Mike,
No investment is for everyone. I didn't jump on the Internet bandwagon last year because I thought that many of the stocks were grossly overvalued due to excessive speculation. I am not a mo-mo trader either, and didn't even buy Internet stocks for fear of being the last fool to get in at the top. As it turned out, I made the right decision but I was wrong for a few months before they topped out and crashed. That said, I think that GUMM is an excellent investment, but not at any price. At the current price, I think the stock offers an excellent risk to reward and here's why. Please be forewarned that this is a long post, but I think it is chock full of good information that addresses some of the major reasons Gum Tech is an excellent investment.
Approximately two and a half years ago, Gum Tech made several changes to their Board of Directors and upper management that led to the institution of a new strategic business plan. The new management realized that the company had great expertise in developing functional chewing gum, but they didn't have the capital resources to maximize and grow sales. Instead of trying to build their own brand names, they decided to partner with companies that had better financial resources and established distribution channels. This led to supply contracts with Breath Asure (dental gum), Heritage (Aspirgum, Accutrim Diet gum), Ranir (private label dental gum), and PharmaGreen that enabled Gum Tech to significantly increase sales of chewing gum. To continue growing the gum business, Gum Tech realized that they had to increase the capacity of their plant prior to receiving orders that would offset their investment. Their goal was to establish a partnership for nicotine cessation gum with a large global company and dental gum with a company the size of Colgate or Procter & Gamble. The investment that they made in fixed assets has led to small losses on chewing gum the last few quarters, but it already paid off in the form of a significant joint venture with Swedish Match.
The joint venture with Swedish Match is even larger in scope than nicotine cessation gum. The agreement requires all non-tobacco nicotine products developed by either company to fall under the purview of the joint venture. This includes products such as nicotine patches, lozenges, inhalers, nicotine gum sold as a substitute for smoking, and other non-tobacco nicotine products. This joint venture has substantial potential for the future. SmithKline Beechum is the market leader with about 90% share of the smoking cessation market. Their sales were $609 million last year, and grew 30% from 1996 to 1997, 11% from 1997 to 1998, and 23% from 1998 to 1999. Industry experts expect sales of nicotine cessation products to grow to $1.5 billion by 2005, and based on the growth at SKB, I think that this is a realistic expectation. Swedish Match sold their cigarette division just prior to announcing the joint venture with Gum Tech to focus on non-tobacco businesses such as the JV with Gum Tech. In fact, the President/CEO of Swedish Match mentioned the JV with Gum Tech during his annual address to Shareholders. To put this in perspective, the JV with Gum Tech was the only one that he mentioned by name as being very important to the future growth of Swedish Match. If you haven't heard of Swedish Match, they sell products in about 140 countries and one of their most popular brand names is Redman. The joint venture calls for Gum Tech to be reimbursed their cost of production plus a small fixed fee for producing the gum, and Gum Tech will share in 49% of the profit of the joint venture. Swedish Match will contribute $10 million in start up capital to the joint venture.
Gum Tech said at their annual meeting that they are working with a large consumer products company to bring a new dental gum to the market. SmithKline Beechum recently announced Aquafresh Dental Gum, and Colgate and P&G (Crest) are the only two large toothpaste companies that don't have a dental gum on the market. Without a doubt, Gum Tech is working with one or both of these companies, and I would imagine that they will announce a deal soon since Aquafresh beat them to the market. Either one of these deals would increase the volume of Gum Tech's gum operations enough to put them immediately in the black.
Biodelivery Technologies (BDT), a biotech company that developed Zicam, and Gum Tech created a new company called Gel Tech last year. Gum Tech owns 60% of Gel Tech, and BDT owns the other 40%. BDT transferred all intellectual property rights for Zicam to Gel Tech, and Gel Tech was granted a patent from the US Patent Office for Zicam a few months ago. The gross profit margin on Zicam varies with volume, but was 75% during the fourth quarter 1999. I think that it is reasonable to expect the gross margin to be about 75% in quarters where sales are about $8 million. They could probably get the gross margin up to about 80% if sales were in the $15 million range. Needless to say, Zicam is a very profitable item and the bottom line is that it works as advertised. An independent double-blind placebo-controlled clinical study concluded that Zicam reduces the duration of the common cold by about 75% from about 9 days to about 2 days. The study was peer reviewed and was published in the October 2000 issue of ENT Journal. There is absolutely no doubt that Zicam works and now the company has to get the word out to consumers. They began an advertising campaign a couple of weeks ago. I don't know everywhere that they are advertising, but I do know that Howard Stern talks about Zicam on his radio program daily, television ads have been seen during the Today Show and The Tonight Show with Jay Leno, and print ads have been seen in People magazine and TV Guide. The company is doing what they have to do to build the brand name, but since their stated goal is to partner with companies that have stronger financial resources, I would expect them to announce a new partnership for Gel Tech in the near future. The partner would not only help build the brand name in the US quicker, but it would open the door to international distribution of Zicam. The market for OTC cough and cold products is about $3 billion annually. Even if Gum Tech only captures a very small share of the market, they can make a lot of money. For example, based on 75% gross margin, $10 million in advertising expense, $4 million in operating expenses, $1 million in R&D expense, and sales of only $35 million, Gel Tech would contribute $0.87 in profit to Gum Tech's bottom line. On sales of $45 million with all other things equal, the profit would be $1.44 per share. To put this in perspective, $35 million in sales is only about 1% of the market, and $45 million in sales is only about 1.5% of the market. Gum Tech sold $9.5 million of Zicam last year and Gel Tech contributed a profit of $3.4 million to Gum Tech's bottom line ($0.46 per share). Gel Tech also recently announce Zicam Allergy Relief, which targets the $3 billion allergy market. The claims for that product are also supported by a peer reviewed, published, independent double-blind placebo-controlled clinical study.
I'm well aware of Gum Tech's past losses, but I'm also cognizant of why they lost money and what they are doing to be profitable in the future. This is just a sampling of the major reasons that I like this company. There are many other things to like Gum Tech. not the least of which is the strength of the new Board of Directors. As with the last change to the Board, I believe that the recent additions will move the company forward another major notch. So why is the price right? The company has a market cap of about $130 million as of Friday's close. Based on last year's sales of $15.5 million, the stock is trading at a price to sales of 8.4. Based on the trailing twelve month sales of $18.5 million, the stock is trading at a p/s of 7.0. I think that this is very reasonable for a company that grew sales 40% from 1997 to 1998, 194% from 1998 to 1999, and 51% through the first six months of this year. Yes, they eventually need to make a profit, but as a company's sales grow without a commensurate increase in expenses, they eventually pass their break even point. In the case of Gum Tech, the marginal profit above their break even point, coupled with the size of their target markets and low float, could result in a very high earnings per share in a short period of time.
BTW, the argument from the shorts goes kind of like this.
Before Dr. Hirt's clinical study was conducted:
Short: There's no proof that Zicam works. It is snake oil.
Long: Gel Tech conducted a study and the results were presented at a medical conference in Corfu Greece
Short: That's not good enough. It wasn't conducted by an independent researcher. Gel Tech rigged the study. They are a fraud and Zicam is a scam.
Gum Tech says that Dr. Hirt conducted a study, that Zicam shortened the duration of the cold by 75%, and his results are being submitted for publication.
Short: Who is Dr. Hirt. He's not credible.
Long: Dr. Hirt graduated from Harvard Medical School and is on the clinical staff at UCLA. He has a private medical practice in LA and is well qualified to conduct the study.
Short: Who cares. His study will never be published.
ENT Journal announces that Dr. Hirt's study passed their rigorous peer review and that they will publish the study.
Short: The ENT Journal is just some little specialty journal that nobody cares about. Why aren't they published in the NEJM?
Long: The editorial staff of ENT Journal is made up of some of the most reputable Ear Nose and throat physicians in the world. It is an honor to be published in that journal, and the specific journal isn't as important as being published. Reprints of the article can be sent to doctors, pharmacists, buyers, customers, etc., who don't happen to read the ENT Journal.
Short: Gum Tech hasn't made a profit in the five years that they've been public.
Long: I explained this above. Stocks discount the future and it really doesn't matter whether they lost money for the last five years. They are in sound financial condition, have more cash than at any time in their history and paid off all their debt earlier this year. They have plenty of inventory of Zicam on hand and don't have any cash flow concerns whatsoever. The future is bright and GUMM is an excellent investment.
You might also notice that the shorts such as Goldfinger, mad2, Hank, and Wexler take a position, bash, cover, and leave...short, bash, cover, and leave. It should be obvious to anyone that they are the P&Ders here. They never say anything substantive and continually ignore sound arguments for an investment in this company. The only thing that they can point to is small past losses, but not for long.
Best regards and best of luck,
Dan |
