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Revolution Lighting Technologies (RVLT) is a company in the LED lighting industry which has seen its stock price increase almost 1800% from it's 52 week lows. The first phase of the runup started in September 2012 after a $6 million investment in the company. The second phase of the runup happened in January 2013 after the appointment of a new hire as President and CFO and the announcement of a new $5 million order by recently acquired Seesmart Technologies. The third phase of the runup which brings us to today occurred during March 2013 after the announcement of a new $5 million investment in the firm and the launch of a breakthrough product.

In my opinion, which is based on available facts, the company's stock is highly overpriced and can be supported only by very high growth rates and major operational improvements which is uncertain that they will occur.

Fully diluted share count and market capitalization

In order to value the company's shares we need to have in mind the fully diluted share count which is higher than the one shown in popular financial websites.

MSN Money: 17.45 million shares outstanding

Yahoo Finance: 35.01 million shares outstanding

Google Finance: 35.01 million shares outstanding

The true fully diluted share count if all series of preferred shares were converted to common shares can be computed after reading the most recent Schedule 13D filed by RVL 1 LLC and Aston Capital LLC.

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Dividing the number of shares beneficially owned by the ownership percentage we get the true fully diluted share count which is about 90.07 million shares giving as at Thursday's closing price of $2.10 a $189 million fully diluted market capitalization.

Reverse engineering current stock price

Now that we know the fully diluted share count we can reverse engineer the market's future assumptions for the company's performance based on the current stock price, using a simple DCF model.

DCF model assumptions and inputs

1. Starting revenues for 2012: $12.525 million

These are the annualized revenues from the latest proforma combined financial statements for Revolution Lighting Technologies and Seesmart Technologies.

2. Free cash flow margin: 10%

A very healthy free cash flow margin to be used through thick and thin periods starting from 2013. The average free cash flow margin for non-financial companies of the S&P 500 during the very good period of 9/2006-9/2007 was 7.31%. It is very unlikely that the company will ever achieve such a free cash flow margin because it operates in an industry with high competition which is becoming commoditized. It is even more unlikely that the free cash flow margin will be such high or even positive starting from 2013 since for the first nine months of 2012 it was about -87% for Revolution Lighting Technologies and -38% for Seesmart Technologies.

3. Discount rate: 10%

A discount rate of 10% is used for sizable companies which have stable operating performance for several years. That is clearly not the case for Revolution Lighting Technologies which is small and almost just starting out.

4. Shares outstanding: 90.074 million as explained previously.

Is is favorably assumed that the company will issue no new shares and also won't need any debt financing.

5. Growth rate: 175% the industry average until 2020.

Using the industry's growth forecast until 2020 from the same source used by a recent bullish article about the company in Seeking Alpha it is generously assumed that the company will grow at rates 75% higher. No company or industry can grow above the rate of the economy forever so a 3% terminal growth rate is used which is very fair. These industry growth numbers may be very high since another research company forecasted that the LED lighting industry will grow 10% annualy going forward.

After all of the above very generous assumptions, which have a miniscule probability of happening simultaneously, we arrive at a fair value per share of $2.17 which is slightly above the stock's latest close.

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More realistic but still favorable valuation scenario

DCF model assumptions and inputs

1. Starting revenues for 2012: $12.525 million

2. Free cash flow margin: 7.5%

3. Discount rate: 12.5%

4. Shares outstanding: 90.074 million and no debt.

5. Growth rate: Industry's bullish forecast until 2020 and 2% terminal.

Using the above assumptions that are more realistic but still quite favorable we arrive at a fair value per share of $0.38 which is 82% lower than the stock's latest close.

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Timing and risks

The latest parabolic runup is a good entry point for initiating a short position. The convertible preferred shares have conversion prices which are way lower than the current prices and it would be very profitable for holders to liquidate a part of it when it becomes convertible.

  • Series B Convertible Preffered Stock converts at $0.13
  • Series C Convertible Preffered Stock converts at $0.6889
  • Series E Convertible Preffered Stock converts at $1.17

A negative for the short thesis is that the company is being supported by various investors and there won't be any liquidity or solvency issues.

Conclusion

Revolution Lighting Technologies seems to be priced like it is going to dominate the LED Lighting industry in the future. Investors are discounting events pertaining to the company's performance that as of now there is no reason to assume that they will occur. Going short the stock at these levels seems to offer a very good risk/reward trade.

Source: Revolution Lighting Technologies: Priced To Perfection Based On Fully Diluted Market Capitalization