Is Capstone Turbine the Perfect Penny Stock?

Low-priced stocks are often low-priced for a reason: They have significant problems to overcome. Yet for those that have fixed their problems, they may be ready to take off to the next level.

At Motley Fool CAPS, a "penny stock" is any stock trading under $10, and you'll find some of the best CAPS All-Stars regularly seeking out winning single-digit investments. We identify them with a penny icon and by pairing up their opinions with companies trading for pennies on the dollar, relatively speaking, we may end up with more than just chump change.

Of course, just because a stock is low priced, isn't necessarily enough to suggest it will have an easier time recording big gains. Low-priced stocks are often low-priced for a reason. But this week we look at alternate energy producer Capstone Turbine (Nasdaq: CPST  ) , which has seen its shares tumble 34% from recent highs and today trades at just over $1 a share.

Capstone Turbine snapshot

Market Cap $303 million
Revenues, TTM $114 million
Return on Investment (55.3%)
Dividend and Yield NA/NA
Recent Price $1.01
Estimated 5-Year EPS Growth 30%
CAPS Rating (out of 5) ***

Source: best defenseIt wouldn't surprise me to see Capstone Turbine begin receiving military or defense contractor orders for its turbine technology. Because they're run off the grid, they've proved extremely popular with oil and gas drillers who use the microturbines to power their rigs in remote areas. The aging electric grid is a point of vulnerability for military installations and its contractors, and Capstone's technology could provide a means of survivability in the event of a terroristic attack on them or it crumbles under its own dotage.

Until then, however, Capstone is content with supplying the oil and gas markets, and it's doing quite well. Product revenues rose 13% in the first quarter as shipments jumped 15% sequentially to 25.1 megawatts. Gross margins expanded 600 basis points as it realized strong sales volumes and 45% higher revenue per unit. While operating losses narrowed, net losses widened, but that was because of accounting requirements warrants. Adjusted losses are actually less, though both amount to an equal $0.03 per share loss.

Hitting another dry well
Pressuring sales has to be the continued reduction in new oil and gas rigs being deployed. Drillers like Kodiak Oil & Gas (NYSE: KOG  ) and EOG Resources (NYSE: EOG  ) stood on the brakes for new rig deployments and oil services firm Baker Hughes, which tracks these things, says the number of rigs drilling for natural gas in the United States fell by another 13 last week to 473, or 53% below where it was a year ago. The latest figures aren't expected to show any growth, either.

Yet as my Foolish colleague Rich Smith correctly notes, while it has diminished the amount of cash it's burning through, it needs to figure out a way to turn a profit. Management says it's working on reducing input costs and with $45 million in cash on its balance sheet it should be in no danger of running out any time soon, but despite the double-digit revenue gains it's still coming up short of expectations.

Better, but costly?
Capstone needs to lower the cost for its microturbines. While a company's total cost of ownership may be lower since the technology can operate on various forms of fuel, reduce emissions, and lower the cost of purchasing electricity in many instances, upfront costs for competing technologies like reciprocating engines produced by Caterpillar (NYSE: CAT  ) and Cummins (NYSE: CMI  ) are much lower while fuel cells and solar and wind power produce zero emissions.

There are many reasons Capstone's microturbines may be better anyway -- solar and wind power, for example, are highly dependent on weather conditions -- but because many of its customers are large, established companies, they can realize economies of scale and buying power when they hook up to the grid. By making its microturbines more competitive cost-wise, Capstone will go a long way toward narrowing the gap.

Penny for your thoughts
I happen to agree with Motley Fool CAPS member Teacherman1 that Capstone is a good, long-term play regardless of its near-term weakness. "I don't think they are going anywhere quick," he says, "but I want to own them for the longer term because I believe they will get to a level of sustained profitability and grow from there."

Analysts think that profitability could come as soon as 2014, perhaps sooner if the natural gas industry grows out of its funk, which I think it will. And as I noted before, the military may soon wake up to the aging, vulnerable nature of that "low cost" electric grid and decide it needs a Plan B should the lights not go on when you flip the switch.

Make some change
The CAPS investment community gives Capstone a middling three-star rating, though 94% of the 619 members weighing in on it believe it will outperform the broad market indexes. Tell me in the comments section below, however, if you agree Capstone Turbines has a big future in mini-power plants.

And though Caterpillar is always going to cast a long shadow regardless of what market it enters, is now the right time to buy? Get some valuable insight on the machinery giant from the Fool's premium research report on Caterpillar, in which our top analysts look at the company's challenges and opportunities going forward. You can learn more by reading the report today.

Fool contributor Rich Duprey holds no position in any company mentioned. Check out his holdings and a short bio. Motley Fool newsletter services have recommended buying shares of Cummins. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days. The Motley Fool has a disclosure policy.

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  • Report this Comment On September 14, 2012, at 10:57 AM, hanover67 wrote:

    CPST has been on my watchlist for a while, but my hesitation in pulling the trigger is that no matter how sales have grown, they haven't outstripped expenses. Now, analysts predict 30%+ growth for the next 5 years. How could a company growing at that rate not become profitable, assuming its products are mature enough to allow R & D and SGA to decline as a percentage of revenue? 30% is a high trajectory if it materializes.

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