WPRT again

MF Supernova finally decided it had been a mistake. I really congratulate them for admitting it (without any sarcasm).

For all the reasons you’d expect — because it was our very first recommendation, because we purchased it right near its all-time high, because we invested a disproportionate amount of capital in it, and because it’s by far the biggest loser on our scorecard — Westport Innovations (NASDAQ: WPRT) is the worst recommendation we’ve made (so far) in Odyssey 1. It’s down more than 85% from our purchase price during a period in which the overall market is up nearly 50%. Just about the only thing we did right in regards to Westport was never adding to our initial investment as it plummeted toward multi-year lows.

Selling now and taking a permanent loss at today’s beaten-down price looks like the ultimate hoisting of the white flag. After all, Westport’s stock should have nowhere to go but up, right? Not necessarily. When the Odyssey 1 team asked ourselves whether Westport can beat the market and outperform the majority of companies in the Supernova Universe from even today’s multiyear low, we answered with a fairly resounding “No.”

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Good, and I 'm happy I didn’t fall into the mousetrap called Westport … Why happy? Because it was just sheer luck! I didn’t have disposable cash at that time.

There’s another one playing something that looks somewhat similar. It’s called Seadrill, a debt laden monster one that was paying dividends out of borrowed easy money. Finally, management has realised that this can’t continue, especially with oil prices at historic lows and trending down (because of the volumes coming online from the US and soon from China), so they cut their dividend. This one I had owned and I got out when Stock Advisor moved it to a “hold”.

Anirban

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Saul you save a lot of people money and grief with your well reasoned arguments against WPRT. I cannot speak for everyone else but that is how I came to follow you.

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I am one of those who invested in WPRT, CLNE and SDRL when i joined in 2011. Down a lot of money. lessen learned- no investing in stocks that are poised to grow.
usha

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I am one of those who invested in WPRT, CLNE and SDRL when i joined in 2011. Down a lot of money. lessen learned- no investing in stocks that are poised to grow.

Hi Usha,

One of things I learnt after making a bunch of mistakes is to look at companies with tagline “earnings coming soon” with a lot of skepticism. And trust me, almost everyone makes these mistakes. Over time, I have evolved some rules that seem to help in avoiding these mistakes. I will enumerate these, just in case these are useful to you:

  1. If its a story stock, carefully size the position. I personally find capital investment less than 1% of NAV to be a reasonable limit, although I sometimes make exceptions (more on that later). Potentially, 0.5% or even 0.25% would do as well. This limits how much one can loose and the beauty is that if the story stock with no earnings eventually has earnings and is successful then they should have many many years of success. So while one may loose on the initial bump-up, there’s still a very good chance of succeeding by investing in the company later on.

  2. For companies without earnings, looking at the revenue growth rates and P/S ratio may be useful. Is revenue growing exponentially? If yes, that’s a good sign and may indicate that earnings are right around the corner. I also look at P/S and compare with it with the P/S of Stalwart’s in the industry. Usually, while I 'm willing to give Internet stocks like FB and TWTR a high P/S, I 'm not interested in giving WPRT and CLNE the same leeway with P/S ratios. Why? Because Internet businesses are typically capital light and if successful can very quickly take over the world but that’s not true for the Westport’s of the world, right.

Now, back to the WPRT P/S number. Today, with the stock around $4.9, it has a P/S ratio around 1.9. Some quarters back, with the stock around $30 and with far less revenue then, it probably was selling for a P/S of over 10. CMI (Cummins) is selling for a P/S of 1.4 and it probably has been around this number for a while. I can’t really see WPRT getting a 5x to 6x higher valuation than CMI.

  1. When to make an exception to the 1% rule? Only when one can back it up via research. I usually 'm increasing my position size only when I have done significant amounts of independent research. So I have violated the 1% rule for MZOR because my research makes me confident enough to ride the ups and downs of an as yet unprofitable company, but one that could become the standard of care for spine and brain surgery. Even then, I do look at the P/S metrics. ISRG (a very successful Robotics surgery company) is selling for around 9x sales, and MZOR is selling for another 11x sales, so this at least looks okay, given MZOR has a much longer runway for growth than ISRG.

  2. Avoid companies with lots of debt. This is one of the key reasons why I sold out of SDRL. The thing with debt is – cheap money is good while interest rates are low and business is running smoothly, but as soon as trouble hits, debt will kill. What will happen if oil hits $40 or so, like it did back in 2008? SDRL will be in a LOT of trouble …

  3. Finally, an unrelated point. Early on, I had the desire to swing at as many recommendations as I saw. Not swinging made me think I was going to miss out. This “feeling” is far from truth. We don’t need to swing at every idea. What we need is to have a decent number of successful companies in the portfolio, and for that to happen we do need to read and learn about their prospects.

I hope some of these thoughts are useful to you.

Anirban

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Early on, I had the desire to swing at as many recommendations as I saw. Not swinging made me think I was going to miss out. This “feeling” is far from truth. We don’t need to swing at every idea. What we need is to have a decent number of successful companies in the portfolio, and for that to happen we do need to read and learn about their prospects.

Wonderful post Anirban, all of it. Your last paragraph reminded me of a great quote from Huibs (I think). It was something like “I don’t have to be right on the stocks I sell, just the ones I have”

I’d expand it to “I don’t have to be right on the stocks I sell or never buy, just the ones I have”

Saul

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Anirban,
Thanks for taking the time to share your words of wisdom. Someday in the future I hope to have learnt enough to give back.

Could you pleas elaborate your rule 1?
rule 3- why is MZOR’s higher PS acceptable when an established company like ISRG has lower PS? Is it because of expectations that MZOR will do well?

As for your last point- I sometimes read all the different posts and they make sense and I invest. I have not developed to skills ( yet ) to independently research a company and make an informed decision. I feel the others who have been doing this are sharing their hard earned words of wisdom and so i decide to go along.
Thanks again
usha

“I don’t have to be right on the stocks I sell or never buy, just the ones I have”

And, not even all of the ones that I buy, just enough of them to offset the mistakes to put the net into the territory I want.

Could you pleas elaborate your rule 1?
rule 3- why is MZOR’s higher PS acceptable when an established company like ISRG has lower PS? Is it because of expectations that MZOR will do well?

Hi Usha,

I will try to elaborate but investing too me is an inexact science, so there’s no one answer that’s correct. So, first off, MZOR’s PS ratio is not significantly higher than ISRG’s. By that, I mean a PS of 12 versus a PS of 9, and its not like MZOR is 5x of ISRG’s PS. However, WPRT until its fall from grace though had an irrational PS, running somewhere between 7 and 12 between Jan 2012 and July 2013. Then, the fall from grace happened and it has been a steady fall down with PS currently sitting around 1.9 or so. See here:
http://ycharts.com/companies/WPRT/ps_ratio

Contrast now the WPRT PS chart with CMI (Cummins) and we notice that in the same period CMI’s PS 1 and 1.3 or so. Effectively, WPRT had a 7x to 10x premium over CMI. The question then is – was that rational or irrational? I would say even if WPRT’s business execution was excellent, even then this sort of valuation seems like irrational exuberance.

Now, Westport now appears to be completely fallen from the high ground it once sat on. The question to ask now is – how is the business doing? Are they able to meaningfully expand revenues? And when are they likely to turn in a profit? These are hard questions to answer but if there’s a chance that they can turn a profit couple years down the road without raising more monies at significant dilutions, may be, just may be Westport is now a decent “punt”. I don’t follow them closely, so I have no way of answering either way.

Okay, now back to MZOR. MZOR’s valuation on a PS basis is not significantly higher than ISRG’s.
http://ycharts.com/companies/ISRG/ps_ratio
ISRG’s PS has ranged between 7 and 12 over the past 5 years.
http://ycharts.com/companies/MZOR/ps_ratio
In fact, MZOR’s share price has taken some beating with uncertainties around medicare in the US and the PS is down to 11. At one time, it was as high as 22 (irrational, may be, right?).

ISRG’s US market is getting saturated and they have to look to Europe/Asia for growth and also need to keep increasing robot utilisation (i.e., show how their robots could be used for procedures they aren’t currently being used for). MZOR, however, has a long runway for growth, and pretty much zero competition in the spine/brain computer-assisted surgery domain. They are adding machines at a decent clip in the US; surgeons seem to be getting interested and they are making a decent chunk of monies from recurring revenues. The playbook seems to be similar to that of ISRG or MAKO and to me the valuation doesn’t look outrageous. Plus, I have done a lot of groundwork to be able to tolerate the ups and downs of small/micro cap investing, so I 'm willing to put in more than the 1% limit I usually invest. No investment is a sure shot investment but some are higher conviction than others. I rate MZOR as a higher conviction pick.

All said and done, for those unwilling to follow the MZOR story or those unwilling to bear the pain of ups and downs that’s inevitable with investing in small/micro-cap growth stories, the right thing to do is NOT invest now and just follow the story. If the story does pan out as I think it would, then there will be other entry point, albeit at higher valuations but it would be a more assured investment than it is now. But for me, once I find an investment that seems like a long term super growth story, my strategy is to get in early, first with a small stake and build it out as I learn more. I have been following MZOR for over 4 quarters now.

I hope this explanation is somewhat helpful.

Thanks,

Anirban

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I’d expand it to “I don’t have to be right on the stocks I sell or never buy, just the ones I have”

This is so true. It’s a principle that’s hard to implement but one can if they start following the business. The quarterly earnings releases, transcripts, and 10K’s help a ton towards realising what one should or shouldn’t invest in.

Anirban