ModaCad, Inc. (MODA)Analyst: Richard Geist March 24, 1997
Summary Financial Information
Price: $7 1/16
Buy: under $7 1/16
Shares Outstanding: 3.9 million
Float: 1.75million (approx.)
ModaCad designs, markets, and supports virtual reality, rendering, and modeling software for the industrial design and retail market, primarily for the home design, home furnishings, and apparel industries. Their core patented technology enables a user to take a simple two dimensional image, create and model synthetic 3D objects, and then render them in real time with photorealistic quality on a computer screen.
History
In 1988 management used the basis of their technology to create a rendering engine, and began offering the apparel industry computer aided design (CAD) products for the industrial design segment of the industry. After four years of relative success in the apparel industry, management decided to look at other industries where they could leverage their patent. The logical place was the home furnishing industry, which led to different products based on the same technology. The next major step for the Company was to enter the retail consumer market, and MODA is on the verge of releasing its first new consumer oriented software.
Product: Computer Aided Design
Manufacturers of apparel and home furnishing typically create new products by building prototypes and samples of new items. For example, to evaluate a new design of a polo shirt, one must create an original prototype and then 50 different polo shirts in a variety of styles and colors. The process is both expensive and time consuming, so manufacturers have been turning to virtual reality as a way to save both labor and time. Using MODA's technology a company can create one photo of a person and then drape a photorealistic image over the top of it using the rendering engine. In a similar way a manufacturer of furniture can create a two dimensional model of a couch and then drape it with different fabric and textures that are rendered in real time. Real time is an important part of the process. One of the main problems in the graphic industry has been that when using graphics on the computer, the amount of time it takes for the computer to refresh can be up to 10 minutes dep a couch. MODA's point of sale kiosk allows the customer to see what the whole couch would look like in a photorealistic environment--changing color and fabric or finish. This is particularly important because it increases special order sales, which is a higher end, more profitable business.
Customers who use or are testing ModaCad's manufacturer specific catalogs for use with point of sale interactive kiosks include Sears, Levitz Furniture, Crate and Barrel, JC Penney, Broyhill, and Ashley Furniture.
Product: Home Decorator Series
Combining the power of the rendering engine and electronic merchandising, MODA is entering the highly competitive consumer software marketplace with the Home Decorator Series. The first entry, 3D Home Interiors, is a tool for visualizing home interior design and decorating projects. It features an electronic catalog of branded home furnishings and fixtures from over 50 manufacturers. The items include sofas, tables, carpeting, window treatments, kitchen and bath cabinetry, wallpaper, artwork appliances, and electronics. The program's search tool quickly locates a desired item in the catalog by sorting the products by type brand, style, dimensions and price range. Fabrics can be sorted by material type, style, and color. Furniture and fixtures can be customized according to manufacturers specifications.
Broderbund Software (Nasdaq: BROD) is the exclusive publisher of 3D Home Interiors. The product will be released early this spring, but apparently Broderbund was so taken with the product that they were willing to guarantee MODA a minimum run rate up front so the Company is generating revenue on this product even though they have not sold one unit yet. The advantages to this publishing agreement include Broderbund's extensive marketing and distribution channels and the cost savings of not having to market the product themselves. In addition, 3D Home Interiors is a complementary product to Broderbunds' 3D Home architect, which has sold 7 million units in 4 years and still generates annual revenues of about $10 million a year. Street price of 3D Home Interiors will be $49.95. Management believes that the product will allow the company to double its top line this year and next. MODA also plans to offer a 3D Home Interiors Internet web site for downloading custom home furnishing and fixture collections and designer sample rooms.
Broderbund is just the first licensee of MODA's technology. In addition to software companies, MODA should also be able to approach hardware companies who are beginning to incorporate certain software into chips and license the technology to chip manufacturers, thereby creating potentially lucrative oem deals.
As an example of how the technology can be leveraged horizontally, ModaCad recently announced a new product line aimed at the professional space management market for manufacturers and retailers. Their first entry into this estimated $1 billion market--ModaPLAN-- enables retailers and store designers to create and view three dimensional photorealistic renderings of store layouts and planograms and then integrate these functions from one centralized database which contains both product and fixture information.
Competition
Within the apparel industry there are other good technologies in existence. Computer Design Inc. is the largest company doing what MODA does. But all of their technology is based on silicon graphics machines, which are much more expensive. Within the home furnishing industry, there is little competition in the 3D area. Autodesk produces a two dimensional product, but does not have the catalog to go with it. Pixar has similar visualization quality and rendering, but they are in a different market and don't compete directly with ModaCad. In addition, in the home furnishing and apparel markets relationships are important, and MODA 's reputation in these niche markets should help protect it from new competitors. ModaCad is the only company that owns a huge library of digital content in the home furnishing and apparel industry. This could prove ending on how elaborate or complicated the image is. The mathematical algorithms which are the basis for MODA's patent accomplishes the refresh time virtually instantaneously while you watch. In addition the CAD products are compatible with both Windows and Macintosh systems.
Currently the Company has an installed base of about 800 users including customers such as Jantzen (a division of VF Corporation), Burlington Industries, Hasbro, L.L. Bean, Pendelton Mills, and F.W. Woolworth.
Product: Electronic Merchandising
Once products have been digitized through the CAD system and are available on computer for sampling in their many varieties, manufacturers need a method for marketing the products. Electronic merchandising allows manufacturers to minimize the amount of space occupied in their retail stores. Couches and chairs are not that dissimilar; what is different is the fabric and color. It is hard for the average buyer to visualize texture, color and fabric from a six inch piece of fabric draped overto be a huge market for the Company if commerce on the internet begins to take off in the next two years. In fact management believes that much of their business will be done over the internet within two years.
Financial
ModaCad came public in late March, 1996. Latest financial information is for the third quarter of 1996. ModaCad reported net income of $589,214 or $0.15 per share on 3.9 million weighted average shares as compared with a net loss of $17, 464 or ($0.01) per share on 1.7 million weighted average shares for the same period last year. Net sales increased 171% to $1.3 million compared with $468,516 in the third quarter of 1995. Increased sales primarily resulted from revenue generated under its publishing agreement with Broderbund as well as growth in ModaCad's commercial products for CAD and electronic merchandising. Gross margins were an incredible 98%.
We expect revenues for 1996 to be approximately $3.3 million, with earnings per share between $0.19--$0.21. For 1997 I expect a doubling of revenues to about $6.5 million and $0.45-$0.50 per share. You should be clear, however, that we expect the bulk of these revenues to be in the second half of 1997 with the first two quarters showing a small loss or break even results. This is due to the fact that 3D Home Interiors will not be released until spring and the revenue stream will probably not ramp up until the fourth quarter. Management feels that 1998 should be more of a break out year for the Company. For those investors who do not understand this fact, a reported break even quarter may cause a pull back in the stock and give you another buying opportunity. Margins should remain high, probably in the high 80% to low 90%. We expect 3D Home Interiors to contribute about 50% of the revenues and CAD and electronic merchandising to contribute 50% revenues for 1997.
The balance sheet is excellent. Current ratio is 12.2. Quick ratio is 12.09 with working capital of $3.7 million. At the end of the third quarter, the Company had $2.4 million in cash and zero long term debt. There are approximately $10 million in warrants which are now in the money, but the Company recently announced that these warrants were not being exercised at this time. Trailing P/E is about 35 assuming the Company meets our expectations for 1996, while the forward P/E is 15.5, so there should be room for multiple expansion in addition to earnings increases. Price to book is 4.24; price to sales is 8.2, both of which are currently high if it were not for the expected rapid growth of this company. Return on equity for 1996 should be about 9% and into double digits in 1997.
Risks
MODA is currently undergoing a shift from development stage company to sales and marketing. New products have not been sold yet, and the expected revenues are merely guestimates at this point. Thus you should treat the stock as highly speculative and realize you could lose your principal. If 3D Home Interiors does not sell well, the company will have difficulty. The relationship with Broderbund is obviously important in the short term and any interference with that relationship would material effect MODA's progress. The Company currently has a small revenue base, so increasing top line growth is extremely important for the Company (with their high margins, we are less concerned about earnings, which should accompany the top line). MODA is also highly dependent on increasing their customer base, and any shortfall here could impact the stock price. In addition, while competition is presently not an issue, technological advances made by others could certainly become a major risk factor in the future. The lack of liquidity, in addition to helping on the upside, could hurt the stock if revenues and earnings don't meet expectations. With these cautions, however, we think there is potential for significant upside in this stock.
No statement or expression of opinion or any matter herein contained is, oris deemed to be, directly or indirectly, an offer or a solicitation of anoffer to buy or sell the security referred to above. The informationcontained herein is taken from sources believed to be reliable, but itsaccuracy cannot be guaranteed. There can be no assurance that futurerecommendations by these sources will prove profitable or will equal theperformance of past recommendations. The principals and employees of thisCompany may trade in securities mentioned herein subject to self-imposedrestrictions, such affiliated persons may at any time hold positions inissues recommended within this publication. The Company may be a marketmaker in the securities referred to herein.
© 1997 Ray Dirks Research, A Division of Security Capital Trading, Inc.,member NASD, SIPC.
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