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Archive for the ‘Rackable Systems Inc (NASDAQ:RACK)’ Category

Update June 16, 2009: SOAP has announced that it proposes to liquidate. See our post below.

Update June 3, 2009: We’ve pinned this post to the front page. Any new posts between now and July 4th will appear below this post.

June 1, 2009 marked the end of Greenbackd’s second quarter. It’s time again to report on the performance of the Greenbackd Portfolio and the positions in the portfolio, discuss the evolution of our valuation methodology and outline the future direction of Greenbackd.com.

Second quarter performance of the Greenbackd Portfolio

The second quarter was nothing short of a blockbuster for the Greenbackd Portfolio, up 74.2% on an absolute basis, which was 52.8% higher than the return on the S&P500 return over the same period. A large positive return for the period is heartening, but our celebration is tempered by the fact that it is difficult to avoid a good return in a market that rises 25.0% in a quarter. Our Q1 performance was -3.7% (see our first quarter performance here), which means that our total return since inception (assuming equal weighting in each quarter) is 67.8% against a return on the S&P500 of 11.6%, or an outperformance of 56.2% over the return in the S&P500.

It is still too early to determine how Greenbackd’s strategy of investing in undervalued asset situations with a catalyst is performing, but we believe we are heading in the right direction. Set out below is a list of all the stocks in the Greenbackd Portfolio and the absolute and relative performance of each from the close of the last trading day of the first quarter, Friday, February 28, 2009, to the close on the last trading day in the second quarter, May 29, 2009:

Greenbackd Portfolio Performance 2009 Q2You may have noticed something odd about our presentation of performance. The S&P500 index rose by 25.0% in our second quarter (from 735.09 to 919.14). Our +74.2% performance might suggest an outperformance over the S&P500 index of 49.2%, while we report outperformance of 52.8%. We calculate our performance on a slightly different basis, recording the level of the S&P500 index on the day each stock is added to the portfolio and then comparing the performance of each stock against the index for the same holding period. The Total Relative performance, therefore, is the average performance of each stock against the performance of the S&P500 index for the same periods. As we discussed above, the holding period for Greenbackd’s positions has been too short to provide any meaningful information about the likely performance of the strategy over the long term (2 to 5 years), but we believe that the strategy should outperform the market by a small margin.

Greenbackd’s valuation methodology

We started Greenbackd in an effort to extend our understanding of asset-based valuation described by Benjamin Graham in the 1934 Edition of Security Analysis. (You can see our summary of Graham’s approach here). Through some great discussion with our readers, many of whom work in the fund management industry as experienced analysts or even managing members of hedge funds, and by incorporating the observations of Marty Whitman (see Marty Whitman’s adjustments to Graham’s net net formula here) and Seth Klarman (our Seth Klarman series starts here), we have refined our process. We believe that what started out as a pretty unsophisticated application of Graham’s liquidation value methodology has evolved into a more realistic analysis of the balance sheet and the relationship of certain disclosures in the financial statements to asset value. Our analyses are now quantitatively more robust than when we started and that has manifest itself in better performance.

Tweedy Browne offers some compelling evidence for the asset based valuation approach here.

Update on the holdings in the Greenbackd Portfolio

There are eleven stocks remaining in the Greenbackd Portfolio:

  1. VXGN (added March 26, 2009 @ $0.48)
  2. DRAD (added March 9, 2009 @ $0.88)
  3. ASYS (added March 5, 2009 @ $2.78)
  4. CAPS (added February 27, 2009 @ $0.60)
  5. DITC (added February 19, 2009 @ $0.89)
  6. SOAP (added February 2, 2009 @ $2.50)
  7. NSTR (added January 16, 2009 @ $1.91)
  8. ACLS (added January 8, 2009 @ $0.60)
  9. MATH (added December 17, 2008 @ $0.68)
  10. ABTL (added December 11, 2008 @ $0.43)
  11. AVGN (added December 1, 2008 @ $0.65)

The future of Greenbackd.com

We are taking a brief vacation. We’ll be back full-time after July 4th, always reserving the right to post interesting ideas in the interum and update our open positions. If you’re looking for net nets in the meantime, there are two good screens:

  1. GuruFocus has a Graham net net screen ($249 per year)
  2. Graham Investor NCAV screen (Free)

Greenbackd is a labor of love. We try to create new content every week day, and to get the stock analyses up just after midnight Eastern Standard Time, so that they’re available before the markets open the following day. Most of the stocks that are currently trading at a premium to the price at which we originally identified them traded for a period at a discount to the price at which we identified them. This means that there are plenty of opportunities to trade on our ideas (not that we suggest you do that without reading our disclosures and doing your own research). If you find the ideas here compelling and you get some value from them, you can support our efforts by making a donation via PayPal.

We look forward to bringing you the best undervalued asset situations we can dig up in the next quarter.

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Rackable Systems Inc (NASDAQ:RACK) has announced that it is suspending its buyback and acquiring substantially all the assets of Silicon Graphics Inc (NASDAQ:SGIC) for “approximately $25 million in cash, subject to adjustment in certain circumstances, plus the assumption of certain liabilities associated with the acquired assets.” Without the buyback, our investment thesis is gone, so we’re exiting our position in RACK. We opened it on March 11, 2009 when it was trading at $3.56, so we’re up 9.0% on an absolute basis. The S&P500 Index was trading at 719.60 when we opened the position in RACK, and closed yesterday at 811.08, which means we’re down 3.7% on a relative basis.

We started following RACK (see our post archive here) because it was an undervalued asset play, and had announced a plan to repurchase almost 40% of its stock. That buyback is now suspended. If the buyback had been completed at the current stock price, the company’s per share liquidation value would have increased by around 17% to $6.72. The acquisition of SGIC’s assets is also almost certain to reduce RACK’s liquidation value. The likely reduction in liquidation value combined with the suspension of the buyback is fatal to our investment thesis, and that’s why we’ve exited. On the whole, a disappointing outcome for us, but the stock is up to $3.95 in after hours trading, so the market clearly disagrees with our assessment.

The Asset Purchase Agreement makes for interesting reading, and the deal may well turn out to be a good one for RACK. It’s certainly buying at the right time and from a distressed seller, which are indicators, but not conclusive, that the deal is good for RACK. It also seems from the Asset Purchase Agreement that RACK is cherry picking the assets it wants and avoiding the liabilities it doesn’t. Whether the deal works for RACK, we have no idea. This sort of analysis is beyond us, so we focus on the liquidation value. Prior to the company entering into the agreement with SGIC, we estimated the liquidation value at around $171.6M or $5.74 per share. Although it is difficult to predict with any precision the effect of the acquisition on RACK’s liquidation value, we are almost certain that it will be reduced by the $25M cash payment plus whatever liabilities are assumed less a smaller increase for the assets acquired. It is likely that RACK’s liquidation value will still be somewhat above its present stock price, but, without the buyback catalyst, our reason for holding the stock is gone, and so we’re out. There’s a chance that the deal will fall over, so we’ll revisit RACK in that event.

The company’s press release is set out below:

Rackable Systems Announces Agreement to Acquire Silicon Graphics Inc.

FREMONT, CA and SUNNYVALE, CA., April 1, 2009 – Rackable Systems, Inc. (NASDAQ:RACK), a leading provider of servers and storage products for medium to large-scale data centers, today announced its agreement to acquire substantially all the assets of Silicon Graphics, Inc. (SGI) (NASDAQ: SGIC) for approximately $25 million in cash, subject to adjustment in certain circumstances, plus the assumption of certain liabilities associated with the acquired assets.

The combined businesses will provide customers with market leading hardware and software technology within large-scale x86 cluster computing, HPC, Internet, Cloud Computing, large-scale data storage environments and visualization platforms across many verticals and geographies. This combination is also expected to result in a stronger global services organization; reaching commercial, government and scientific sectors on a worldwide basis.

“The combined company will be positioned to solve the most demanding business and technology challenges our customers confront today,” said Mark J. Barrenechea, president and CEO of Rackable Systems. “In addition, this combination gives us the potential for significant operational synergies, a strong balance sheet, and positions the combined company for long-term growth and profitability.”

“We have been working very hard to strengthen our company, and today, we’ve taken another big step in that direction,” stated Robert “Bo” Ewald, CEO of Silicon Graphics. “This transaction represents a compelling opportunity for Silicon Graphics’ customers, partners and employees, who can all benefit from the emerging stronger company with better technologies, products and markets reach.”

Barrenechea added, “Together, we believe we will be a much stronger entity with great products and people offering a compelling proposition to compete more effectively in, and across, our collective markets.”

Rackable has signed an Asset Purchase Agreement to acquire substantially all the assets of SGI, and to assume certain liabilities relating to the assets, pursuant to Chapter 11 of the U.S. Bankruptcy Code, under which SGI filed its petition in New York on April 1, 2009. Completion of the transaction is subject to a number of closing conditions, including the approval of the Bankruptcy Court, and other uncertainties. Subject to such conditions and uncertainties, the transaction is expected to close within approximately 60 days. It is expected that SGI’s business operations will continue during the pre-closing period. SGI’s international operations would be part of the sale, but would not be part of the bankruptcy process.

Rackable also announced today that it had suspended its previously announced program including the repurchase of up to $40 million of the company’s stock.

Hat tip to shp.

[Full Disclosure:  We have a holding in RACK. This is neither a recommendation to buy or sell any securities. All information provided believed to be reliable and presented for information purposes only. Do your own research before investing in any security.]

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Rackable Systems Inc (NASDAQ:RACK) has filed its 10K for the year ended January 3, 2009.

We’ve been following RACK (see our post archive here) because it is an undervalued asset play with a plan to repurchase almost 40% of its stock. The stock is up 10.1% from $3.56 when we added it to the Greenbackd Portfolio on March 11 this year to close yesterday at $3.92. The company now has a market capitalization of $117.2M. We initially estimated the company’s liquidation value to be 46% higher at $171.6M or $5.74 per share. We’ve now had an opportunity to review the 10K and see no reason to vary our initial estimate. If the buy back is completed at the current stock price, the company’s per share liquidation value will increase by 17% to $6.69, which presents considerable upside from the present price.

The value proposition updated

RACK has had a tough year, burning through $15.7M in the 12 months to January 3, 2009. The company’s value resides in the huge amounts of cash and equivalents on its balance sheet, much of which is from the $138.5 million follow-on public offering completed in March 2006. Set out below is our estimate of the company’s liquidation value (the “Book Value” column shows the assets as they are carried in the financial statements, and the “Liquidating Value” column shows our estimate of the value of the assets in a liquidation):

rack-summary-2009-1-3We estimate the company’s liquidation value to be around $171.6M or $5.74 per share, which is predominantly cash and equivalents in the amount of $172M or $5.75 per share. RACK’s net cash value is around $118M or $3.95 per share.

Off balance sheet arrangements and contractual obligations

According to the 10K, the company has no off-balance sheet arrangements. The contractual obligations as at January 3, 2009 were around $17.1M, around $9.5M of which falls due in the next 12 months. Those committments are $2.0M minimum lease payments under the company’s operating leases and $7.5 in purchase obligations. The company also had purchase committments in the amount of $7.6M in total.

Catalyst

According to the 10K, RACK plans to buy back almost $40M of its own stock:

In February 2009, our Board of Directors authorized a share repurchase program of up to $40 million of our common stock. The duration of the repurchase program is open ended. Under the program, we are able to purchase shares of common stock through open market transactions and privately negotiated purchases at prices deemed appropriate by management. The timing and amount of repurchase transactions under this program will depend on market conditions, corporate and regulatory considerations, alternative investment opportunities, and other relevant considerations. The program may be discontinued at any time by the Board of Directors. Shares we repurchase will be held in treasury for general corporate purposes, including issuances under employee equity incentive plans.

Conclusion

We like it when a company recognizes that its stock is deeply undervalued and takes radical action to capitalize on it. If the market is pricing a company’s stock below its liquidation value, the company’s priority should be investing in its own stock. With its stock at $3.92, RACK has a market capitalization of $117.2M, which means it’s trading at a discount to both its net cash value of $118M or $3.95 per share and its liquidation value of $171.6M or $5.74 per share. The cash burn is a risk, but we’re going to retain RACK in the portfolio.

[Full Disclosure:  We do not have a holding in RACK. This is neither a recommendation to buy or sell any securities. All information provided believed to be reliable and presented for information purposes only. Do your own research before investing in any security.]

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Rackable Systems Inc (NASDAQ:RACK) is a new undervalued asset play with a plan to repurchase almost 40% of its stock at current prices. At RACK’s $3.56 closing price yesterday, the company has a market capitalization of $106.4M. We estimate the company’s liquidation value to be 60% higher at $170.3M or $5.74 per share. If the buy back is completed at the current stock price, the company’s per share liquidation value will increase by almost 25% to $7.00. We’re adding RACK to the Greenbackd Portfolio.

About RACK

RACK is a provider of servers and storage products for data centers. The company was founded in 1999 and is based in Fremont, California. The company’s investor relations website is here.

The value proposition

RACK, as its CEO points out in its earnings release, has had a tough year, burning through $15.7M in the 12 months to January 3, 2009. The company does still have a huge amount of cash and equivalents on its balance sheet (the “Book Value” column shows the assets as they are carried in the financial statements, and the “Liquidating Value” column shows our estimate of the value of the assets in a liquidation):

rack-summary

We estimate the company’s liquidation value to be around $171.6M or $5.74 per share, which is predominantly cash and equivalents in the amount of $172M or $5.75 per share. RACK’s net cash value is around $118M or $3.95 per share.

Off balance sheet arrangements and contractual obligations

The company hasn’t disclosed any off-balance sheet arrangements in its most recent 10Q. The contractual obligations as at September 27, 2008 were around $10.2M, around $2.1M of which falls due in the next 12 months. Those committments are minimum lease payments under the company’s operating leases. The company also had purchase committments in the amount of $30.9M to the end of 2008. We’re not sure what these committments are for the next 12 months.

The catalyst

RACK has announced a radical buy back plan to repurchase $40M of its stock. From the press release:

“2008 was a tough year for our industry and for Rackable. Given our strong financial flexibility with $181 million in cash and investments, we plan on making key investments for 2009,” said Mark J. Barrenechea, president and CEO of Rackable Systems. “First, we plan to invest up to 10% of our cash to expand our product offerings and our sales and service capabilities. Second, the company announced a $40 million share repurchase program today. We believe this is an ideal time to invest in Rackable and that these investments will place the company in a stronger competitive position to gain market share as the economy recovers.”

We estimate that that such a buy back at the present prices will increase the company’s per share liquidation value by almost 25% to $7.00. This is a substantial upside to the current stock price.

Conclusion

It’s great to see company recognizing that its stock is deeply undervalued and taking radical action to capitalize on it. If the market is pricing your stock below its liquidation value, there are bargains to be had by investing in that stock, and we believe it should be your priority. With its stock at $3.56, RACK has a market capitalization of $106.4M, which means it’s trading at a discount to both its net cash value of $118M or $3.95 per share and its liquidation value of $171.6M or $5.74 per share. The cash burn is a risk, but we think RACK is a good bet at this level.

RACK closed yesterday at $3.56.

The S&P500 Index closed yesterday at 719.60 (!).

Hat tip to manny.

[Full Disclosure:  We do not have a holding in RACK. This is neither a recommendation to buy or sell any securities. All information provided believed to be reliable and presented for information purposes only. Do your own research before investing in any security.]

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