Thesis
LoJack Corp. (LOJN) is a cheap, cash generating business with a strong competitive advantage that has become substantially cheaper due primarily to a series of solvable business disruptions and being removed from the S&P 600 index. The stock price plunged from an all time high of $28.84 on December 2nd, 2005 to $2.86 at the close of trading on November 14th, 2011. The price then fell a further 14.33% to close at $2.45 on November 18th on news that LoJack will be delisted from S&P 600 small cap index and replaced by Marriott Vacations Worldwide Corp at the close of trading on Monday November 21st, 2011. I believe that the stock is dramatically undervalued and that quarterly earnings surprises and renewed strong profitability and cash flow will cause the stock price to rise substantially in the coming year as business conditions normalize, new car sales continue to improve, and new management talent applies itself to the firm's problems and opportunities.
Business Description
LoJack is best known as the leading global provider of systems for recovery of stolen vehicles. The firm has been in operation since 1978 and their technology has resulted in the recovery of over 300,000 vehicles worth over $5 billion. The recovery rate of stolen vehicles equipped with the LoJack system is over 90%. The firm operates in three segments: North America (28 states and the District of Columbia) International (32 nations), and all other. The all other segment includes LoJack SafetyNet, which provides technology for rescuing people with disorders such as Alzheimer's and autism who wander off, and SC-Integrity, which provides technology for the recovery of cargo and other valuable business assets. The firm has a 100% ownership in all business lines except for SC-Integrity, in which it has a 60% interest.
The company reported revenues of $34.5 million in the third quarter ended September 30th, 2011, and $138.3 million in the trailing twelve months. In the third quarter, the North American segment accounted for 70.25% of revenues, International for 27.65%, and All Other for 2.1%. About 87% of North American revenues come through sales of LoJack units by new and used car dealers. While the firm receives some revenues from licensing fees and subscription services in the international segment, the bulk of international revenue (about 95% in fiscal 2010) is also derived from the sale of LoJack units. Overall, management estimates that only about $10 million per year in revenue is recurring. The only international market that LoJack operates directly, instead of through licensees, is Italy, which experienced a 43% year over year revenue increase in the third quarter and is expected to reach profitability in the fourth quarter. SCI and LoJack SafetyNet generate revenue from a mixture of device sales and service fees. The company contracts for the manufacturing of most components but assembles some products in house.
Lojack was firing on all cylinders from 2005-2007, with sales peaking at $222.7 million in 2007. The company was hit hard by the great recession and the accompanying steep drop in auto sales. The firm's sales are cyclical and unit volumes tend to track trends in auto sales. The business is also seasonal, with the first quarter the slowest and the fourth quarter the busiest, due partly to year-end deadlines imposed by insurance companies in foreign markets for drivers to get LoJack units installed. So far this year, LoJack has failed to show signs of turning around with the gradually improving auto market. Management cites three reasons for the firm's difficulties in the first three quarters of 2011. First, there has been an unfavorable change in the model mix of vehicle sales in the U.S., driven partly by shortages resulting from the Japanese earthquake. The models most affected by the earthquake are also the models where buyers are most likely to purchase the LoJack system. The chairman states in the third quarter conference call that experts expect these shortages to ease in the fourth quarter. The second problem relates to uneven timing of orders by quarter from international licensees. Part of this was reportedly due to protracted negotiations with the licensees. Management believes that most, though not all of the drop-off in sales in the second and third quarters from prior year figures will be made up in the fourth quarter of 2011. Third, costly and distracting litigation has hampered performance. The firm incurred $2.3 million in legal fees in the third quarter. Though legal actions are ongoing, the firm has reached a tentative agreement to settle a long running California federal employee claims case for $1.6 million, which is part of the $2.3 million in legal fees mentioned above.
Cyclicality aside, LoJack is strong cash generator. Going back to 1997 and including the trailing twelve months, the firm has only had two years, 2002 and 2009, of negative free cash flow, defined as cash flow from operating activities minus net capital expenditures and cash spent on acquisitions. Free cash flow was -$0.4 million in 2002 and -$11.4 million in 2009. Cash flow from operations was positive every year except 2009, when the firm paid an $18 million legal settlement. Average free cash flow over any period beginning between 1997 and 2007 and ending at the end of the third quarter of 2011 is at least $9.4 million per year, without adjusting for inflation.
Management
It is difficult to judge whether some recent setbacks were more due to bad luck or management missteps. Management and directors get stock options and share awards but collectively hold little stock in the company. In 2009 LoJack paid an $18 million settlement in a dispute with a licensee. Changes in the cellular infrastructure in Canada from analog to digital caught the company off guard, leading to write-offs of $3.3 million, $38.1 million, and $14.4 million in 2007, 2008, and 2009, respectively. The company has now completed the build out in infrastructure that is necessary to integrate LoJack units into their Canadian vehicle recovery system.
On October 17th, the company brought Randy Ortiz on board as CEO. He has 28 years of experience in the auto industry, mostly with Ford and related entities. He brings a "deep working knowledge of dealership operations" to the company. Also on October 17th, LoJack named Donald Peck as the new CFO. Mr. Peck is also a former corporate attorney. To the extent that poor management was responsible for recent underperformance, the addition of these experienced individuals could provide a catalyst for improvement.
Competitive Position
LoJack has a proprietary technology that works on a radio frequency (RF) network. LoJack, in connection with the FBI, operates a single radio frequency that the FCC has set aside for the purpose of tracking and recovering property and people. The LoJack system consists of a registration system controlled by LoJack, a sector activation system and vehicle tracking units operated by law enforcement, and a LoJack unit installed in the vehicle. LoJack supplies the sector activation system and tracking units to law enforcement for free and maintains them. Tracking units are present in law enforcement cars and aircraft. When a car is stolen, the victim calls the local police, and a signal is automatically sent out to the tracking units. In most cases, a unit will be near the location of the stolen vehicle and the vehicle is recovered quickly before significant damage is done.
LoJack is clearly superior to GPS for the purpose of tracking stolen vehicles. Crucially, LoJack is able to locate vehicles that are hidden behind buildings or other obstacles that often frustrate GPS. Second, with GPS, multiple calls have to be made after the theft to fully mobilize law enforcement. Third, the LoJack unit is not visible, making it extremely difficult to remove, while GPS units are typically more conspicuous.
It is hard to envision a rational competitor entering the market to compete with LoJack, at least in markets where LoJack is already established. Since LoJack provides equipment to law enforcement for free, a competitor would probably have to offer to pay law enforcement to convince them to switch over. It would also be difficult to duplicate LoJack's relationship with car dealers. LoJack's performance record is so impressive that potential customers would have to offer a comparable product at a lower price point to compete. But it is difficult to envision a comparable product that doesn't rely on close cooperation from law enforcement that can be sold at a high enough margin to recoup the cost of unseating LoJack's position with law enforcement and auto dealers.
In a 1998 paper, Steve Levitt and Ian Ayres study the economics of LoJack. The economists find that LoJack creates a great deal of social value that the company is unable to capture. Car thefts fall dramatically in areas where LoJack is known to operate. This implies that much of the benefit of the existence of LoJack goes to car owners that do not have LoJack installed, and to insurance companies, especially those that do not offer substantial premium reductions to customers who have LoJack installed. If thieves knew which vehicles were protected by LoJack then LoJack sales would likely increase dramatically as non-LoJack users would be unable to "free-ride." While it seems unlikely that this will happen given that it hasn't happened yet, the consolation to LoJack shareholders is that at least they are investing in a firm that provides social value and is likely to be at least left unmolested, if not encouraged, by government.
The LoJack SafetyNet product for rescuing lost Alzheimer's and autism patients hasn't become a material part of the business yet and is currently only offered in three states (Florida, Pennsylvania, and Massachusetts). However, management reports that the business is making slow progress. In my opinion, this could be a very large market. From LoJack's 2010 10K:
"It is estimated that 5.3 million Americans suffer from Alzheimer’s disease and that there will be between 11 and 16 million Americans affected by 2050. Wandering, the most life-threatening behavior associated with Alzheimer’s disease, affects 59% of such patients, and 45% of the cases where the person is not located within 24 hours end in death. Additionally, Autism afflicts one in every 110 children in the United States and children with Autism are prone to wandering."
Once a product like LoJack SafetyNet becomes widespread it could quickly gain momentum and come to be considered a necessity for Alzheimer's and autism patients. Law enforcement, which is responsible for conducting frequently high-cost searches for missing patients, could be an ally in advocating the adoption of SafetyNet. SafetyNet has the same technical advantage over GPS that LoJack has in stolen vehicle recovery.
Balance Sheet
LoJack has a solid balance sheet, with $53.1 million in cash and short-term investments versus 9.5 million of negotiated debt at the end of the third quarter of 2011. Almost all of the negotiated debt is long-term. The firm has a current ratio of 2.2 and a quick ratio of 2.0. Almost $20 billion of the $38.7 million in current liabilities consists of deferred revenues. The firm recognizes revenues on certain services associated with its supplemental early warning product over the estimated life of the vehicle. If you take out cash, the firm operates with negative working capital. Tangible book value of common equity (less minority interest of $0.232 million) is $31.1 million, resulting in a price to tangible book ratio of about 1.5.
Off-balance sheet, LoJack has 2,375,047 stock options outstanding with a weighted average exercise price of $7.30 and an average life of 4.12 years. There is no defined benefit pension plan and there are no other legacy liabilities.
Overall, the firm is solid financially and has the resources to weather most crises and quickly seize opportunities without relying on outside funding. Excess cash has actually reached a level that management might consider increasing its buyback if business stabilizes and the stock remains undervalued.
(First column is "conservative" scenario, second is "realistic," third is "optimistic." $ figures in millions except for per share data)
Risks
-The stock is relatively illiquid. Average volume was about 37,000 shares per day before the delisting announcement.
-Pending legal claims seem unlikely to lead to large losses but one can never be sure.
-Management fails to execute.
-More bad luck.
Catalysts
-Forced or speculative selling resulting from delisting from the S&P 600 small cap index has pushed the stock price down over 14% since November 15th.
-Stock is revalued to reflect normalized EBITDA and free-cash flow over the cycle instead of the current depressed levels of these variables.
-The buyback is increased. Management indicated that they are open to this option in the third quarter conference call.
-Management also indicated that they might be open to a buyout on favorable terms.
-Everything comes together in an impressive fourth quarter earnings beat: auto sales surprise on the upside in the U.S, most of the foreign sales that weren't realized in the second and third quarters materialize in the fourth quarter, Italy finally becomes profitable, Canada has bottomed out, accrued legal expenses are reversed.
-New management is able to execute on opportunities and avoid unnecessary legal and business problems.
-LoJack SafetyNet gathers momentum and the market recognizes the potential of this growth opportunity.
Disclosure: I am long LoJack Corporation (LOJN) common stock.
LoJack Corp. (LOJN) is a cheap, cash generating business with a strong competitive advantage that has become substantially cheaper due primarily to a series of solvable business disruptions and being removed from the S&P 600 index. The stock price plunged from an all time high of $28.84 on December 2nd, 2005 to $2.86 at the close of trading on November 14th, 2011. The price then fell a further 14.33% to close at $2.45 on November 18th on news that LoJack will be delisted from S&P 600 small cap index and replaced by Marriott Vacations Worldwide Corp at the close of trading on Monday November 21st, 2011. I believe that the stock is dramatically undervalued and that quarterly earnings surprises and renewed strong profitability and cash flow will cause the stock price to rise substantially in the coming year as business conditions normalize, new car sales continue to improve, and new management talent applies itself to the firm's problems and opportunities.
Business Description
LoJack is best known as the leading global provider of systems for recovery of stolen vehicles. The firm has been in operation since 1978 and their technology has resulted in the recovery of over 300,000 vehicles worth over $5 billion. The recovery rate of stolen vehicles equipped with the LoJack system is over 90%. The firm operates in three segments: North America (28 states and the District of Columbia) International (32 nations), and all other. The all other segment includes LoJack SafetyNet, which provides technology for rescuing people with disorders such as Alzheimer's and autism who wander off, and SC-Integrity, which provides technology for the recovery of cargo and other valuable business assets. The firm has a 100% ownership in all business lines except for SC-Integrity, in which it has a 60% interest.
The company reported revenues of $34.5 million in the third quarter ended September 30th, 2011, and $138.3 million in the trailing twelve months. In the third quarter, the North American segment accounted for 70.25% of revenues, International for 27.65%, and All Other for 2.1%. About 87% of North American revenues come through sales of LoJack units by new and used car dealers. While the firm receives some revenues from licensing fees and subscription services in the international segment, the bulk of international revenue (about 95% in fiscal 2010) is also derived from the sale of LoJack units. Overall, management estimates that only about $10 million per year in revenue is recurring. The only international market that LoJack operates directly, instead of through licensees, is Italy, which experienced a 43% year over year revenue increase in the third quarter and is expected to reach profitability in the fourth quarter. SCI and LoJack SafetyNet generate revenue from a mixture of device sales and service fees. The company contracts for the manufacturing of most components but assembles some products in house.
Lojack was firing on all cylinders from 2005-2007, with sales peaking at $222.7 million in 2007. The company was hit hard by the great recession and the accompanying steep drop in auto sales. The firm's sales are cyclical and unit volumes tend to track trends in auto sales. The business is also seasonal, with the first quarter the slowest and the fourth quarter the busiest, due partly to year-end deadlines imposed by insurance companies in foreign markets for drivers to get LoJack units installed. So far this year, LoJack has failed to show signs of turning around with the gradually improving auto market. Management cites three reasons for the firm's difficulties in the first three quarters of 2011. First, there has been an unfavorable change in the model mix of vehicle sales in the U.S., driven partly by shortages resulting from the Japanese earthquake. The models most affected by the earthquake are also the models where buyers are most likely to purchase the LoJack system. The chairman states in the third quarter conference call that experts expect these shortages to ease in the fourth quarter. The second problem relates to uneven timing of orders by quarter from international licensees. Part of this was reportedly due to protracted negotiations with the licensees. Management believes that most, though not all of the drop-off in sales in the second and third quarters from prior year figures will be made up in the fourth quarter of 2011. Third, costly and distracting litigation has hampered performance. The firm incurred $2.3 million in legal fees in the third quarter. Though legal actions are ongoing, the firm has reached a tentative agreement to settle a long running California federal employee claims case for $1.6 million, which is part of the $2.3 million in legal fees mentioned above.
Cyclicality aside, LoJack is strong cash generator. Going back to 1997 and including the trailing twelve months, the firm has only had two years, 2002 and 2009, of negative free cash flow, defined as cash flow from operating activities minus net capital expenditures and cash spent on acquisitions. Free cash flow was -$0.4 million in 2002 and -$11.4 million in 2009. Cash flow from operations was positive every year except 2009, when the firm paid an $18 million legal settlement. Average free cash flow over any period beginning between 1997 and 2007 and ending at the end of the third quarter of 2011 is at least $9.4 million per year, without adjusting for inflation.
Management
It is difficult to judge whether some recent setbacks were more due to bad luck or management missteps. Management and directors get stock options and share awards but collectively hold little stock in the company. In 2009 LoJack paid an $18 million settlement in a dispute with a licensee. Changes in the cellular infrastructure in Canada from analog to digital caught the company off guard, leading to write-offs of $3.3 million, $38.1 million, and $14.4 million in 2007, 2008, and 2009, respectively. The company has now completed the build out in infrastructure that is necessary to integrate LoJack units into their Canadian vehicle recovery system.
On October 17th, the company brought Randy Ortiz on board as CEO. He has 28 years of experience in the auto industry, mostly with Ford and related entities. He brings a "deep working knowledge of dealership operations" to the company. Also on October 17th, LoJack named Donald Peck as the new CFO. Mr. Peck is also a former corporate attorney. To the extent that poor management was responsible for recent underperformance, the addition of these experienced individuals could provide a catalyst for improvement.
Competitive Position
LoJack has a proprietary technology that works on a radio frequency (RF) network. LoJack, in connection with the FBI, operates a single radio frequency that the FCC has set aside for the purpose of tracking and recovering property and people. The LoJack system consists of a registration system controlled by LoJack, a sector activation system and vehicle tracking units operated by law enforcement, and a LoJack unit installed in the vehicle. LoJack supplies the sector activation system and tracking units to law enforcement for free and maintains them. Tracking units are present in law enforcement cars and aircraft. When a car is stolen, the victim calls the local police, and a signal is automatically sent out to the tracking units. In most cases, a unit will be near the location of the stolen vehicle and the vehicle is recovered quickly before significant damage is done.
LoJack is clearly superior to GPS for the purpose of tracking stolen vehicles. Crucially, LoJack is able to locate vehicles that are hidden behind buildings or other obstacles that often frustrate GPS. Second, with GPS, multiple calls have to be made after the theft to fully mobilize law enforcement. Third, the LoJack unit is not visible, making it extremely difficult to remove, while GPS units are typically more conspicuous.
It is hard to envision a rational competitor entering the market to compete with LoJack, at least in markets where LoJack is already established. Since LoJack provides equipment to law enforcement for free, a competitor would probably have to offer to pay law enforcement to convince them to switch over. It would also be difficult to duplicate LoJack's relationship with car dealers. LoJack's performance record is so impressive that potential customers would have to offer a comparable product at a lower price point to compete. But it is difficult to envision a comparable product that doesn't rely on close cooperation from law enforcement that can be sold at a high enough margin to recoup the cost of unseating LoJack's position with law enforcement and auto dealers.
In a 1998 paper, Steve Levitt and Ian Ayres study the economics of LoJack. The economists find that LoJack creates a great deal of social value that the company is unable to capture. Car thefts fall dramatically in areas where LoJack is known to operate. This implies that much of the benefit of the existence of LoJack goes to car owners that do not have LoJack installed, and to insurance companies, especially those that do not offer substantial premium reductions to customers who have LoJack installed. If thieves knew which vehicles were protected by LoJack then LoJack sales would likely increase dramatically as non-LoJack users would be unable to "free-ride." While it seems unlikely that this will happen given that it hasn't happened yet, the consolation to LoJack shareholders is that at least they are investing in a firm that provides social value and is likely to be at least left unmolested, if not encouraged, by government.
The LoJack SafetyNet product for rescuing lost Alzheimer's and autism patients hasn't become a material part of the business yet and is currently only offered in three states (Florida, Pennsylvania, and Massachusetts). However, management reports that the business is making slow progress. In my opinion, this could be a very large market. From LoJack's 2010 10K:
"It is estimated that 5.3 million Americans suffer from Alzheimer’s disease and that there will be between 11 and 16 million Americans affected by 2050. Wandering, the most life-threatening behavior associated with Alzheimer’s disease, affects 59% of such patients, and 45% of the cases where the person is not located within 24 hours end in death. Additionally, Autism afflicts one in every 110 children in the United States and children with Autism are prone to wandering."
Once a product like LoJack SafetyNet becomes widespread it could quickly gain momentum and come to be considered a necessity for Alzheimer's and autism patients. Law enforcement, which is responsible for conducting frequently high-cost searches for missing patients, could be an ally in advocating the adoption of SafetyNet. SafetyNet has the same technical advantage over GPS that LoJack has in stolen vehicle recovery.
Balance Sheet
LoJack has a solid balance sheet, with $53.1 million in cash and short-term investments versus 9.5 million of negotiated debt at the end of the third quarter of 2011. Almost all of the negotiated debt is long-term. The firm has a current ratio of 2.2 and a quick ratio of 2.0. Almost $20 billion of the $38.7 million in current liabilities consists of deferred revenues. The firm recognizes revenues on certain services associated with its supplemental early warning product over the estimated life of the vehicle. If you take out cash, the firm operates with negative working capital. Tangible book value of common equity (less minority interest of $0.232 million) is $31.1 million, resulting in a price to tangible book ratio of about 1.5.
Off-balance sheet, LoJack has 2,375,047 stock options outstanding with a weighted average exercise price of $7.30 and an average life of 4.12 years. There is no defined benefit pension plan and there are no other legacy liabilities.
Overall, the firm is solid financially and has the resources to weather most crises and quickly seize opportunities without relying on outside funding. Excess cash has actually reached a level that management might consider increasing its buyback if business stabilizes and the stock remains undervalued.
Valuation
I value LoJack's common stock by estimating normalized earnings power value and then adjusting for items such as excess cash, minority holdings, and stock options. This method is similar to the method taught by Bruce Greenwald at Columbia, except I discount owner earnings at the cost of equity instead of discounting NOPLAT at the weighted average cost of capital. I estimate real "owner earnings" and use a real discount rate to avoid the necessity of estimating the future inflation rate. I consider three scenarios for normal operating income. In the conservative scenario, normal real sales and the EBITDA margin are set equal to the corresponding values for the trailing twelve months, yielding normal EBITDA of $7.2 million. In a steady state depreciation should be equal to maintenance capital expenditures (MCAPX), which I assume to be equal to the average of estimated MCAPX over the past five years in the conservative scenario. I classify almost all of the CAPX over the trailing five year period as MCAPX. This yields an estimated normal real operating income of $1.639 million for the conservative scenario.
In the quarter 3 conference call, management endorses an estimate for normalized annual EBIDA of $14-$15 million over the cycle, less occasional non-recurring legal costs. Using the lower $14 million figure and subtracting $2 million for legal (this year's roughly $4 million every two years) gives EBITDA of $12 million per year for my "realistic" scenario. This could be arrived at by posting normal real sales of $150 million per year and an EBITDA margin of 8%. The $3 million value for depreciation/MCAPX in the realistic scenario represents estimated 2011 CAPX less investment in the firm's new headquarters building. Estimated normal real operating income in the realistic scenario is $9 million per year. Estimated normal real operating income in the optimistic scenario is arrived at by using 10-year averages for real sales and EBITDA margin and comes to $18.385 million.
(First column is "conservative" scenario, second is "realistic," third is "optimistic." $ figures in millions except for per share data)
| Normal Real Sales: | $138.30 | $150.00 | $185.61 |
| EBITDA Margin: | 5.21% | 8.00% | 11.52% |
| Normal EBITDA: | $7.20 | $12.00 | $21.39 |
| Normal MCAPX/Depreciation: | $5.56 | $3.00 | $3.00 |
| Normal Operating Income: | $1.64 | $9.00 | $18.39 |
| Normal Other Income&Expenses: | $0 | $0 | $0 |
| Estimated Interest Expense: | $0.80 | $0.80 | $0.80 |
| Owner Earnings Before Taxes: | $0.84 | $8.20 | $17.59 |
| Estimated Cash Tax Rate: | 30% | 30% | 30% |
| Estimated Cash Taxes: | $0.25 | $2.46 | $5.28 |
| Owner Earnings: | $0.59 | $5.74 | $12.31 |
| Real Discount Rate: | 9% | 9% | 9% |
| Earnings Power Value: | $6.52 | $63.78 | $136.77 |
| Add Cash and Securities: | $50.10 | $50.10 | $50.10 |
| Subtract Minority Interest: | $0.23 | $0.23 | $0.23 |
| Subtract Moving Costs: | $2.35 | $2.35 | $2.35 |
| Value of Common Stock: | $54.51 | $111.76 | $184.75 |
| Shares Before Option Exercises: | 18.417 | 18.417 | 18.417 |
| Share Value Before Options: | $2.96 | $6.07 | $10.03 |
| PV of Option Proceeds: | $5.57 | $5.57 | $5.57 |
| Value of Common After Options: | $60.07 | $117.33 | $190.39 |
| Shares After Option Exercises: | 20.792 | 20.792 | 20.792 |
| Share Value After Options: | $2.89 | $5.64 | $9.15 |
| Share Value: | $2.89 | $5.64 | $9.15 |
| Estimated Probability: | 30% | 50% | 20% |
Point Estimate of Value Per Share: $5.52
All values below normal operating income are the same in all three scenarios. Miscellaneous income and expenses are expected to average to zero. Estimated interest income is not added because cash and short-term securities are added back to earnings power value. Interest expense is assumed to stay constant at the trailing twelve month value of $0.8 million. I conservatively assume a 30% cash tax rate in perpetuity. To estimate the real discount rate, I add the roughly 1% real yield on the 30-year treasury to the roughly 6.5% current implied equity risk-premium for the S&P 500. I then tack on a 1.5% small-cap premium. Keep in mind that this is a real discount rate and would translate into a rate of about 12% if we allowed for a 3% expected inflation premium.
All of the firm's cash and short-term investments are interest-bearing, but I subtract $3 million from the amount of cash added back to account for the estimated additional taxes that would be due if the firm repatriated the cash it holds in foreign accounts. The firm anticipates incurring $2 million of capital spending and $0.5 million in incremental operating expenses associated with moving to its new headquarters building in the current quarter (as an aside, the firm expects to realize savings by consolidating all operations in one location). As these are not recurring expenditures, I take a one-time deduction of $2.350 million for the incremental CAPX and the after-tax incremental expenses. Lojack had 17.7 million shares outstanding at the end of quarter 3 2011, to which I conservatively add 0.717 million in unvested restricted stock to get a total share count of 18.417 million. Before accounting for stock options, this results in an estimated intrinsic value of $2.89/share in the conservative scenario, $6.07/share in the realistic scenario, and $10.03/share in the optimistic scenario.
The firm has 2.375 million stock options outstanding with an average exercise price of $4.10 and an average time to expiration of 4.12 years. I assume that all options will be exercised at expiration, resulting in an increase in the share count to 20.792 million shares. In this scenario, Lojack would receive proceeds of $9,737,692.70 in 4.12 years. I use a very conservative nominal discount rate of 15% to discount this value back to the present, resulting in an addition to value of $5.568 million. Adding that $5.568 million to the value of common equity before the adjustment and dividing by the new share count results in an estimated per share value of $2.89/share in the conservative scenario, $5.64/share in the realistic scenario, and $9.15/share in the optimistic scenario. Since each of these estimates are below the corresponding estimates before accounting for the stock options, these are my final estimates of per-share value. I'm not sure that there is a great deal of value in formulating a point estimate of value in addition to a range, but if pressed to do so I would estimate the intrinsic value of the stock at $5.52/share.
Note that this valuation does not attribute any value to growth. The option to leverage current assets to take advantage of valuable growth opportunities like LoJack SafetyNet surely has some value, but it is difficult to estimate.
Risks
-The stock is relatively illiquid. Average volume was about 37,000 shares per day before the delisting announcement.
-Pending legal claims seem unlikely to lead to large losses but one can never be sure.
-Management fails to execute.
-More bad luck.
Catalysts
-Forced or speculative selling resulting from delisting from the S&P 600 small cap index has pushed the stock price down over 14% since November 15th.
-Stock is revalued to reflect normalized EBITDA and free-cash flow over the cycle instead of the current depressed levels of these variables.
-The buyback is increased. Management indicated that they are open to this option in the third quarter conference call.
-Management also indicated that they might be open to a buyout on favorable terms.
-Everything comes together in an impressive fourth quarter earnings beat: auto sales surprise on the upside in the U.S, most of the foreign sales that weren't realized in the second and third quarters materialize in the fourth quarter, Italy finally becomes profitable, Canada has bottomed out, accrued legal expenses are reversed.
-New management is able to execute on opportunities and avoid unnecessary legal and business problems.
-LoJack SafetyNet gathers momentum and the market recognizes the potential of this growth opportunity.
Disclosure: I am long LoJack Corporation (LOJN) common stock.
