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Summary

  • On July 10th Liquidity Services announced that the majority of its DLA Rolling Surplus Contract was being halted pending the assessment of regulatory rules.
  • Although this causes a short-term hit on earnings, in my opinion the shares still offer good long-term value.
  • Admittedly I didn't see this one coming, But believers in the long-term value and growth of the business should use the opportunity to accumulate more shares.

At the end of last week Liquidity Services (NASDAQ:LQDT) saw its share price nose dive over 12%, as it was announced that the majority of its rolling stock contract with the U.S. Defense Logistics Agency was being halted as of the June quarter. The reason given by management for the cessation was that a decision has been made by the US government to review impacts on regulatory regulations in relation to the assets flowing through the rolling stock property stream. The precise details on this are not completely clear, but management hinted that these kind of reviews are often related to environmental policies or health & safety issues, which the DLA would be subject to in the re-sale of their used assets. It was made very clear that the halt had nothing to do with Liquidity's performance or conduct under the contract.

This was definitely a short-term blow to the company, as it announced that the June quarter would see earnings about 10-20% lower, which will be formally announced on August 7th. As the rolling stock contract makes up roughly 10% of total company revenues currently, this highlights that it is one of the more profitable parts of the business and clearly this event hurts near-term margins. However as Wall Street quickly sold off the shares on the news, it should be noted that it was already previously announced a few months ago that the rolling stock contract would cease in early 2015. Liquidity lost the bidding of this contract to a competitor, as they withdrew when they felt that the aggressive price levels were not economical. So what this means actually is that the company only had about 9 months left of receiving this revenue stream, and the 10%+ sell-off on the shares is likely overdone when you consider the long-term value proposition of the company.

As I covered in more detail in my articles in June and December on the company, Liquidity has excellent network effects, and throughout the recent turmoil it continues to grow its registered buyer base - up nearly 10% in the past year. I predict the company will not only survive its current issues, but will be growing again significantly within a few years. A reminder of why the shares are a good value today:

  • Liquidity has a proven management team with skin in the game (>20% insider ownership)
  • The business continues to diversify with acquisitions that have given it access to a Gross Merchandise Value (GMV) potential of over $150B.
  • With >$100m in cash and no debt, the company is in no near-term risk of financial trouble. The price/cash ratio is a measly 4x.
  • The tech company trades for an EV/EBITDA of about 4x and has a P/E under 13. If you factor in conservative accounting it's even cheaper (see my June article). How many internet marketplace businesses do you know that are priced liked that?

Putting these thoughts together, I continue to hold long on Liquidity and will accumulate at these depressed prices. I see the shares moving back up at least 50% in the next 1-2 years as the market realizes the long-term value in this business.

Source: Update: Liquidity Services DoD Contract Cessation Causes Short-Term Sell-Off, But Long-Term Value Remains