Shares of little known micro-cap stock Coda Octopus (NASDAQ:CODA) surged to the top of traders’ watchlists earlier this week. Coda stock as much as doubled during Monday’s session, heading from $4 to $8. They did so because the company won a contract with the U.S. Navy.

However, Coda stock dropped back to $6 by the close on Monday’s trading. On Tuesday, shares slumped another 20%, falling below the $5 mark. As it turns out, a closer reading of Coda’s recent press release shows that there is still a lot to be seen as far as the financial aspects of this deal go.

Will Coda Octopus deliver tasty returns for shareholders? Or will it disappoint like another deep sea story stock, Odyssey Marine Exploration (NASDAQ:OMEX), whose attempts to profit off of salvaging shipwrecks haven’t led to treasure for shareholders.

Let’s take a closer look at Coda and see what it offers shareholders.

Getting up to Speed With Coda Octopus

The story of Coda Octopus began in 1994. In that year, its founders created Coda Technologies with the intent to commercialize research from Herriot-Watt University in Scotland. The company intended to create software for subsea mapping using sonar.

Through a series of twists and turns, the company has evolved since that point. In 2002, Coda acquired Octopus Marine, and the combined company picked up its present Coda Octopus moniker.

Octopus Marine brought less technologically sophisticated products into the company, allowing it to sell to a wider range of customers. Later that year, Coda Octopus acquired OmniTech, bringing patents for 3D imaging that led to the Echoscope product.

In 2004, Coda Octopus made the move to public markets, reverse merging with The Panda Project to obtain a stock market listing.

The stock traded up for awhile in 2006 and 2007, but crashed into the pennies during the financial crisis. Coda’s stock would trade at a bottom barrel valuation for years on the pink sheets as the company seemed largely inactive.

However, after favorable resolution of a lawsuit and a reverse merger in early 2017, Coda uplisted to the NASDAQ. With that move, Coda stock became a realistic investment option for investors again.

Since that point, CODA stock has generally traded between $3.50 and $6 per share. Outside of a brief moment on Monday’s pop, it looks like that range will remain in tact and with good reason.

Coda Stock Seemed Fairly Priced

For full-year 2017, Coda Octopus produced $18 million in revenues. Out of that, it converted $12 million into gross profit – a rather healthy margin. After spending $6.8 million on sales, general, and administrative, the majority being employee salaries, that left a significantly smaller profit.

Throw in the company’s $1.3 million R&D budget, and you’re left with an operating income of $3.8 million. Subtract interest expense and taxes, and it pulled in $3.3 million in net income. That’s a respectable sum for a tiny company like Coda Octopus.

However, it doesn’t exactly make CODA cheap. The company has 9.3 million diluted shares outstanding, giving it a market value of around $46 million at $5/share or $37 million at $4/share.

So the stock is trading something in the range of 11-15x 2017 earnings. That’d be a bargain for a large company with stable earnings, but for a micro-cap company where it is hard to guess how their fortunes will be in the future, it’s not such a large margin of safety.

Then again, given Coda Octopus’ tiny size, the stock isn’t such a bad play as a speculative gamble. Given that the company is profitable, it shouldn’t have to dilute shareholders heavily to stay in business. And even a modest uptick in revenues and profits could cause the stock to run up, given its tiny market cap and lack of market visibility until this week’s volatile trading.

Impact Of The Navy Contract Remains To Be Seen

Given Coda Octopus’ limited disclosures and media coverage, it’s hard to forecast how will things will go in the future. Take the company’s announcement of the deal with the Navy on Monday that briefly caused CODA stock to double. The company stated the following in its press release:

[T]he Company has entered into a Navy Cooperative Research Development Agreement (CRADA) to transition the prototype of the Divers Augmented Vision Display-Head Up Display system (DAVD-HUD) into a complete system that is ready for operational use, with Naval Surface Warfare Center Panama City Division (NSWC PCD). 

However, reading further in the press release, there’s nothing that indicates how much revenue this may bring the company. We see that this program will expand an already existing prototype that Coda Octopus had produced for the Navy. Apparently, Coda Octopus received funding to help develop the prototype.

The press release states that Coda Octopus will deliver a working product within 12 months, though the CEO expects to be able to complete it sooner. Will it end up being a big winner for the company? Only time will tell.

Coda Stock Verdict

Almost all companies listed on a major stock exchange such as the NYSE or NASDAQ list risk factors in their annual 10-K filing with the SEC. These risk factors alert investors to the major potential hazards that a company faces going forward. Understanding these are pivotal for knowing what sorts of issues could derail a stock going forward.

In the case of Coda stock, we have little idea what these risks might be. The company’s annual report says that due to the company’s diminutive size, it is not required to include a risk factors section in its SEC filings. That says a lot about a company’s speculative nature for investors.

In Coda’s defense, it seems like they have intriguing technology. And they hold quite a few patents that should give them a competitive edge.

While there aren’t enough details to know what the Navy contract will look like financially, it’s a big validation of the company’s proprietary methods. And as it is, the company already makes a modest annual profit.

So it shouldn’t have to dilute shareholders significantly to stay in business, as many such micro-cap companies do when their stocks rally on a positive press release.

Regardless, Coda stock is likely to settle back down to around $4 in the near-term unless more news hits. The company’s valuation is quite high given its small size. Unless the new deal provides a substantial amount of profit to Coda Octopus, the recent rally is unlikely to carry on. If you like the story around Coda stock, wait to see the $4 area again before taking a position.

At the time of this writing, the author held no positions in any of the aforementioned securities.