Emerson Radio (MSN) stock has sat on my value screens for a while; a quick look at its fundamentals shows why. The stock closed Friday at $2.13 per share, giving it a market capitalization of just under $58 million. Yet, as of June 30th, the company had some $45 million in cash, giving it an enterprise value of just $13 million.
Meanwhile, MSN's trailing twelve-month net income is over $11 million -- almost equivalent to the market value of its operating business. With the company's tangible book value at $2.59 per share, the stock seemed at first glance to be massively undervalued. I was aware that the company was majority-owned by a Hong Kong company named Grande Holdings; though I had done little research into Grande's background, I imagined the effect of the controlling interest might be part of the reason for stock's incredibly low multiple.
My interest was piqued Friday afternoon when I saw the following in Seeking Alpha's massively valuable "Market Currents" section:
(click to enlarge)(As an aside, the current is incorrect; those two products accounted for 31% of Emerson's revenues. Wal-Mart (WMT) as a whole accounted for 48% of FY12 net sales.)
Intrigued, I went to the most recent 10-K to see Emerson's revenue breakdown to discover how much the revenue loss might affect Emerson's business. Wal-Mart is well-known for not offering much in the way of profit margins to its suppliers, so perhaps the loss of 30% of sales might not cause an equivalent hit to the bottom line.
On the way to find that information, I got distracted by an item near the very beginning of the 10-K. It described a rather convoluted governing structure, and noted a conflict between the company and Deutsche Bank (DB) over ownership of some 3.38 million shares of Emerson stock, representing 12.5% of shares outstanding. A Grande subsidiary, S&T Holdings, had pledged the shares to Deutsche Bank "for the purposes of securing obligations owing from Grande to Deutsche Bank." The saga ended with a curious note from the company:
As a result of the foregoing, there are competing claims to 3,380,079 shares of Emerson's common stock. Until further clarification is obtained, Emerson is unable to determine the beneficial ownership of such shares.
I have never run across such a disclosure in many years of investing. Still curious, I headed to Google and found a fascinating article on GuruFocus about Emerson Radio's governance troubles. Written by Geoff Gannon, the article details the long, sordid history of Grande Holdings and Emerson, a fascinating saga full of related-party transactions, shareholder lawsuits, and the resignation of several board members in 2008. Gannon cites an NJ.com article which quotes the resignation letter of former audit committee chairman W. Michael Driscoll. "Emerson was exploited as a financial resource by Grande," Driscoll wrote, adding later that, "more recent problematic transactions have occurred."
Gannon's piece adds much more color to the story, but, as he notes, the 10-K alone should be enough to deter investors. There are multiple mentions of related party transactions, and a shareholder lawsuit alleging that Emerson directors used a March 2010 special dividend to prevent MSN shareholders from collecting on a $47 million judgment against Grande (a figure representing over 80 percent of Emerson Radio's current market capitalization.) In and of itself, the curious disclosure by a majority-controlled company that it is not exactly sure who owns roughly one-eighth of the company's stock should be enough to send investors running for the exits.
If that's not enough, the loss of a substantial amount of Wal-Mart business should be. Indeed, Emerson had, according to the 10-K, already had one microwave model discontinued by "one of the Company's largest retail customers" beginning in late 2010. That customer was almost certainly Wal-Mart, given that Wal-Mart sales fell from $112 million to $75 million from FY11 to FY12, based on data given in the year-end filing. (Target, the company's other main customer, saw its percentage of sales rise over the same period.) By FY14, when the full impact of Wal-Mart's decision will be felt, sales to the world's largest retailer will have fallen in the range of 70-75 percent in just three years, which has to cast some doubt on Emerson's long-range viability. 89 percent of Emerson Radio's revenues come from houseware product sales; if those products aren't moving, the company has nowhere else to turn.
Between the governance and the falling sales, there is a reason that Emerson Radio stock seems so cheap. As of this writing, the stock is down about 5 percent in after-hours trading. With so many risks, and so little control for shareholders, it seems like it should have a lot further to fall.