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ADPT (OTC: ADPT.PK), formerly known as Adaptec, is a "tech" company that makes all sorts of things we don't understand and have no business pretending we do. But fortunately, it doesn't matter -- and yet, it's still quite Foolish!
Buying this stock puts you on the side of ADPT's largest shareholder, Steel Partners, an activist investment firm that now manages the company and explicitly intends to sell it and profit from its tax losses. You can buy today at less than net cash per share and endure a very small cash burn while you wait for Steel Partners to bring you gains.
Steel Partners won control of the company in October 2009, and it was quite a battle, which is why they are called "activists." Two months later ADPT announced they hired Blackstone Advisory Partners to assist with the sale of assets or operations. The express goal of current management is to wind down or sell the existing businesses and assets, from its wholly owned Aristos Logic Corp., to non-core patent portfolio and real estate, and maximize the value of its net operating loss carry forwards ("NOLs," as opposed to "LOLs"). Its first step came in June 2010, when the company closed the sale of its data storage hardware and software business to PMC-Sierra (Nasdaq: PMCS ) for $34 million, about $0.25 a share.
Downside and up
I invest by estimating risk and reward. My service, Motley Fool Special Ops will take any risk for which the return adequately compensates -- and the more the downside risk, the better that potential return must be. Think of us as people who haunt the stock race track, handicapping stock horses or their jockeys.
By focusing on risk, however, value investors often come across as stodgy. We differ. Actually, speculators and high-growth investors unwittingly accept way too little potential return for the huge risk of loss they take.
Thus I lick my lips at ADPT. After selling a piece of the business to PMC-Sierra for $34 million, the company has $3.23/share in cash. Management watches every last penny, but there is still about an average $5 million per quarter in cash burn. Assuming that continues, we must allow for a $0.16 reduction -- $20 million across 120 million shares -- per year. At today’s $2.90, it would be more than two years before net cash per share came down to this buy price! Of course, companies have traded and will sometimes trade below net cash -- and a discount is warranted here given the burn, however slight -- but it’s a still a most excellent margin of safety.
This is why this is so favorable a risk-reward situation. If you buy below net cash per share and the burn is manageable, you can afford to wait for management to bring you profits. The upside is almost free. And so long as net cash is higher than the share price, you are in effect being paid to take the potential gain.
Not all skittles and beer
Not that there aren't any risks -- there always are. Maybe Steel Partners got this one wrong. Maybe ADPT spent millions over years buying up companies that no one wants. All the companies ADPT spent years buying up, maybe they're worthless and all a shareholder owns is a slowly dwindling cash pile and some funny tax thingies. It could happen.
That's why it's best to buy at less than net cash and watch the cash burn closely. If the burn turns into a conflagration, it's time to sell.
The Foolish bottom line
This is an extremely special situation: Buy at less than net cash per share where cash burn is limited, and wait for management to act for its and your benefit. It's like holding cash with the benefit of stock-like profits!
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