My Stock Winners

It’s quite an oddity when the words “Value” and “Biotech” are ever used or seen in the same sentence. Why? Well…biotech is in the business of hopes and dreams and the last time we checked those items were of little tangible value. Investors as well as patients are looking for new blockbuster medications that can save lives and create riches. However, it takes a mountain of money to take a drug from preclinical studies into Phase III clinical trials and if things work out…ultimately into the market place.

Globally the pharmaceutical sector spends an estimated $53 billion a year on research and development. Despite this massive amount of capital an average of less than 26 drugs per year have been brought to market in the last eight years.

If $32 billion out of $53 billion results in failed drugs that means the chances of success are roughly 1 out of 3. That is pretty risky when the gamble is $800 million dollars. It is for this very reason the SmallCap MarketWatch has stayed away from biotech in most situations. In the very few circumstances where feel the inclination to be bullish, the underlying reason is almost always hard cold cash. The subject of today’s edition, Inhibitex Inc. (INHX), is a company that had $59.5 million in cash at the end of Q1 2007 and a current market capitalization of $37.06 million. On March 8, 2007, the Company provided financial guidance for 2007, indicating its anticipated net cash burn for 2007 would be less than $11 million (press release). Assuming this is the case, Inhibitex should have almost $55 million in cash when the company reports earnings next week on August 9th. In case we forgot to mention, the stock closed yesterday at $1.20 per share while cash per share is in the neighborhood of $1.75 per share. We often hear people say that this company or that is “worthless” but here we actually have a case of being worth less than cash.

Things at Inhibitex weren’t always so dire. The company was actually founded in 1994 and went public in 2004 raising $35 million dollars at $7 per share. Based on the current 30.6 million shares outstanding the company was sporting a valuation of $214 million or over six times today’s market value. The beginning of the end occurred in Q1 2006 when the company had disappointing news regarding their leading drug Veronate. This drug was being developed for the prevention of hospital associated infections in very low birth weight infants. As we mentioned earlier in this edition, biotech is a risky venture and Inhibitex’s Veronate failed phase III clinical trials. Not surprisingly, this sent the stock into a tail spin from a high of $10.82 to a low of $1.42 down to yesterday’s all time low of $1.20 per share.

This is where we have to give the management team at Inhibitex some serious credit. Instead of just sitting there shell shocked the company is actually trying to survive although things for shareholders have not prospered. In the past 52 weeks share of INHX are down 20% BUT it has been quite an improvement from 2006 as readers can see from the chart above.

Inhibitex has completely divested its interest in Veronate and has refocused resources on its MSCRAMM platform. The company has successfully restructured its operations reducing its burn rate from $9 million in Q1 ?06 to $11 million for all of 2007. It’s never easy to make the hard decisions that enable a company to survive. In this instance, we think management has done a good job of trying to salvage what must have been a tremendous heart ache.

Inhibitex is now focused in the novel antibody space. Novel antibodies are geared towards the prevention and treatment of serious bacterial and fungal infections. All of the company’s current projects and licensing agreements are based on their proprietary technology MSCRAMM protein platform. One of the main functions of the immune system in the human body is to produce antibodies. Antibodies are proteins that attach themselves to infectious agents (pathogens) within the body. MSCRAMM is a protein that has been found successful to bind with different antibodies.

Going forward, the company has a couple strong drug candidates in its pipeline. First, Inhibitex’s leading drug candidate is Aurexis, which has completed phase II clinical trials and has also been granted fast track designation by the FDA. Aurexis is an antibody that targets S. aureus or commonly known as staph infections. If the drug enters phase III or the company announces a pharma partnership there could be a tremendous upshot for the stock.

The Best Time to Short AMZN is NOW –8/8
Though I am usually hesitant to short high growth names, I believe the risk with AMZN is relatively low. Given memories of the internet bubble, and valuations significantly above other internet companies with superior growth profiles, I find it hard to believe that AMZN could achieve additional multiple expansion.

Also, given my low expectations from growth initiatives, I don’t believe we’ll see AMZN as anything more than a 20% grower in a low margin retail business which, if correct, will be rewarded with a much lower valuation than experienced currently.

Likely worst case scenario in my mind is that AMZN grows into its valuation over the next couple years and the stock moves nowhere. One option for the risk adverse would be to do a pair trade with GOOG and/or EBAY and profit from the multiple compression while hedging out some risk that the market continues its irrational pricing of some internet stocks.

Potential catalysts:
-Continued failure of new initiatives
-Internet sales tax is enacted or gains momentum
-Increased competition from niche players and offline companies building out an online presence.
-Rotation away from the internet names
-Unexpected tax rate fluctuations in upcoming quarters

Disclosure: I am currently short AMZN.
And
Amazon Senior Vice President and Chief Financial Officer Thomas J. Szkutak Sells 26,000 Shares on 10/4/2007

With September out of the way, what’s left to fret? Investors have been spooked by October’s reputation—not because of Halloween—but because it has been a bottoming month for many market meltdowns: Five of the last nine bear markets in the past 50 years ended this month. It also hosted the granddaddy of all crashes, in 1929, and a pretty fair-sized “market break” in 1987.

Here is a link to see my past articles of some good picks:
http://www.mystockwinners.com/china-stock-watch-vcdyob/

The Best Time to Short AMZN is NOW –7/8
Both of whom I would argue have more sustainable competitive advantages, more attractive margins, and as good if not better growth prospects than AMZN. Even if we assume AMZN is worth the high end of GOOG’s EBIT multiple, the stock would be worth about 40% less than it is today. If use consensus forward P/Es rather than EBIT, the numbers look even worse: 70x 2007 for AMZN, 33x for GOOG, and 23x for EBAY. Using GOOG again as the upper end of a market valuation would result in a drop of 0ver 50% from todays levels. Using EBAY (arguably a more fitting comp) would result in 67% drop.

Another way to look at this is that the market was valuing AMZN at about $45/share before their earnings announcement, which it beat largely due to a lower than expected tax rate, a large decrease in R&D investment, and favorable foreign currency gains. I think it’s difficult to argue that these factors should result in adding about $25/share increase, and that as a base case it would appear reasonable that AMZN should return to $50, where it was trading before its earning release, or a decrease of about 30% from current levels. Basically, any way you slice the analysis, AMZN is trading at an unjustifiable high valuation compared to comps, where it has traded historically, and on an absolute basis

To be Continued….
(Meanwhile, here is a link to see my past articles of some good picks:)
http://www.mystockwinners.com/weekly-pick-intv/

The Best Time to Short AMZN is NOW –6/8
Amazon also went ahead and released Unbox, a video download service that received some pretty awful reviews, particularly in comparison to Apple’s storefront. This is another area where there are several established players, though no one has really been able to make the model work the same way it has worked for music. Even with broadband, movies can take a prohibitively long time to download, take up a large amount of server bandwidth, as well as a good deal of physical memory. Not to mention, unless you want to go through the hassle of hooking up your computer to your TV, you’ll be confined to your computer screen for video watching. Like Unbox, AMZN’s partnership with TiVo has generated little response, for similar reasons. Overall, I think this is another example of an expensive, early, and unattractive business. Despite all my reservatios, I’ll assume an EV of $800M for the digital opportunity, or about 8x the EV of Napster.

Conclusion
Reviewing many of AMZN’s most touted growth prospects reveals that, beneath the hype, AMZN faces significant competition in most areas, and even if we assume it becomes a market leader in each category, the total value of the opportunity is not particularly attractive currently.

Valuation
Netting out the $3B in non-core, immaterial businesses leaves us with a $27B market valuation on Amazon’s e-commerce business. Using Amazon’s upper end EBIT guidance for FY07 ($563M) gives us a forward valuation of 48x/EBIT. I use EBIT to net out the wild fluctuation in tax rate, which came in in the low 20%s vs. 40-50% historically for q1, and contributed to a large portion of the blowout q1. In addition to being an absurd multiple on its own right, this is well above EBAY (20-25x) and GOOG (25x-30x),

To be Continued….
(Meanwhile, here is a link to see my past articles of some good picks:)
http://www.mystockwinners.com/weekly-pick-intv/

The Best Time to Short AMZN is NOW –5/8
DVD rental
AMZN’s foray into online dvd rentals is a much hyped, but largely irrelevant part of AMZN’s future growth prospects. AMZN is a late entrant into the space, and it is unclear what additional value they bring compared with established competitors (NFLX, BBI, WMT, etc.), outside of arguably some benefit from their large customer list and distribution infrastructure.

Despite speculation that they would launch in the US, they have only launched in the UK for the time being. I find it ironic that this business is attractive and an asset to a company like amazon, while the business on a stand-alone basis (with BBI and NFLX) is considered to be intensely competitive, unsustainable due to high churn, and at risk altogether from digital downloads. Forgetting all the concerns with the business model and the fact that AMZN is way behind the competition, I will assume that AMZN will become a leader in the space and that this opportunity is worth $1.2B currently, which is NFLX current EV.

Digital Distribution
Amazon is trying to eventually position itself to be a leader in digital content distribution. AMZN is late to the party, and has some formidable competition from the likes of Google, Yahoo, Apple, and a handful of small niche players (MovieLink, CinemaNow, etc.). To date, AMZN has focused on hyping its new digital music service. Lets forget for a moment that nearly all the big players have launched a similar service, or that apple is the undisputed leader in the space.
After over a year of discussing ways of differentiating itself, including scrapped plans of releasing its own player, AMZN appears to have settled on a rather unspectacular solution–they will release DRM free music from EMI (for which APPL also has a contract), as well as 12,000 independent music companies. In other words, outside the 12k independent labels (who all likely have deal with APPL as well), there really isn’t much differentiation, at least for the time being. Also, unlike other players, AMZN risks cannibalizing its own music sales.

To be Continued….
(Meanwhile, here is a link to see my past articles of some good picks:)
http://www.mystockwinners.com/comments-on-iag/

The Best Time to Short AMZN is NOW –4/8

It is very difficult to do this with amazon’s solution, and this will never be something they are good at, given that they do not have a retail presence themselves. If you cut offline retailers out of the market, who are you left with, other than a few small niche online retailers who have themselves spent millions developing their own systems?

4) AMZN’s other services (search, storage, cloud computing, etc.) are of questionable value, and are not related to their core competency (ecommerce). They might be able to make a few million from selling some extra memory and bandwith to startups (as they do now), but in my mind these don’t representative particularly valuable near term or long-term business models.

For many of these reasons, Amazon has been eaten alive by GSIC in the e-commerce services space, which is the only area where I believe AMZN has a potentially valuable product. GSI, originally operator of small website Fogdog.com, has taken many of amazon’s customers and won many contracts in head to head battles with e-commerce behemoth. GSIC reported $600M of revenue in the last fiscal year with its business here. Though AMZN does not break out this revenue, its other bucket for $263M for FY2006, so at the very least this business is half that of GSIC’s and most likely more like a third or a quarter. Anyhow, for arguments sake, I will assume that this division is currently worth GSIC’s EV ($1B), despite my belief that these businesses will continue to drain cash, and not be worth much of anything at all.

To be Continued….
(Meanwhile, here is a link to see my past articles of some good picks:)
http://www.mystockwinners.com/signs-of-going-down-for-amzn/

The Best Time to Short AMZN is NOW –3/8
Amazon Web Services
This business has received hype for sometime–despite being offered for the last couple years and not gaining much traction. The sales pitch here is that Amazon can sell its best in class technology and logistics solutions to other companies rather than those companies needing to worry about managing their own proprietary solutions. Outside their impressive e-commerce engine, which has been the bulk of the services hype, AMZN has a handful of other tools (a mediocre search product, selling excess storage an computer power, alexa, etc.) that have limited commercial value. Some analysts speculate that this opportunity could become larger than the entire business. I don’t think any of these services–particularly the ecommerce service–will ever take off. Reasons include:
1) Amazon is essentially trying to sell its technology to its main competitors (offline companies coming online). This is a lose/lose situation. Either it works and you make your competition stronger, or it doesn’t and your business suffers.
2) Unsurprisingly, companies are not too keen on the prospect of outsourcing anything to a large competitor. If you are best buy, for example, how would you feel about licensing technology and trusting your infrastructure to your biggest online threat? It makes no sense to put the core infrastructure of your business into the hands of someone with a clear conflict of interest. Frankly, I can’t see this business taking off as long as AMZN also acts as a retailer.
3) AMZN’s e-commerce solution, in particular is not friendly with other solutions. If you are a offline retailer building an online presence, you want to be able to integrate your storefront with your webfront with your catalogue.

To be Continued….
(Meanwhile, here is a link to see my past articles of some good picks:)
http://www.mystockwinners.com/signs-of-going-down-for-amzn/

The Best Time to Short AMZN is NOW –2/8
Q1 “Blowout”

Amazon surprised analysts and everyone following the name. Though there were some legitimate business drivers for the gains (lower than expected margin compression, slightly better sales, etc.) the majority of the earnings surprise can be attributed to lowered R&D investment, a favorable tax situation, and foreign currency gains. These are not the kind of operational improvements that merit such an enormous increase in stock price, but instead served to artificially show earnings growth well above the real growth in the business.

Business Overview:
AMZN is the largest pureplay internet retailer, with $10.7B in sales in 2006, and has grown its revenue at about 25-30% per year for the last few years. Though AMZN is primarily known to US investors for their domestic presence, the company has become an international force, deriving 55% of sales from the US vs. 45% internationally. The company continues to grow outside its core media products into other categories (electronics, etc.), but media–composed of books, dvd, and cds, still account for 66% of revenue.

AMZN is entering other popular spaces, including distribution of online music, dvd rentals, and its much hyped Amazon Web services. These businesses are all in their infancy, but are being relied upon to deliver growth coming forward, which I do not believe will come for several years, if at all.

Amazon’s non-retail businesses
Before delving to much into the economics of AMZN’s core business, I think it is useful to discuss the prospects of Amazon’s non-core operating businesses. I will argue that even if AMZN were to overnight become a leader in each of these new business, the total value of these business would not amount to more than $3B, or 1/10th AMZN’s market cap.

To be Continued….
(Meanwhile, here is a link to see my past articles of some good picks:)
http://www.mystockwinners.com/signs-of-going-down-for-amzn/

The Best Time to Short AMZN is NOW –1/8

AMZN is a compelling short at current levels. AMZN has shot up over 100% in the last 6 months, most recently on its “blowout q1″ earnings report, a typically seasonally weak quarter in which AMZN reported EPS higher than their seasonally strong q4. Revenue growth has accelerated, and high hopes for new initiatives (digital distribution, web services, etc.) have fueled a speculative furor not seen in the name since the height of the boom. Analysts are excited by the prospect of amazon as a “media” company, rather than a online retailer of low margin products, trading at a over 100x earnings, with PEG multiples higher than GOOG and EBAY, both of which are more attractive, higher margin businesses.

For a variety of reasons, I believe these growth avenues are overblown, and that AMZN is more likely than not a leading online retailer with a strong online marketplace, low operating margins, and moderate but not spectacular growth going into the foreseeable future. I will argue that even if AMZN overnight became a leader in all areas they hope to grow into, the company would still be overvalued and likely to disappoint given current expectations. AMZN is overpriced on both an absolute basis, as well as relative to peers, and could see a upwards of a 30% drop based solely on a return to its prior lofty valuation levels, or upwards of a 50% drop if valuations were more in line with comps (which, arguably, are overvalued themselves), and potentially see further decreases as new ventures fail and their core retailing business receives continued pressure from offline and other online retailers, as well as the inevitable levy of an internet sales tax, which could wreak havoc on already tiny margins. Given the high PEG, as well as revenue and earnings growth going forward, I believe the risk of multiple expansion or multiples staying the same is relatively low, and that AMZN is an attractive low risk/high reward short.

To be Continued….
(Meanwhile, here is a link to see my past articles of some good picks:)
http://www.mystockwinners.com/category/weekly-pick/

Third quarter trading came to a close Friday, and for the eighth time in the last nine quarters, the Dow Jones 30 showed a positive return, adding 3.6%. The tech heavy Nasdaq gained 3.8%, as Apple and Google have both led the latest rally; while the S+P 500 picked up a mere 1.6%. Still, the quarter was the ninth gain out of the last ten quarters for both the S+P and the OTC market.

Things weren’t so rosy everywhere though, as the Russell 2000 small cap index broke a four quarter string of gains losing 3.4%. Even though the Federal Reserve followed the script and cut interest rates, concern for smaller companies growth prospects always come to the fore when a slowing economy becomes the headline focus.

Positive fourth quarter performance is reminiscent of how the American League has dominated the National League in the annual All-Star Game. For nine consecutive years, the stock market has moved higher in the year’s final frame. Besides nine in a row, it’s been 24 of the past 27 fourth quarters that have seen stocks advance by year end. So, unless you’re an extreme contrarian, it’s probably a good time to hang on to your hat and your stocks.

Even though interest rates are lower, credit markets are still squeaky tight. And while tech stocks have resumed their flight, the Dow Tranports and financial stocks of every flavor have been noticeably absent from all the rally hoopla. With housing having gone from the dog house to the outhouse, it will be intriguing to see whether the consumer steps up to the plate for the Holiday Shopping Season. IMHO, AMZN will go much lower as I point out in http://www.mystockwinners.com/high-pe-ratio-amzn-get-ready-for-the-fall/

However, it is almost a sure win to buy Chinese Stock which is regulated by USA rules, such as http://www.mystockwinners.com/china-stock-watch-vcdyob/
(Note: stock symbol has recently changed to chri.ob see more here http://finance.yahoo.com/q?s=CHRI.OB )

Best of Luck on the coming week!