While the market has sold off a bit over the past few days, there remain an abundance of terrific short opportunities. Low quality offerings have flooded the market in recent years making this a short sellers paradise. Today I will cover three stocks which are fundamental shorts (high valuation or poor fundamentals) and have an upcoming catalyst. My criteria are as follows:
- Market capitalization of at least $500 million
- Valuation of at least 3x trailing sales or 20x trailing earnings
- Unproven business model
- Catalyst which could cause shares to fall 20% or more in the next 3 months
I'll start with spinal device maker LDR Holding Company (NASDAQ:LDRH) which came public in the fourth quarter of 2013. Shares have performed strongly, increasing over 127% from the company's $15 IPO price in October. At $34.33 per share, LDR is valued at over $800 million, despite having just $112 million in revenue during 2013 (and expectations for less than $130 million in 2014). The company has yet to earn a profit, and as noted in its 2013 10-K, does not expect to do so in the foreseeable future. Despite expectations for sub 20% growth and continued operating losses, LDR is priced as if it were growing rapidly and profitably with an EV/Revenue greater than 7x! While some may be hoping for a takeout by a larger player, it is highly likely that LDR was shopped to potential buyers prior to coming public making a takeout unlikely in my view. As for the catalyst, on April 7, LDR's IPO share lock-up will expire which could bring nearly 18 million shares to market (vs. less than 8 million shares currently floating in the market). This looks to be a highly asymmetric opportunity for short-sellers which could pay off in the very near term. Recently, Benefitfocus (NASDAQ:BNFT) and Foundation Medicine (NASDAQ:FMI) fell 27% and 23%, respectively after lock-up expiry (measured from 10 days prior to lock-up expiry until one week after expiry). This implies that LDR could trade down to $25-26 in the near-term though ultimately, I think shares will settle at ~2x revenue or about $10/share.
Montage Technology Group (NASDAQ:MONT) shares have rebounded strongly since accusations of fraud surfaced in February. The bounce has been driven by the announcement of a potential acquisition by Chinese state-owned enterprise Shanghai Pudong Research & Technology Investment Co for $21.50. At $20.02, Montage shares trade at less than a 7% discount to the offering price. While this may seem relatively high for merger arbitrage, given 1) the seriousness of the allegations (2) the non-binding nature of the proposed offer and (3) the strange circumstances surrounding this set of transactions (Montage came public in just $10 in September 2013, did an early secondary in January 2014 which included insider sales at $21, and now claims to have an offer to go private at $21.50) I think there is a very good chance that this deal will not be completed. In the event that the transaction is not completed, I think that shares could fall 25-50%. A 25% fall would put shares back in the $15 range at which they were trading prior to the offer. However, as we saw with Ebix Inc (NASDAQ:EBIX), shares fell nearly 50% after Goldman Sachs retracted it's buyout offer (which was also launched after fraud allegations had been made). It is also worth noting that today Montage has announced that the filing of it's form 10-K will be delayed.
Angie's List (NASDAQ:ANGI) is a short for a number of reasons including: 1) a business model which has proven to be a failure, having generated losses for 18 straight years (2) a high valuation at 3x trailing revenue (3) an increasingly difficult competitive environment marked by new entrants like eBay and Thumbtack as well as intense competition from Homeadvisor. While Angie's List has fallen 35% from it's 2014 intraday high, I believe that the company is still significantly overvalued. I suspect that Angie's List may miss first quarter subscriber estimates given aggressive recent promotions. Toward the end of 1Q, members were able to receive $65 in merchandise certificates for referring new customers even though these new customers were able to sign up for heavily discounted plans - in some cases just $13 per member per year. Given that Angie's List has a 25% churn rate, the average membership length of a new subscriber is 4 years. At a $10-15 per year subscription fee, this is highly uneconomic. Ultimately, I think Angie's List will sell for less than 1x revenue or below $4/share.
While brokers continue to tout shares of the aforementioned companies, it is important to remember that their interests are be widely divergent from those of shareholders. As such, I urge readers to do their own independent research.
Disclosure: I am short ANGI, LDRH, MONT. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.