Let’s start by running Titan Logix (“TLA”) through my initial screen of: 1) Capable management teams and board, 2) Strong balance sheet, 3) Profitable growth, and 4) An attractive valuation.
1) Management and Board
TLA appointed a new CEO in Feb 2016 named Douglas Carruthers. In Dec 2017, TLA announced Carruthers employment agreement will not be renewed and Carruthers will cease to be CEO as of 31 January 2018.
This quick change in CEO is usually a cause for concern and warrants deeper investigation. My conclusion is that Carruthers has been pushed out by the Board. Shortly after Carruthers was appointed CEO, The Jerry Zucker Revocable Trust (“Zucker Trust”) announced it was looking to appoint three directors. In April 2016, the Zucker Trust announced an agreement with Titan in which the Zucker Trust was able to appoint two directors and acquire 2.3 million shares.
The current Board of Directors consists of 4 people at TLA; two of which have been appointed by the Zucker Trust (Helen Cornett and Grant Reeves). Warren White (the third of four directors) also looks connected as both Warren White and Grant Reeves sit on the board of Circa Enterprises (TSXV: CTO). I believe the Trust did not want to renew Carruthers’ employment agreement for cost reasons. The current Chief Technology Officer, Greg McGillis, previously served as CEO at Titan and continues to be employed at Titan. My expectation is that there will not be a new CEO appointed. While the executives are not earning excessive compensation, my impression of the Zucker Trust based on this article is that they are very frugal and will not leave any stone unturned in search of cost savings.
The Zucker trust currently owns 25% of shares outstanding. There are no other 10% owners.
Given their track record, I would deem the Zucker Trust as capable. However, there is a question as to whether the Zucker Trust is aligned with the interests of minority shareholders. In a previous transaction, the trust came under scrutiny for paying $1.70 a share to take Galvanic Applied Sciences private. Prior to the offer for Galvanic, the shares were trading at $1.60 on the open market, meaning the premium was very small.
It is also worth noting that the two Board Members that the Zucker Trust appointed to the Titan Board were involved in the Galvanic Transaction (Grant Reeves and Helen Cornett).
2) Balance Sheet
TLA’s balance sheet is very strong. As at 30 Nov 2017, Titan had $6.5 million of cash, $2.0 million of marketable securities, and an additional $4.9 million owed to TLA by an energy services company in the form of a secured loan. TLA does not have any debt outstanding.
3) Profitable Growth
Recently, TLA has neither grown, nor been profitable. The company sells a single product which is heavily exposed to fracc’ing and shale oil. As such, they have seen revenue collapse from $17 million to the current level of ONLY ~$3.5 million; down a whopping 80%. The table below shows sales, earnings before taxes and EPS for the past 10 years.
As at 30 November 2017, Titan Logix has a 28.5 million shares outstanding. Shares most recently traded hands at $0.50, putting TLA’s market cap at $14.3 million.
Titan has lost money in each of the past two fiscal years (TLA reports on an August year end) making earnings-based valuation measures difficult. Peak EPS was $0.15 in FY12 which is roughly 3.3x the current share price. It is highly unlikely that TLA will earn this amount again in the near future as the company benefitted from the massive build out of the shale oil industry, which is unlikely to repeat.
Another way to think about valuation is to look at assets. The total of TLA’s cash, marketable securities and secured loan is $13.4 million. This almost fully supports TLA’s current market capitalization of $14.3 million. If TLA can ever earn money again, then the current share price could be an attractive entry point.
TLA’s trajectory looks promising in terms of returning to profitability. After reporting a gross margin of 22% in FY16 and 33% in FY17, TLA reported a 47% gross margin in its most recent quarter (Q1/FY18). On a cash operating basis, TLA spent about $150K more than it earned in Q1/FY18. In FY17, TLA spent $809K more than it earned on a cash basis and in FY16 the same number was $2.4 million (excluding asset sales but including interest income).
When valuing companies on an asset basis, the rate of burning cash is important because the asset value deteriorates by the rate at which the company burns cash each quarter. Given the trajectory, TLA should return to profitability and start increasing asset value each quarter by the end of FY18 or early FY19.
Balance sheet is very strong. Based on the strong balance sheet, TLA also looks attractively valued given it is trading nearly at the same value of its cash, marketable securities, and secured loan. The Zucker Trust likely does not have the interest of minority shareholders’ in mind, but this may limit upside rather than increase downside risk which I am okay with. The big question to answer is whether or not TLA can become profitable. If it does not, the company will continue to burn cash, and the balance sheet will slowly weaken, and for lack of a better term TLA will likely be a “value trap”.
Return to profitability?
In order to determine if Titan Logix can become profitable again, we need some more information:
End-markets: Titan focuses predominantly on the upstream and midstream oil and gas industry. This market demands rugged and reliable equipment because the drill sites are often accessed via rough industrial roads.
Product: Titan’s core product is known as the TD80. Its use is in mobile tankers (ie. large trucks that carry fluid). The TD80 is one part fluid level gauge and one part overfill prevention device. The TD80 has no moving parts making it more durable than float-based mechanisms. In the year ended Aug 2017, the TD80 and the associated display generated 83% of TLA’s revenue. The key takeaway is TLA is a single product company.
Sales Channel: Titan sells to both the manufacturers of mobile tanks and the dealers who sell mobile tanks. Examples of tank manufacturers are: Mac LLT, Heil Trailer, Beall / Walker (owned by Wabash National; a public company), and Vantage Trailers. An example of Dealer is Shipley Motor Equipment in Arizona or Bruckner’s Truck sales in Texas. It is worth nothing that Wabash (owner of Beall/Walker) thinks its tank trailer sales will be up 10-15% in 2018, but this is after being down 35% in 2016 and down another ~10% in 2017. I’d also note that Beall/Walker has significant exposure to dairy, food and beverage end-markets that TLA does not.
End-user: The end buyer of Titan’s TD80 product is often oil companies themselves. Unlike in over-the-road truck transport, the end-user (ie. oil company) is often the owner of the truck rather than a third party logistics/transportation company.
Intellectual Property: It is unclear how much intellectual property is proprietary to TLA. TLA notes in its annual report that it has a license agreement with Lawrence Livermore National Laboratory and pays a royalty of 3% of TD80 sales. The license agreement remains in force until Feb 2018 when the last patent expires. TLA talked about filing its own patents in FY14 and FY15 but it is unclear if these have been incorporated into any product. Titan paid royalties of $79,199 in FY17.
Rig count: Given TLA’s focus on upstream/midstream oil and gas end-markets, the Rig Count in the United States is a very important indicator. As can be seen, while the number of rigs has increased from the lows, it is still materially below 2015 levels. In my view, this means there is still a significant amount of equipment or “kit” that is sitting idle. This is likely to depress sales in the near to medium term.
Retrofit: Given depressed new tanker sales due to idle equipment, TD80 has turned attention to gaining sales in the retrofit market. The table below is from Wabash National. It shows that the life of an Aluminum Tank is ~10 years while the life of a Stainless Steel tank is 15-30 years. Given that the TD80 is a solution meant for “rugged” applications with no moving parts, I would expect it also has a relatively long life. This limits the amount of retrofit opportunity available to Titan.
Competitors: TLA has a number of competitors that also offer tank monitoring solutions. TLA is unique because of the technology used in its product called Guided Wave Radar (“GWR”). The only other company to offer GWR is Vega (www.vega.com). I do not view Vega as a competitive threat because TLA actually sells some of Vega’s product within its “stationary tank gauging” assortment listed on TLA’s website. It is unlikely TLA would sell product of a company that it views as a competitor.
Other TLA competitors include:
Scully Signal (www.scully.com): Scully offers a overfill protection system which relies on an optical sensor. The optical sensor has a binary output. It is either wet or dry meaning the tank is either full or still has room. Optical sensors do not offer level gauging like GWR does. GWR can tell you whether a tank is 33% full of 55% full.
Garnet Instruments (https://www.garnetinstruments.com/): Garnet sells a product known as the SeeLevel tank gauge which is based on a “Float” system. GWR has advantages relative to float-based systems. Fluid movement in the tank during transport can set off an overfill warning in a float-based system. Floats can also get stuck and do not measure properly if tank is not cleaned/maintained properly.
There are a number of other competitors also using some combination of floats and optical sensors for overfill protection including: Micro-design (http://www.micro-design.com), Civacon (http://www.opwglobal.com/; Owned by Dover NYSE : DOV), and Dixon Bayco (www.dixonvalve.com).
Last, there are a number of company using sensors on stationary tanks or bins to send data up to the cloud which is then used to optimize transport routes: eCube, SmartBin, Atek Access Technologies, Enevo, SMARTLogix, Numerex (owned by Sierra Wireless; TSX: SW).
TLA is trying to return to growth by 1) Focusing efforts on adjacent end-markets (ie. outside of crude oil such as food, chemicals, etc.), 2) Emphasizing retrofit sales, and 3) Software allowing monitoring of driver performance, fluid level and weight inventories, alarm conditions and GPS location data.
I do not have a high confidence around any of these growth strategies.
In terms of adjacent markets, I think TLA had a great “product-market fit” with shale oil because of shale oil’s need for a rugged instrument and the high sensitivity around spills (TD80/GWR allows for multiple warnings at different fill levels). It will be difficult to expand into other applications as there are already entrenched competitors that know the needs of the specific application better than TLA.
In terms of retrofit, I think the opportunity is limited given TD80 has a relatively long product life.
In terms of software, I am not sure there is a valid value proposition that customers will be willing to pay for. I would like to see more “reference” customers before making this bet.
Titan has a single product that is dependent on the crude oil market. It is likely that Titan’s end-market in 2018 will be better than 2017. However, any improvements will likely only be marginal as there is still a lot of idle equipment that needs to be worked through. Titan has a unique technology, but it is coming off license in 2018. It is unknown if Titan has enough other patents to prevent competitors from entering Guided Wave Radar. I do not have confidence around Titan’s growth efforts outside of the TD80 and the crude oil end-market.
Titan is not a “quality company”. The fact that nearly all of Titan’s sales are from single product is bad. The fact that the product is coming off license and could be exposed to new competition is even worse. Not to mention that the product is dependent on a very cyclical end-market prone to boom-bust cycles. However, as I have said in other posts, a quality investment does not necessarily need to be a quality company.
Titan does not fit with my investment strategy.
Where I could Be Wrong
There is a possibility of an asymmetric risk/return payoff. It is hard to see things getting much worse for Titan. At the same time, TLA should return to profitability over the next 1-2 years. TLA’s market capitalization is almost entirely backed by cash, marketable securities, and a secured loan that Titan owns. In other words, Titan is being priced near liquidation value. If oil were to spike back up to US$100+, I would expect there to be another capex frenzy in shale oil as companies rush to prove out reserves. I do not think Titan is getting any credit for this “optionality” in its share price.
The Company’s website: www.titanlogix.com
Author Ownership: No TSXV: TLA
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