Since 1996, I have tripled my money every three years or so, on average. In 2009, I started sharing my Wall Street expertise with Main Street investors. That led to the creation of my popular "Poised To Triple" series on Seeking Alpha, along with the founding of PTT Research.
A few weeks ago (on November 22nd), PTT Research received a number of unexpected congratulatory emails. Apparently, Zhone Networks (NASDAQ:ZHNE) had topped 6.03 per share. Investors recalled that I had selected ZHNE as a pick to triple back in 2010 and assumed that it had become our 19th pick to double, triple, or be acquired.
However, we can't take credit for the triple (even though we did pick the stock).
You see, our methodology requires me to take a hard second look at any pick that falls 20% from our initiation price. This is meant to protect us from our infrequent (but unavoidable) bad picks. In the case of ZHNE, we took a hard look and decided it was best to wave the white flag. As a result, our Portfolio Tracker includes this entry:
So, did we make a mistake? Well, of course the answer is yes. However, our methodology has saved us from a few devastating losses, which make it worth missing the occasional triple that slips through our fingers. In addition, take a look at our "peak price" entry for ZHNE:
Days To Triple
That's a nice gain. However, take a look at the days it took to triple (1,125). That's just over three years. In contrast, our latest performance figures are as follows:
Average Holding Period -- 199 days
Average Return -- 60%
Average Annualized ROI -- 137%
Source: PTT Research Performance Tracker
For ZHNE, the time it took to triple equated to a 42.8% annualized return. That's a good return, but actually would have dragged down our 137% average. In other words, an investor that followed us out of ZHNE probably managed to triple their original investment by investing in some of our names. More importantly, they did so long before ZHNE tripled.
For those of you who remain invested ZHNE, I took a look at the company's progress. On one hand it was nice to see that the company finally started living up to its promise. That being said, on the day that the stock reached "triple" status (at $6.03 on October 24th), I would have rung the register.
The reason is that ZHNE is now a "loved" stock. It sports a "fair" valuation in my opinion, led by its $150 million market cap. This compared to its $120 million in revenue, which is only expected to rise 9% next year. This is not cheap for a tier 2/3 networking vendor.
Its earnings estimates confirm what the revenue picture tells us. EPS is expected to hit 24-cents next year. While that represents strong (60%) growth versus 2013's expected 15-cents, on a fully-taxed basis, 24-cents will require ZNHE to produce 10% operating margins. That's not too much to ask, but it does approach the limits for a company of ZHNE's profile. In other words, investors shouldn't expect the 60% earnings growth to repeat itself anytime soon.
This is not meant to disparage the company or its management team. I have had great respect for Mory Ejabat since his days at Ascend Communications (back in the mid-90s, when I was just a fledging analyst). With ZHNE, he and his team have done a great job of unlocking shareholder value. I simply believe that he has unlocked so much that the balance of risk and reward have become merely "fair"…and we don't beat the market by pursuing "fair" risk/reward opportunities.
Mr. Ejabat and Director Kramlich may concur with my analysis. Both of these company insiders sold numerous shares in recent weeks. Prior to October, insider transactions were dominated by purchases going back to 2007.
All things considered, we believe that greater opportunities exist in the market (with lower potential risks). We highlighted several of them last week, including Attunity (NASDAQ:ATTU), Glu Mobile (NASDAQ:GLUU), Pixelworks (NASDAQ:PXLW), and Techprecision (OTCQB:TPCS) - all of which we believe are great candidates to double, triple, or be acquired from current levels.