These uneven revenue streams can lead to price volatility, potentially dropping the stock price for extended periods.
· Increased Competition. While Acme dominates the market of pure play SBC companies, the high margins that Acme earns will undoubtedly attract increased competition. Integrated companies such as Cisco Systems and Juniper Networks have begun to manufacture their own SBCs posing a risk to Acme in the future.
Management
Acme Packet was co-founded by Mr. Andy Ory and Mr. Patrick MeLampy in 2000. These two men along with the rest of Acme’s senior management have an extensive background and thorough knowledge of both the IP networking and telecom industry. Mr. Ory is the current CEO of Acme while Mr. MeLampy is and has been the Chief Technology Officer for the firm.
Ownership
% of Shares Held by All Insider and 5% Owners: / N/A% of Shares Held by Institutional & Mutual Fund Owners: / 25%
Top 5 Shareholders
Holder Name / Shares Held / Percent of Outstanding SharesTIAA-CREF Investment Management, LLC / 2,088,553 / 3.56%
Tiger Global Management, LLC / 1,500,000 / 2.56%
Oberweis Asset Management Inc. / 1,388,411 / 2.37%
Next Century Growth Investors, LLC / 1,194,140 / 2.04%
Gilder, Gagnon, Howe & Co. / 837,580 / 1.43%
American Oriental Bioengineering Inc.
AOB
Price: $10.52 ($4.55-$14.19)
Fiscal Year Ends: December 31
May 4, 2007 Peter Merkel
Russell 2000 Index: 832.88 (668.58-835.17) Health Care Sector
American Oriental Bioengineering’s principal activities are to manufacture and formulate supplemental and medicinal products using proprietary processes. They focus on new product research to combine biotechnology and Chinese medical technology to capture the increasing demand for traditional Chinese medicines and health supplements. AOB owns and operates several plants in addition to a large capacity soybean peptide manufacturing plant. Soybean Peptides are used widely in general food and health food products, sports foods, medicines, the fermentation industry and environmental protection applications. These are easily absorbed by the body and can lower blood pressure and blood fat levels, enhance immunity, lower cholesterol, prevent cardiac and brain blood vessel diseases and inhibit the growth of tumors. On 27-Jul-2006, AOB acquired Heilongjiang Qitai Pharmaceutical Limited. AOB is based in Shenzhen, China.
Recommendation
Key Statistics / May 04, 2007Market Cap / $681.53M
Shares Outstanding / 64.78M
Average Volume(3m) / 1.719M
Beta / 1.42
Diluted EPS (TTM) / $.46
2007 Estimated EPS / $.61
P/E (TTM) / 22.67
PEG / 0.54
WACC / 12.14%
Debt/Assets / 6.00%
ROE / 23.65%
Gross Margin / 65.22%
Operating Margin / 33.02%
Target Price / $14.00
As a company, American Oriental Bioengineering Inc. presents itself favorably due to its variety of organic products in a highly demanded market. As an investment, AOB should be a profitable addition to the AIM portfolio because of its potential upside of 33%. Over the last five years AOB has averaged yearly revenue growth of 82%. This was due to the acquisition of several companies in the last two years. These acquisitions have expanded the company from its original northeast China markets to substantially all of China’s 23 provinces. AOB’s distribution network increased to 100,000 points throughout China. Based on a target price of $14.00, this stock is an attractive buy.
Investment Thesis
· Viable products in a niche market. In January 2007, AOB introduced a new product that targets women in the 15-to-64 year range with its Jinji capsule and Yi Mu Cao.
· Adequate cash on hand and access to capital to take advantage of opportunities. With about 2,000 companies active in the traditional medicine market in China and the Chinese government’s push to privatize the companies it owns, AOB is in a good position to make further acquisitions with $88M in cash on hand. In addition, listing on U.S. equity exchanges opens access to capital as part of their growth strategies.
· Almost zero current R&D expenses. With no drug under the approval process, no product licenses revoked, and no products on the government-issued price-cut list, AOB is in a good position to maintain its growth and be sheltered from the China State and Food and Drug Administration (CSFA) investigations. Contrary to other companies, AOB received a favorable price hike for its Shuang Huang Liang injection powder after a government review.
Valuation
Based on a 10-year discounted cash flow analysis, American Oriental Bioengineering’s intrinsic value is $13.54. According to a relative valuation model based on the forward EPS of firms in the industry, the stock should be valued at $15. This is based on a 25x 2007 EPS multiple. I believe a target value of $14.00 is reasonable. The company pays no dividend.
Risks
· AOB’s CEO Tony Liu owns 23% of AOB’s common shares. In addition to ownership of the common shares, Mr. Liu owns 100% of the Series A Preferred Stock which gives him 48% total voting power of all shareholders.
· The recent scandal involving the CSFA. Earlier this year, the Chinese government ordered an investigation into CSFA and its drug approval policies. This should not affect AOB because its drugs were approved over a decade ago and the investigation is about recent approvals. However, there is a risk that there will be a general short-term slow down in the industry if consumers shy away from certain products. The strong brand name and image of AOB might not be enough to counter these events.
· Additions to AOB’s basic and diluted shares counts will come to an end. AOB’s outstanding warrant count was at 4.0M as of March 2007. With a strike price of $5.51 and expiration in December 2008, it is likely that all of these warrants will be exercised over the next two years.
Management
Led by CEO Tony Li, management has successfully improved operating efficiencies. For example, in 4Q06 days sales in inventory was 75 days (compared to 112 days the previous quarter and 102 days a year earlier.) In addition, accounts receivable turnover has improved from 38 days at the beginning of the year to 23 days by fourth quarter of 2006. These efficiencies reflect management’s commitment and ability to efficiently integrate acquired operations and improve existing operations. In February, management had a short list of two possible targets for acquisitions. Recently in a conference call, no additional guidance on potential acquisitions was provided. This could be a sign that management is being patient about new acquisitions in order to identify acquisitions whose products compliment AOB’s current line.
Ownership
% of Shares Held by All Insider and 5% Owners: / 28 %% of Shares Held by Institutional & Mutual Fund Owners: / 32 %
*Source: Yahoo! Finance
Top 5 Shareholders
Holder Name / Shares Held / Percent of Share OutstandingLui Tony / 14,858,871 / 22.94%
MORGAN STANLEY / 2,169,900 / 3.35%
TURNER INVESTMENT PARTNERS, INC. / 1,615,458 / 2.49%
COLUMBIA PARTNERS, L.L.C, INVESTMENT MANAGEMENT / 1,371,114 / 2.12%
INSIGHT CAPITAL RESEARCH & MANAGEMENT INC. / 1,316,255 / 2.03%
*Source: Yahoo! Finance
Diodes Inc.
DIOD
Price: $38.00 ($31.65-$47.58)
Fiscal Year Ends: December 31
Date: May 4, 2007 Luke Junk, Pat Flaherty
Russell 2000 Index: 832.88 (668.58 - 835.17) Hardware Sector
Diodes Incorporated is engaged in the design, sale and manufacturing of discrete semiconductor products, fixed-function devices that are less complicated than integrated circuits. The company maintains a portfolio of over 4,000 products are sold into a diverse group of end-markets, including the consumer electronics, computing, industrial, communications, and automotive sectors. In addition to its US headquarters, Diodes maintains sales, manufacturing and marketing facilities in the US, Taiwan and China. Major competitors include Fairchild Semiconductor, International Rectifier, Vishay Intertechnology, and ON Semiconductor. Diodes has been a public company since 1966 and is headquartered in West Lake Village, California.