New Defense Products and a Rising Euro Should Boost CSP Inc.

May. 8.07 | About: CSP Inc. (CSPI)

I decided yesterday to enter a moderate position in CSP Inc. (NASDAQ:CSPI), a provider of IT solutions to the defense industry and for private corporations. This is a very small company, currently sporting a market cap of just $36 million, and it remains very thinly traded for a Nasdaq stock. Because of the lack of coverage, I believe that CSPI has gone unnoticed and is significantly undervalued relative to its near term prospects.

First, CSPI has a cash position of $13.5 million, and this position grew by $3.5 million last quarter alone. The company posted very nice results last quarter on the back of a $17 million dollar contract it received with Raytheon, which had the effect of boosting its defense business and increasing margins significantly. Thus far, the company has only fulfilled 4.9 million dollars of this contract, so it should continue to recognize significant revenues from the Raytheon contract in the next few quarters.

In addition, CSPI derives about half of its revenue in Europe, with offices in both Germany and the UK. With the dollar continuing to slide against the euro, CSPI has the wind at their back with their European business, and this should help to give a boost to European revenues over the next several quarters.

Finally, the company is scheduled to unveil several new product offerings in 2007 that are specially targeted at the defense industry. In particular, their MODCOMP 3000 computer, which is targeted for applications in signals intelligence, holds promise for future defense applications for aviation, UAV’s, and shipboard applications. Given the success of their 2000 series in winning the large Raytheon contract, this new product offering has the potential to deliver further growth in the companies defense systems segment.

The only real concern with this company is their failure to file their last two quarterly filings on time. However, the company had recognized in their annual report that they needed more internal controls over accounting issues and that they were simply understaffed in finance. The company has stated that they have not uncovered any bad practices in the past, but they are working to add corporate finance personnel to bolster their accounting controls. The recent hiring of a new, smaller auditor with the ability to provide more personalized help indicates that the company is taking steps to address this problem, and my own belief is that it will end up being a non-issue going forward.

Overall, CSPI has the wind at their backs over the next few quarters, with the Raytheon contract boosting the defense segment of the business and the rising euro boosting the company’s large European revenues. CSPI should be announcing their second quarter earnings shortly, and I expect the results to be very similar to first quarter numbers. The company looks poised to earn somewhere in the neighborhood of $0.90-1.00 for 2007, giving it a very reasonable valuation on top of its large cash position.

Disclosure: I am long this stock with a basis of $9.85.

CSPI 1-yr chart