May 23, 2013 -- Revised EOY Sustainable Price Target Range -- $.105 to $.114
This is to share my reasonable expectations for CERP's sustainable PPS target range this year. As of 5/16/13, the O/S was 498,781,674 (Q1 2013 report, p 20). Assuming the dilution continues for the next few months, until CERP becomes cash flow positive, I will further assume the O/S increases to 750M. My projected EOY range is based on a straight eps analysis and one of the higher prices in 2011. I'm no TA expert and will not opine on the technical price ranges.
EPS Analysis -- $0.105:
Over the past couple months I've read several posts here with price targets between $5.00 and $1.00. As much as I would be elated with even $.50 by the end of the year, I strongly believe the PPS will not come close to this number, even with a strong technical breakout. To reach $0.50, for example, assuming a PE of 15, CERP's eps must be about $0.033; this would equate to $24,750,000 on about $100M in revenues. There is no evidence to support the company will reach this number any time soon. Though Doc's $.285 resistance level may be reachable this year, it won't last unless the company has a miraculous turnaround -- perhaps a couple tsunamis of orders from Italy within the next couple months. Having said that, if CERP can accelerate its revenues, become profitable, and put up two to three quarters of accelerated earnings, the PE could reach 25 or higher. And if so, the $.20s may be sustainable. From a pure earnings-based analysis, however, I am projecting an eps of $0.007, which translates to a $0.105 stock price (2011 revenues of $20M, 25% after-tax net margin, 750M O/S). This is the bottom end of my price range. If the O/S is less or the margins or revenues are higher, CERP will exceed my bottom price target. For example, assuming the O/S remains at 500M, CERP could hit $0.15. This is the painful price of dilution.
Historical Analysis -- $0.114:
Based on a historical analysis, of which I am the sole originator and take full credit for all of its flaws and inadequacies, the top range of my sustainable price target is $0.114 ($1.14 if the company executed a 1:10 R/S). It is a simple analysis based on CERP's highest 2011 PPS and its performance that year. This may disappoint most of the longs here, but this price would be a 293% increase from yesterday's close, almost a triple bagger in less than a year!
My reasoning is based on the following:
Per the FY10 10K, page 16: "As of March 29, 2011 there were 15,688,634 shares of common stock outstanding on record with the Company’s stock transfer agent..."
Per the FY11 10K, page 16, the highest PPS in Q1 FY11 was $5.34.
Per the FY13 Q1 10Q, page 14, there were 498,781,674 shares outstanding.
Since the stock price peaked at $5.34 during FYQ1, CERP's O/S has increased from 15,688,634 to about 500M (about a 3000% increase, though a 4680% increase if the O/S increases to 750M). (I still haven't figured out how the chartists and TA experts compensate for this massive dilution. Do chart tools exist that can handle this? If not, how can an investor reasonably give any weight to estimated resistance levels that appear to be based on historical prices at at time when the O/S was merely a fraction of today's O/S? This is not a rhetorical question; I really want to know. No offense, I have yet to see anyone here accurately predict this stock's price movement on a consistent basis over the past four months.)
As most folks here know, the company's revenues increased from $6M in 2010 to $20M in 2011 (losses also increased from about $7M to about $14M over the same period; for the official explanation for the increase in losses, see the end of this post). I understand the company is hoping to repeat its 2011 revenues. Cereplast's conservative estimated production capacity can generate $10M per month at $4,500 per ton. So I believe $20M is a reasonable revenue expectation for FY13. Assuming the same losses and revenues as FY11 and identical external and internal factors, a $5.34 price in the past would translate to about $0.114 -- again, this is assuming an O/S of 750M ($0.178 with the current O/S, which is slightly above Doc's $0.175 price target).
My historical analysis assumes, except for the O/S, everything else for 2011 and 2013 would be identical. I'll be the first investor to acknowledge it is impossible for the external and internal factors to line up exactly between these two years. One significant negative factor that exists today that did not exist in FY11 is the company's toxic debt. Another is the massive dilution, though this factor is intended to account for the dilution. Indeed, if the company released a statement that it has stopped diluting, this would reverse to a positive factor.
But there may be positive factors now that did not exist in 2011. Perhaps, for instance, CERP's COGS and administrative costs will be lower than 2011. With upper management taking a significant haircut to their salaries (e.g., Scheer's 90% salary reduction), combined with the restructuring and downsizing that has occurred over the past several months, the company has matured and become much leaner than it was in 2011. Another positive cost reduction factor this year relates to the returned products from its delinquent customers. Indeed, the company's costs on the returned products are virtually nil. The ban on single-use plastic bags in Italy was only just a dream in 2011, whereas it has become a reality this year, specifically, next week! This change alone has created a $50M-plus opportunity for Cereplast that did not exist two years ago. The company also appears to be making a little headway in India and at home, though very little. From a macroeconomic perspective, the EU market is faring a little better than it was in 2011.
When I expressed my first projection several weeks ago, I believed the known internal factor differences were more negative than positive than they were in 2011. And, so, I reduced my original projection of $0.26 by more than 25%. Since the Q1 CC, however, I believe the pendulum has swung in the other direction. The company expects to break even in the next few months, which, to me, seems to imply that 2H may be profitable. Remember the principal reason the company was unprofitable in 2011 was that it deeply discounted its products to win new customers (see below). I also anticipate there will be a heightened demand created by the ban in Italy, and that CERP's margins will be much stronger this time around. Indeed, even with the additional transportation costs from the IN plant to Italy, management is not concerned about competition. If a business is not concerned about competition, it will generally have stronger margins.
Despite my belief that the positive factors this year will outweigh the negative factors, I did not add a "positive multiplier" to my price target. Somewhere I read it is always best to cut projections in half. By refusing to add a positive multiplier, I believe I am partially following this philosophy, at least with regard to my historical analysis target.
Cereplast's Future Growth Potential $612M:
While some investors may not be happy with the potential for a 293% gain in less than a year, a patient investor who can sit on a core position could potentially enjoy even higher returns, significantly higher. The world, especially the EU, appears to be moving toward sustainability goals that will continue to generate revenues for Cereplast and other green companies. If the market potential for this company solely in Italy exceeds $50M, it is not too much of a stretch to believe the remainder of the EU could double or even triple this opportunity. And then there is India, the U.S., and the rest of the world. I'm not going to make any future revenue projections beyond 2013, but I will summarize Cereplast's potential production capacity and leave the rest for speculation by others.
The Seymour, Indiana plant is capable of producing $120M in revenues based on a retail price of $4,500 per ton. On p. 5 of the 10K, if line no. 3 is added, the Seymour plant's estimated annual production would increase by over 29K pounds - raising the total production capacity to 36K tons, which equates to a possible $162M in revenues. (This assumes the 3rd production line is used for bioplastic resin pellets instead of the algae-based resins, for which it is currently earmarked in the 10K.).
When the company is in better financial shape and can build out its plant in Italy, per p. 5 of the 10K, CERP could produce up to another 100K tons, thus creating the potential for additional revenues of $450M at today's retail rate. Accordingly, with each plant fully established and producing bioplastic resin pellets at maximum capacity, Cereplast would be capable of generating up to $612M. Valter confirmed this potential via email: "Your calculations are correct. Management has made a conservative estimate on the capacity of the facility."
Obviously, the ability to one day produce 136,000,000 tons and whether the company sells that much are separate matters. And I am in no way suggesting CERP will sell that much within the next few years. For me, however, it is at least helpful to know the company's revenue potential could exceed $600M after the Italy plant is fully equipped.
Food for thought.
I need to bolt - time for a family vacation!
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Note on the 2011 losses: Per FY11 10K, page 21, "Cost of sales includes both fixed and variable costs, including materials and supplies, labor, facilities and other overhead costs associated with our product revenues. Cost of sales for the year ended December 31, 2011 was $18.2 million, or 90.0% of net sales, compared to $5.2 million, or 82.7% of net sales for the same period in 2010. The increase in cost of sales over the same period in the prior year is attributable to two main factors: (1) cost of sales in the prior year period cannot be considered representative of normal sales or operations as we were in the process of relocating our production operations from California to Indiana and therefore had minimal production during this period in 2010, and (2) cost of sales in the current period reflects the tremendous growth in sales volume from the prior year."
"Gross profit for the year ended December 31, 2011 was $2.0 million, or 10.0% of net sales, compared to $1.1 million, or 17.3% of net sales for the same period in 2010. The decrease in gross profit percentage reflects the unusually high margins on very low volume sales in the prior year period combined with our sales strategy to gain critical market share in 2011 by offering low introductory pricing to some key customers to support their programs to bring new bioplastic products to market. This strategy has proven effective in contributing to strong sales growth and growing market share. We expect that margins will improve gradually in future periods as we capitalize on demand growth to diversify our customer base, implement strategic price increases and continue to gain operational efficiencies."
