Shares in Eastman Kodak (NYSE:KODK) have been on a rocketship rally since the company received a $765 million loan via the Defense Production Act to produce generic pharmaceutical ingredients that are useful to efforts to treat and/or prevent COVID-19.

Kodak may have been selected because of its large, underutilized manufacturing capacity, which includes 88 reactors and a water treatment plant, according to CNBC. The network further states that film chemicals are similar to the key starting materials (KSM) used to manufacture pharmaceutical drugs. 

While Kodak stock got a huge price boost out of the news and looks attractive, investors should think twice about jumping on board. The company has a long track record of failed business ventures. And its strained financial condition may make it difficult to properly capitalize on this new revenue opportunity without diluting investors' shares or taking on additional debt. Here are two reasons to avoid the stock.

1. Kodak has questionable management 

Eastman Kodak has a long track record of questionable managerial decision-making. In 2012, the company filed for Chapter 11 bankruptcy protection because of its inability to transition from the high-margin photo film business to less profitable digital cameras. After restructuring, Kodak left the camera business altogether, and now focuses on corporate imaging and other poorly thought-out business ventures. 

In 2018, Kodak joined the cryptocurrency sphere with the announcement of KODAKcoin, a "photo-centric cryptocurrency to empower photographers and agencies to take greater control in image rights management."

KODAKcoin was designed to work with Kodak's image licensing platform KODAKOne, which uses web crawlers to identify intellectual property for clients. But the announcement of the cryptocurrency seemed to have had little to no fundamental implications for the company. Kodak's stock soared over 233% from $3 to over $10 following the announcement in January 2018 before quickly falling back down to earth.

Kodak made no mention of either KODAKcoin or KODAKOne in its most recent first-quarter earnings report, so it's safe to assume the ventures have not translated to meaningful revenue.

Then a report came out late last week that implied that Kodak management may be benefitting unfairly from insider knowledge of the company's actions. According to a New York Times report, Eastman Kodak CEO Jim Continenza received 1.75 million stock options a day before news of the government loan went public, and he has earned millions (on paper) after the stock's massive rally. The company's board of directors also received millions in stock options in May while the company was negotiating the government loan. Through a spokesperson, the CEO and board deny any wrongdoing. But this news is another example of questionable management decisions going on at the company.

2. Kodak has poor financials 

Now, after failing in its camera and cryptocurrency ventures, Kodak wants to start manufacturing KSM, which are raw ingredients for making prescription drugs. To achieve this, the company obtained a $765 million loan through the Defense Production Act as part of the government's push to "re-shore" America's healthcare supply chain away from China and other foreign countries. 

In the week of wild trading following the loan announcement, Kodak stock -- trading at a steady $2.18 a share before the news -- was up more than 1,800% at some intraday points before setting in at a roughly 780% boost to $19.36 a share on Monday. Shares have been falling -- and will likely continue to fall -- because Kodak's weak financial condition will make it hard for the company to capitalize on this new revenue opportunity. 

In its 2019 annual report, Kodak highlighted "substantial doubt" about its ability to continue as a going concern because of cash flow challenges. Things did not get better in the company's 2020 first-quarter report, which was released on May 12. 

In the first quarter, Kodak reported a revenue decline of 8.2% to $267 million and a net loss of $111 million. With only $209 million in cash and equivalents on its balance sheet, Kodak may have a limited financial runway without diluting share value or taking on additional debt to fund its new expansion. The $765 million loan will help ease the cash crunch in the near term, but might not be enough to sustain Kodak until the new pharmaceutical operation becomes profitable. 

Management has not provided any color about expected cash flow from the pharmaceutical business -- but judging by its failing track record, investors shouldn't be too optimistic. 

The takeaway 

Eastman Kodak highlights the potential dangers of investing in small, thinly traded penny stocks. Penny stocks can look tempting when their share prices soar -- but that doesn't make them good investments. Kodak's stock was cheap for good reasons: bad management and poor fundamentals. This new government loan doesn't change the company's core problem and overall sketchiness. 

While Kodak has undeniable potential in chemical production because of its large manufacturing footprint and the supposed similarity between film chemicals and pharmaceutical KSMs, the company may struggle to execute on its new business venture. That uncertainty doesn't bode well for current and potential Kodak investors.