Thinking About Money

I was inspired to look at this by a recent posting at invetorgeeks.com. Chris found this microcap (124 million) company while looking for what he hopes will be a forthcoming “ten-bagger” – stock that rises by a factor of 10.

He just might have found one (please see disclaimer).

I decided to take his research further and go to my favorite source of information – the company’s most recent quarterly report. There I found a story that is definitely better than my recent microcap study MIV Technologies, but is not necessarily a happily ever after fairy tale either.

The Good

AERT is a real company. It makes real products, is growing at a modest but steady clip, and is profitable (in operations). Its operating profit not only covers expenses, but is funding a large portion of their capital investment. Also good is the fact that the capital investment is being driven by demand. They’ve actually cut back on promotion because they can’t supply existing demand – which not only suggests the potential for significant growth as their new capacity comes online this year and next, but also suggests the potential to comfortably handle a downturn in the economy.

AERT is truly not on the radar screen of the big guys. It has little or no coverage by analysts, virtually no ownership by mutual funds, and has a strong insider ownership (32%).

There are, however, a number of troubling issues

They’ve already recorded a $600K loss in a lawsuit as a liability (which is good) and they are appealing, but if they lose they’ll have to lay out the cash which could slow their ability to increase manufacturing (since they are funding their capital expansion through earnings).

They are in a $2 million legal dispute with Lloyds of London over a 2003 fire. How this will turn out is impossible to guess – if they lose they could owe them for amounts previously recovered from Lloyds. If they win, they could recover much of the money they’ve had to lay out to rebuild their Texas facility.

80% of their product goes to a single customer Weyerhaeuser. If Weyerhaeuser does not renew their agreement it would probably be tough for AERT to find alternate customers quickly. On the other hand, the alliance is a natural fit, as Weyerhaeser can serve as a good source of the waste lumber AERT needs to operate (though I did not see such an arrangement in the records). The fact that Weyerhaeuser purchases much of their product gives them a huge amount of influence over the company. Their latest agreement does allow for AERT to manufacture similar products under a private label for other markets – which shows that either Weyerhaeuser is not confident in their ongoing demand for the product, or that AERT plans to expand into other markets. Hopefully it is the latter.

Conclusion

I must admit to being biased – I definitely like the idea of a company that makes products out of what is basically other people’s trash (waste wood product and recycled plastics). I think recycled products and composite wood products represent a good long term trend from an investment point of view.

Like any microcap, this is a high risk stock. Another fire, loss of a single customer, or loss in a major lawsuit could set them back significantly. Yet at the same time it has most of the qualities that one would hope to see in a company that is going to grow. There is nothing to suggest that it’s going to happen quickly, but this is certainly a stock that bears watching.

This entry was posted on Tuesday, July 11th, 2006 at 6:12 pm and is filed under Investing. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.