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See Beyond the Downturn with Cbeyond and Two Other Stocks Insiders Favor
By Michael Brush
Exclusively for InvestorIdeas.com
July 18, 2008
Insider buying has lightened up considerably of late – most likely because of the clamp down by companies on insider activity around earnings season.
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But recent purchases at three companies really stand out.
Let’s get right to them.
Cbeyond (CBEY)
Cbeyond offers voice over Internet protocol (VoIP) phone and Internet access to small companies -- over its own IP network.
Its biggest market is Atlanta, where it got $19.4 million in revenue last quarter, or 27% of its total sales. The next largest markets are Dallas and Denver which generated about $17 million each last quarter. The company also has a big presence in Houston, Chicago and Los Angeles – a market which turned cash flow-positive in the first quarter, after 24 months in that city.
You might think that since Cbeyond is a provider of VoIP telecom services, it’s getting hammered by competition from the cable companies busy rolling out VoIP of their own. But that’s not the case. “To date, we have not experienced significant competition from cable television providers and do not believe that they intend to offer the breadth of services and applications that our customers purchase from us,” the company said recently.
Instead, Cbeyond’s problem – its stock has fallen to $17 from $45 earlier this year -- is that it works with tiny businesses. Over 80% of its customers have 30 or fewer employees. Small companies like these can have a particularly hard time during economic pullbacks.
Unlike large companies, they tend to operate lean and mean, so they have less room to cut costs when the economy weakens. Plus they can have trouble competing on price against larger companies, which can have better economies of scale.
All of this probably helps explain why Cbeyond fell short on net customer adds in the first quarter. It also has another challenge. It’s monthly “churn rate” – or the percentage of customers that leave – is going up. In the fourth quarter, churn jumped to 1.4% from a more typical level of 1%, and it hung up there at 1.3% in the first quarter. Predictably, unpaid invoices and bad debt have piled up, as a result.
In response, the company has tightened credit requirements and “flushed” almost 300 of its weakest credit customers in the first quarter.
But Janco Partners analyst Gregory Kolb doesn’t expect any improvement soon. “Our 2008 revenue estimate is below management guidance as we believe tough economies in the Detroit, Miami, and Minneapolis metropolitan areas may cause slower ramping of revenue than management expects,” he wrote in a recent note. “We believe slowing growth and continued difficulties will hit small business customers harder than their larger counterparts.
By some metrics, however, Cbeyond’s business looked good in the first quarter. The number of “customer locations” jumped 26% compared to a year ago, to 36,674. Revenue was up 27.7%.
I don’t like what happened to operating cash flow, however. It dropped 43%, for a decline of $3.3 million to $4.5 million. The company cites the need to invest in new markets, which is fine. But its costs are obviously going up -- the company says higher payments to suppliers and vendors ate into operating cash flow. In short, it seems like suppliers are raising prices on Cbeyond more than it can raise prices on its own customers. It needs to see that trend reverse, since it has such big capital outlay requirements to pay for the infrastructure needed to expand.
Another big use of cash was $2.4 million in annual bonuses. If the company is missing targets on net customer additions, why are people getting millions in bonuses? And how much more will they expect when good times return?
Motivation to buy stock
Despite the negatives, there’s big insider buying. A director, Scott Luttrell, has purchased $3.7 million worth of stock in the past six months at prices of about $15 to $17.50. He was among the insiders who dumped well over $50 million worth of stock in the $30 to $40 range last year before it tanked.
I’d cite four reasons for the buying.
- First, the economy is not as weak as a lot of people seem to think. One presidential candidate is adding to the gloom by saying we are in a “recession” when the numbers don’t support that – at least not yet. It’s not too unreasonable to expect a rebound from here, given the amount of fiscal and monetary stimulus in the pipeline.
- Next, the company expects to get back to normal churn levels “over the next several quarters” says chief Jim Geiger. He also expects net customer additions to return to higher levels in the second quarter. Expect around 2,000 new customers. Geiger is looking for even bigger growth in the subsequent quarters.
- The company is also sticking to its plans of moving into new cities. Late in the fourth quarter, it launched service in the San Francisco Bay area. “We are on track in San Francisco and ramping up our staffing and sales and expect solid success in this vibrant small business market,” says Geiger. Cbeyond started serving customers in Maimi -- its tenth market – in the first quarter. It plans to launch in Minneapolis this summer.
- The company is also concentrating more on “upselling,” or getting existing customers to buy pricier features.
Other notable buys
Besides Cbeyond, I’d cite two other notable rounds of purchasing over the past week or so.
Charming Shoppes (CHRS)
At the women’s clothing chain Charming Shoppes (CHRS) insiders bought $246,000 worth of stock on July 11, two days after its long-time chief Dorrit Bern resigned. The resignation happened after activist investors wrangled board seats in May. The investors had been questioning whether Bern was the right person for the job.
"We believe getting some fresh perspective could drive improved results," Thomas Weisel Partners analyst Liz Dunn wrote in a note following the move.
Charming Shoppes was recently a holding of Robert Rodriquez at First Pacific Advisors, a money manager who has a knack for turning big profits by purchasing beaten up retailers when they are down and out.
Stericycle (SRCL)
And though it’s not the kind of small-cap company we normally focus on here at Insiders Corner, the medical waste management company Stericycle (SRCL) saw so much insider buying recently, it’s worth a mention.
Stericycle has a dominant position in medical waste, with a 16% market share and revenue that's 15 times sales at the next-largest competitor, according to Morningstar (MORN) analyst Brian Nelson. “Its unrivaled scale and integrated waste-collection operations have enabled the firm to become the industry's low-cost operator because few additional expenses are required to add customers to existing truck routes,” he says.
Morningstar, a strict value shop, doesn’t think you should buy the stock unless it goes back down to $43. And insiders got a better deal than you can get now. Insiders bought $20 million at around $50 a share on July 8 and 9. The stock recently traded for $57 a share. You might want to wait for pullbacks – or just accept the fact that you won’t do as well as them.
The bottom line: Investor sentiment recently hit extreme lows, and the big-volume day July 15 could have marked a capitulation low for the next few weeks, if not longer. If you buy that, then buying these three stocks might bring some decent gains.
Disclaimer
At the time of publication, Michael Brush owned shares of Charming Shoppes. Mr. Brush is an independent columnist for this web site.
For more on Insiders Corner disclosure, see the disclosure section in About Insiders Corner: http://www.investorideas.com/insiderscorner/. InvestorIdeas.com Disclaimer: www.InvestorIdeas.com/About/Disclaimer.asp. InvestorIdeas is not affiliated or compensated by the companies mentioned in this article.
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