Analyzing unprofitable stocks is difficult because almost everything is a guess. Technical analysis can help, but the trends of stocks that haven’t made money in a long time (or ever) tend to be unstable and much less reliable. However, there are some fundamental analysis techniques that may help increase confidence in trend analysis if you know where to look.
Plug Power (PLUG) and a few of its peers received a lot of press and investor interest earlier this year when the stock quadrupled in value during the first quarter. The rally was mostly based on hype and speculation about deals with Wal-Mart (WMT) and FedEx (FDX). However, the company has yet to actually show that it can turn that excitement into profits.
From a technical analysis perspective, we think PLUG is in a strong downtrend and the recent consolidation is just a bear-flag. Speculators can argue all they want about the potential (or lack thereof) for fuel-cell cars and forklifts, but the bottom line is that the big buyers, like Wal-Mart are always going to go to the cheapest supplier. That means that the best-case future for PLUG and its peers is a matter of management efficiency versus innovation.
Efficiency is where fundamental analysis can help. Unprofitable companies still have operations and we can evaluate operating metrics without a positive bottom line. One approach is to look at a company’s turnover ratios. If a company is turning over its inventory and receivables quickly, then we can infer that its operations are at least becoming more efficient and future profits are more likely.
Payables turnover can help us analyze a company as well. A strong, profitable firm should have fairly stable payables management, but a small, low-credit, unprofitable firm (like PLUG) with deteriorating payables metrics is usually a sign that the company isn’t managing cash and its suppliers appropriately.
Days of Inventory on Hand
A company that is stockpiling inventory is often a company that isn’t selling product as quickly as they thought. Days of Inventory on Hand tells us how many days of sales could be supported from inventory if there were no new production. Days of Inventory on Hand is calculated as 365 divided by the quotient of Cost of Goods Sold divided by Average Inventory. As you can see in the next table, PLUG is accumulating inventory – where are all the buyers? If this trend continues, it could get as bad as it did in 2010 when PLUG dropped from $13 to $.12 per share (split adjusted).
Days of Sales Outstanding
Collecting from customers isn’t just important from a cash management perspective, it also tells you about the health of a company’s customers. Days of Sales Outstanding tells you how long it takes, on average, for the company to collect from its customers. Longer collections means higher costs for the company and a client base that is destabilizing.
The calculation for Days of Sales Outstanding is similar to Days of Inventory on Hand but it uses receivables turnover rather than inventory turnover. As you can see in the next table, PLUG’s collection cycle is heading back to 2010 levels. If the trend continues, PLUG’s customers may be in trouble.
Days of Payables Outstanding
Paying vendors is a balance between retaining your cash for as long as possible and managing the relationship with your suppliers. If you are a strong, profitable firm then your bargaining power is high and your suppliers are probably fine with a longer payment cycle. However, if you look like PLUG, vendors are probably not excited about waiting for payment. Days of Payables Outstanding tells us how long PLUG is taking, on average, to pay their bills. If the trend gets worse, supplier relationships are at risk. As you can see in the next table, the trend over the last 12 months is looking a lot like it did in 2010-2011.
What the fundamental analysis tells us about PLUG is that the company’s efficiency isn’t improving. In many ways it seems to be getting worse. That puts pressure on the firms operations and makes it less likely that profitability will happen in the near-term. That means that the stock’s price trend should have a bias to the downside. We think the rally in the first quarter was an anomaly and risk-averse investors are going to dump the stock if it breaks out of its current consolidation pattern.
If the price breaks below the bear-flag, we think the downside is likely to be $2 per share or less. That is roughly equal to the move that preceded the consolidation and matches the 2011 and 2013 price plateaus. In the long-run, investors prefer value over hype, and at this point we have to say that the fundamental analysis is pointing to PLUG being more of the latter than the former.
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