In early June, the internet was losing its mind trying to figure out who Genius Brands (NASDAQ:GNUS) was, why GNUS stock had soared several hundred percent in a few days and whether or not this obscure kids entertainment company really was the next big thing in the streaming TV boom.
I told investors to stop losing their minds and sell GNUS stock.
Genius Brands stock has since collapsed. From high of nearly $12 in early June. To $2 and change today.
Today, I’m reiterating my initial bearish stance. Stay away from GNUS stock at current levels.
A Closer Look at GNUS Stock
Kudos to Genius Brands’ management for taking the Covid-19 pandemic, and leveraging global changes in media consumption to come up with a genius pivot for the kids entertainment company.
Long story short, Genius Brands management decided a few months ago to try and create a Netflix (NASDAQ:NFLX) for kids.
Genius Brands has a long history of producing and distributing various kids shows. But as Covid-19 accelerated the pivot away from linear TV and towards streaming TV, the company figured it was time to change with the times.
The company essentially abandoned linear TV distribution. Fully embraced streaming TV distribution. And launched its own branded, ad-supported streaming platform, Kartoon Channel, with the goal of using this streaming platform to aggregate kids media content and create a free, kids-specific streaming TV channel.
As I pointed out in my first piece on GNUS stock, the opportunity here is enormous. There are plenty of streaming TV channels out there. Very few of them are dedicated specifically to kids. And none of those that are, are free (with the notable exception being YouTube Kids). There is also a tremendous amount of digital media ad dollars, catered towards the kids audience, that are just waiting to migrate into the streaming TV channel.
Net net, over the next few years, an ad-supported, kids-specific streaming TV channel will emerge, and it will become huge.
On the hype that Kartoon Channel would be that platform, GNUS stock took off like a rocket ship in early June.
Significant Execution Challenges
The reality is that Kartoon Channel most likely will not be that platform.
As far as legacy kids media is concerned, Genius Brands is an afterthought. Its most popular linear TV program, Rainbow Rangers, isn’t exactly a widely heard of name among kids and their parents, nor is the show that big of a hit for Nick Jr. Meanwhile, its most popular YouTube program, Llama Llama, is only getting a few hundred views per each on its new YouTube videos.
In other words, Genius Brands cannot simply rely on its pipeline of in-house content to create the Netflix for kids. The company will have to acquire and/or develop new content.
But, because this is such a small company with such a small balance sheet, acquiring new content seems far fetched. Content development is possible, but also tough to do, especially when competing against the likes of YouTube and Netflix, who have far more resources to develop far better content.
After all, Netflix, Disney (NYSE:DIS) and Amazon (NASDAQ:AMZN) collectively spend $3 billion on making kids content every year. Genius Brands had less than $3 million on its balance sheet last quarter.
Big picture: Genius Brands most likely won’t be able to out-compete, out-spend and out-smart companies like Netflix, Disney, Amazon and Alphabet (NASDAQ:GOOG) when it comes creating an ad-supported, kids-centric streaming TV platform.
Valuation Still Extended
The base case scenario for Genius Brands is to turn Kartoon Channel into a small, niche, ad-supported streaming TV platform that has a few million viewers and wins over a tiny share of kids media ad spending dollars at scale.
My modeling suggests that these base case assumptions pave a path for Genius Brands to be a $150 million revenue company by 2030. At scale, gross margins should look digital ad industry gross margins around 80%.
The opex rate, however, will remain bloated, because of content development and marketing expenses. Assuming a 60% opex rate, you’re talking about 20% operating margins, $30 million in operating profits and $24 million in net profits (after a 20% tax rate).
An interactive media sector-average 20-times forward multiple on that implies a potential 2029 valuation for Genius Brands of $480 million.
Discounted back by 10% per year, that equates to a fundamentally supported valuation in 2020 of about $200 million.
Based on the current share count, that implies a fair price tag for GNUS stock of under $1.
That’s more than 50% below where shares currently trade.
As such, it’s fair to say that even though GNUS stock has plunged over the past few months, the valuation is still extended, and the sell-off isn’t over.
Bottom Line on GNUS Stock
Some explosive small cap stocks are worth buying into.
GNUS stock is not one of those.
It’s an explosive small cap stock that got way too extended for its own good, and is now in the process of a painful normalization.
Stay out of the stock’s way amid this normalization.
Luke Lango is a Markets Analyst for InvestorPlace. He has been professionally analyzing stocks for several years, previously working at various hedge funds and currently running his own investment fund in San Diego. A Caltech graduate, Luke has consistently been rated one of the world’s top stock pickers by various other analysts and platforms, and has developed a reputation for leveraging his technology background to identify growth stocks that deliver outstanding returns. Luke is also the founder of Fantastic, a social discovery company backed by an LA-based internet venture firm. As of this writing, he was long NFLX and AMZN.