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John H. Ford
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For the past 30 years, I have been involved in startups, as a founder, and active investor. My first company was purchased by Johnson & Johnson, which set the foundation for future investments. My level of trading escalated after graduating from college, primarily as a result of my... More
  • Google's And Facebook's Drone Investments Make Drone Aviation My Top Pick 28 comments
    Sep 3, 2014 10:05 AM | about stocks: DRNE

    Summary:

    • Drone Aviation is extremely undervalued when compared to peers.
    • The company has already acquired the largest and most desirable customer in the world; the US government.
    • An extremely low float could significantly amplify share price appreciation.
    • Drone Aviation has a strong cash position, and has grown revenue above 100% annually.

    When Google (NASDAQ:GOOG), and Facebook (NASDAQ:FB), recently began acquiring drone companies, I took notice. When Amazon's (NASDAQ:AMZN) drone story was featured on 60 minutes, my interest was amplified. When I saw a television commercial that featured Target (NYSE:TGT), delivering products with a drone, I knew I needed to establish a position in drone technology. Google, Facebook, and Amazon have proven successful in predicting future trends, and I believe drone technology is about to demonstrate an aggressive growth cycle.

    One of the most successful investment strategies I garnered from my venture capital investment days was to establish positions early, before companies became household names. With some investments that strategy provided greater than 10X returns.

    I am revisiting that thesis with my recent investment in US-based Drone Aviation (OTCQB:DRNE). Not only do I expect drone technology to demonstrate explosive growth over the next couple of years, but I believe Drone Aviation will continue to be at the forefront of this technology.

    Why Drone Aviation could be the best drone investment

    After over 2 months of research I've determined that Drone Aviation's products are in many ways superior to the competition, both in terms of price and performance. But most importantly, Drone Aviation has already acquired the most desirable and largest customer in the world, the United States government. The most recent defense budget is $821 billion and Drone Aviation has already captured a portion of that. The US military could place more orders this year based on the September budget deadline, and this would add substantially to Drone Aviation's bottom line, and share price.

    But what really makes this a particularly attractive trade is that Drone Aviation represents one of the only primarily pure play publicly traded drone companies. You can invest in drone technology by buying shares of Boeing (NYSE:BA), or Northrop Grumman (NYSE:NOC), but these are not pure play drone investments, and you will not be able to reap the benefits of near-term exponential drone growth. Given the pent up demand for shares in a pure play drone company, newly listed Drone Aviation could be trading at much higher levels within the next few weeks.

    With all Drone Aviation has going for it, you would think the company would be trading at a premium. But Wall Street is not yet aware of this company, and it is currently extremely undervalued when compared to peers. We could see significant share price appreciation over the next few weeks as investors become aware of this attractive trade.

    Drone technology basics

    There are 2 types of drones; tethered and untethered. An untethered drone is probably what you are most familiar with. It's basically a remote control airplane or helicopter. These devices can range from hundreds of dollars per unit to over one hundred million dollars per drone.

    The problem with this technology, is that the wireless signals can be jammed or can fail, and the drones crash. If you spent millions on a drone, and it crashes, that's not a good thing. If it crashes into a commercial airliner or a crowded metropolitan area, the results are catastrophic. Given the risks involved with this type of technology, the FAA has generally banned use around populated areas. However, if you can operate in an unpopulated area, and need to cover a lot of ground in a short amount of time, untethered drones can be very effective. Even with its limited geography, this technology is here to stay.

    The other type of drone technology features tethered drones, in which a drone is connected to a base station via a high strength tether. This is the technology that Drone Aviation's products use. The advantage of this system is that communication cannot be interrupted between the base station and the drone, so the risk of crashing is greatly reduced. Additionally, since power and communication is supplied from the ground through the tether, tethered drones can potentially stay airborne for days, rather than minutes or hours, as is the case with untethered drones.

    But perhaps the most important advantage is that due to the power being supplied from the ground, not from batteries, a tethered drone can produce more lift and also carry more weight, which means that a much higher quality camera can be used. Since a primary purpose of drones is providing visual feedback, the quality of the camera is very important. Generally speaking, the heavier the camera, the better the quality of the video. And if you're in an Army platoon looking for improvised explosive devices or snipers, high-quality video can save lives.

    According to everyone I spoke with, for many applications a tethered drone is far superior, due to the high camera quality, the ability to stay airborne for longer periods of time, and the greatly reduced likelihood of crashes. And, contrary to popular belief, tethered drones are mobile, as has been demonstrated by Drone Aviation.

    Drone Aviation's product lineup

    Drone Aviation currently has 2 product lines; tethered aerostats and tethered multi-rotor copter drones. The first product line is a helium aerostat, which is currently being used by the military, police departments, and other government agencies. You can view this product line by going here. It's really quite ingenious, and its simplicity is one of its greatest assets, because simplicity increases reliability.

    The 2nd product line which will be released later this year, are tethered multi-rotor copters, which will provide significant advantages in remote areas because they will not require helium. Both of these products have a base station that is on a trailer, so the units are mobile. Drone Aviation provides the only mobile tethered drones on the market that have been procured by the Department of Defense.

    I expect tethered copters to be a big hit with major news organizations such as ESPN, CNBC, etc., because since untethered copters are not legal in major metropolitan areas. The tethered copters would provide a whole new level of video coverage. This could provide another large market opportunity for Drone Aviation.

    Why has the military chosen Drone Aviation's products?

    Drone Aviation's products provide 2 distinct advantages which probably explain why the military likes these products so much. First, the tethered drones are preferable over untethered drones in many military situations because of the ability to maintain control and the superior camera systems. But even more importantly, Drone Aviation's military tethered drones sell for about $300,000, considerably less than the multi-million-dollar untethered drones that the military has been using.

    Why Google and Facebook want drones

    Both Ascenta (Facebook's drone acquisition) and Titan Aerospace are focusing on high-altitude drones which cruise close to the edge of the Earth's atmosphere and could provide Internet connectivity to remote areas of the world. Google will be using Titan Aerospace's expertise to contribute to Project Loon, the balloon-based remote Internet delivery project it's currently working on.

    But that's not all the Titan drones will do for Google. These drones will also take high-quality images in real time that could help with Google's Maps Initiatives, as well as contribute to areas like disaster relief. But the main goal appears to be the ability to spread the reach of Google's network. I believe Facebook has similar goals with its drone program.

    Google recently demonstrated how its Loon prototype balloons could circumvent the globe in a relatively short period of time, but the use of Titans drones could give Google even greater coverage. Ultimately Google may use some kind of hybrid system that incorporates Titan technology with Loon technology.

    Or if you really want to speculate, perhaps Google will acquire Drone Aviation, and include tethered drones in its robotic pipeline. That would certainly be beneficial for Drone Aviation shareholders.

    Drones could reduce distribution and warehousing costs

    I predict one of the next uses of drone technology will be warehouse management. If large retailers began using hybrid tethered drones, which would include helium and copter technology, these companies could replace forklift operators, conveyor belts, and a large number of personnel. A hybrid drone that used helium technology for lift, and copter technology for mobility, could move fairly heavy payloads, at a significantly reduced cost to the currently used systems.

    Let's say you had to move a 50 pound item from the back of the warehouse to the shipping department, you could simply program your request into a computer, and the robotic drone would collect and deliver the item rapidly and efficiently. By using tethered drones and brushless motors, this operation could go on 24 hours a day, at very little cost to the company beyond the initial investment.

    As this technology unfolds, I expect other drone applications to develop, and ultimately I believe many areas of technology will become involved. Amazon and Facebook are only the first companies to receive public exposure, but over time we should see many other high-tech names involved.

    Since Drone Aviation will soon have copter technology available commercially, the next logical product would be a hybrid drone. If Drone Aviation enters this arena, which in my opinion it could, this would add one more channel to the company's revenue stream.

    Dr. Phillip Frost has validated my investment thesis

    Drone Aviation just announced that Dr. Phillip Frost has invested in the company, and agreed to be chairman of the strategic advisory board. This is good news for 2 reasons. First, some of my most profitable investments have been a result of investing in companies that Dr. Phillip Frost has also invested in. For example, Dr. Frost took a significant position in MusclePharm (OTCPK:MSLP), at $4, as did I, and within a fairly short time frame, the stock went on to trade above $14. Dr. Frost recognized that MusclePharm was a solid company with a promising future, and his early stage investment paid off. I've also done well with ChromaDex (OTCQX:CDXC), another Dr. Frost investment which more than tripled following my initial investment.

    But his chairmanship of the strategic advisory board could be an even more important factor for investors, given his experience at Northrop Grumman. For 13 years Dr. Frost served as a director for Northrop, a $25 billion corporation that is also involved in the drone sector.

    Drone Aviation CEO Felicia Hess, had this to say: "His extensive government and military relationships during his 13 year tenure as a Director of Northrop Grumman, combined with his capital market expertise, make him an ideal Chairman to lead our newly formed Strategic Advisory Board." I agree with her completely. Drone Aviation is a fairly new company, and Dr. Frost's guidance should accelerate the company's growth trajectory.

    It's also important to note that Dr. Frost also joined the advisory board of MusclePharm (OTCPK:MSLP), and while is difficult to predict how much Dr. Frost had to do with MusclePharm's success, we can assume that he had significant input.

    But what I like most about this announcement is that Dr. Frost's investment in Drone Aviation confirms my investment thesis. Dr. Frost would not have invested in Drone Aviation unless he believed it was a promising company with a bright future.

    You can imagine the level of due diligence his team is capable of conducting, and given his connections within the industry, his investment validates Drone Aviation's business model on many levels, and de-risks my investment considerably.

    I especially appreciate the fact that Drone Aviation was trading in the $.80 range when Dr. Frost invested at $.75, basically at par. There was very little discount, and no warrant coverage, which bodes well for the strength of the company.

    Why now could be the best time to invest in Drone Aviation

    With quality companies, generally the earlier you can invest, the better. Investing in completely undiscovered companies has proven to be one of my best investment strategies. When I first provided my analysis on MusclePharm, the company was totally under Wall Street's radar. Few investors had heard of MusclePharm, and the stock was trading very thinly in the $4 range.

    You can now buy MusclePharm products in Costco, as well as other major outlets, and the company is rapidly becoming a household name. Remember, the time to invest is well before a company becomes a household name.

    22nd Century (OTC:XXII), provided a similar opportunity. When I wrote about this company, it was an unknown microcap, trading at $1 with very thin volume. Within 4 months, the story got out, Wall Street jumped on board, and 22nd Century traded above $6. Investors are now aware of this company, but those who got in early have experienced the greatest profits.

    Other examples include Isoray (NYSEMKT:ISR), which went from $.75 when I first wrote about it, to $3.77 recently, or another microcap I covered, Neuralstem (NYSEMKT:CUR), which went from a very thinly traded $.60 to almost $5 recently.

    Investors are being given a similar opportunity with Drone Aviation, because this is an established company that very few investors are aware of. In my experience, this is often the best time to buy, while volume is low and most investors are completely unaware.

    Drone Aviation has evolved significantly since its inception in 2009

    Even though Drone Aviation just began trading publicly through a reverse merger IPO, it is not an early-stage startup. It was formed in 2009, and the first 3 years were spent developing the company's product line.

    The next 2 years were focused on marketing to the US government, and that started to pay off last year when the government began buying systems. The US government is a very difficult customer to gain access to, and the fact that Drone Aviation was not only successful at this level, but was able to begin selling systems to the government, is a major coup for the company. That combined with the positive feedback coming directly from soldiers in the field, is a strong indicator of Drone Aviation's future success.

    The interview

    I wanted to learn more about this cutting-edge technology, so I initiated an interview with Drone Aviation COO Dan Erdberg. Here are excerpts from that interview:

    Question: What's your most important objective right now?

    Dan: Right now our primary focus is to grow the revenues of Drone Aviation.

    Question: How are you going to increase revenue?

    Dan: To date, most of our revenue has been generated without a lot of sales and marketing investment or personnel. We believe increasing our sales and marketing campaign will have a very positive effect on revenue growth. We would like to increase penetration into the commercial space, security, numerous federal agencies, homeland security, customs and border patrol, departments of transportation, police departments and fire departments. We also want to increase our presence for security during large gatherings, concerts, major sports events, NASCAR etc. These are all areas that we plan on pursuing, and we have already begun to penetrate some of those markets.

    Question: It sounds like a very small sales and marketing division could handle these highly concentrated targets, which leads me to believe that your sales and marketing expenses would be minimal, compared to the potential revenue. Am I correct in assuming that your customer acquisition costs are low relative to the potential revenue?

    Dan: That's correct, we do have relatively low acquisitions costs compared to the potential revenue from a single customer although our sales cycle can often be long, and when we do acquire a customer, it can potentially drive large revenue.

    Question: What kind of sales reps will you be hiring?

    Dan: Our ideal sales rep would be a military veteran or a government agency employee who has knowledge and contacts in our intended spaces, has security clearance, and instant access to large customers. We expect to also use security experts to market our products to police departments, large public events and other security driven customers.

    Question: Do you have any idea how big your sales staff will be?

    Dan: Initially our plan is to rely on our distributors. Some of our distributors have over 50 sales reps and these distributors have recently added our products to their line. We are currently meeting with those distributors and educating the sales reps on our products. At the same time, we plan to independently hire a small initial sales staff of our own.

    Question: So the bottom line is that your direct sales and marketing expenses will be fairly low initially.

    Dan: We believe so.

    Question: Who is your biggest distributor?

    Dan: Currently one of our largest distributors is ADS Inc., and we look forward to expanding our relationship with them

    Question: Who will this distributor be selling to?

    Dan: Military, state and federal government agencies, FEMA, homeland security, customs and border patrol, the Army, the Marines, the Navy, special operations. That's their customer base.

    Question: Who is your biggest potential customer?

    Dan: The US Department of Defense including the Army, Marines, Navy and special forces. From our field experience with soldiers, we believe that our systems could be a Company or platoon level asset. While there are potentially a thousand platoons in the military that could use our systems and each platoon may use more than one system, we know supplying every platoon is unrealistic. If we can secure even a small piece of the platoon or Company level market, we would still be looking at a large number of systems just from the military.

    Question: Who is your next biggest customer?

    Dan: We recently were awarded a contract from a State Department of Transportation for a specific region within that State. If we look across the various State regions and across the fifty States, that can provide a very large opportunity.

    Question: How much do you think this market is worth?

    Dan: If you look at the large metropolitan markets alone that could potentially be users of multiple systems, the overall market size can be quite significant.

    Question: Are there any other potential customers?

    Dan: Yes - there are many applications for our products both in terms of surveillance but also communications, so state and federal agencies represent large potential customers for us.

    Question: How can your system be used for security?

    Dan: Our systems can be used for surveillance to detect suspicious activity. Following what happened at the Boston Marathon, there is a heightened need for security at large events, where on the ground resources are not sufficient. We've been working with contractors who have used our devices for NFL and NASCAR events, as well as large concerts and other large gatherings. We're just starting to penetrate these security markets.

    Question: How could your product be used by homeland security?

    Dan: We believe there is definitely a need for increased surveillance and security on both our southern and northern borders. There are tunnels being used for transporting personnel, guns, and narcotics to the United States. We believe our products can help solve that issue.

    Question: How are most people illegally crossing the border?

    Dan: They just run across. There is such a large area to be watched that with the limited resources border patrol currently has, it's impossible to detect all of the even simplest crossings let alone the more sophisticated options.

    Question: What high-tech solution is homeland security using now?

    Dan: Recently homeland security began looking at multi-million dollar tethered aerostats that came from the Department of Defense. Those are currently being evaluated. The big advantage that tethered aerostats provide is a persistent eye in the sky. The disadvantage is that the Department of Defense aerostats are very large and expensive to operate, they are run by a team of outside contractors, and they are also not mobile. Our product is not only very tactical but also mobile. It can be pulled behind a truck while it's in the air. It can survey a large area on the go. Also, it can be run by 2 government employees, as opposed to a large group of outside contractors. And most importantly our military version products cost about $300,000, as opposed to millions. For those reasons we feel homeland security and border patrol could find our products attractive.

    Question How far can your system see?

    Dan: Several kilometers, which on the border is quite far. Many times you just want to see several hundred feet, or less than a kilometer when you're looking for activity.

    Question: How big of a factor is mobility?

    Dan: We believe that mobility is very important. You can hook our aerostats up to a truck and drive while it is still in the air doing its job. There is no other tethered aerostat on the market today that is also mobile that we are aware of that has been procured by the Department of Defense.

    Question: Why is mobility important on the border? Can't you just find a place where people regularly cross, and leave your system there? Why do you need to move it?

    Dan: After smugglers start getting caught in a particular area, they move. The fact that we can move also, gives us a big advantage. The other big advantage is that by constantly moving our systems, smugglers never know where they are, and even if the system isn't in a particular area, smugglers realize that it could be, which could help deter crossings.

    Question: In terms of patrolling our borders, how cost-effective is your system compared to what's being used now?

    Dan: When you look at what's being used now, which would either be a large Predator Drone or small Cessna airplane, or a helicopter, the cost of operation could be thousands of dollars per hour in addition to their high acquisition costs. And then you have the Department of Defense's multimillion dollar tethered aerostats that are very expensive to run because it takes a whole team of contractors to support them. Outside of the resources they currently have, there are limited alternatives right now. According to FAA rules, untethered drones cannot fly legally unless they are granted permission, which is rare. That's why we believe we are in such a sweet spot right now. The cost to buy and operate one of our systems is a mere fraction of what's currently being used.

    Question: How many systems would it take to cover the entire southern border?

    Dan: It's hard to say as the border is vast and expands across several States. A well coordinated network of our systems connected with ground infrastructure we feel would be a useful solution.

    Question: Are there any other potential customers you haven't mentioned?

    Dan: Military and other similar agencies to those discussed above from other countries could provide a large customer base as well. All of our allies provide an opportunity for us. In general, all military and all these similar agencies are potential customers. And this doesn't even begin to touch on potential commercial customers/applications.

    Question: Have you sold any systems to police departments yet?

    Dan: Our systems are being used by local police departments for anything from monitoring traffic to monitoring crime scenes. They can also use it for any security application. Another overlooked application is prison security.

    Question: If we take our top 100 metropolitan cities, how many of your systems could each Police Department use?

    Dan: We could potentially estimate approximately 1 dozen per large city, and the smaller cities will have a need also, but on a smaller scale, perhaps only needing 3 or 4 units.

    Question: Could your system be helpful in a natural disaster like hurricane Katrina or hurricane Sandy?

    Dan: We believe FEMA could use our systems following a natural disaster, because you could reestablish a communications system immediately. Most people don't realize that natural disasters like hurricane Katrina or hurricane Sandy temporarily disable all cellular communication, at a time when it's needed most. Our system could help address that. In addition, our systems could help find victims either trapped in rubble or on rooftops of houses waiting to be rescued.

    Question: Physically, how large is your product?

    Dan: When deflated, it all fits in one small trailer - when inflated, it can be towed by any small truck. It's a self-contained system that can be launched from scratch within 15 minutes.

    Question: Can you talk about your product lineup?

    Dan: We have 2 product lines right now (ranging from military versions to commercials versions), the first which is commercially available, tethered aerostats that we've been talking about. These are the ones currently being used by the military, police departments and State Department of Transportation. The 2nd product that we will be launching later this year is a multi-rotor drone that is tethered. It uses a lot of the same technology that our first product line uses. The only difference is that the muli-rotor drone does not require helium. This will be important for remote locations where helium is not readily available and we plan to miniaturize the systems to allow mass markets to use them.

    Question: How safe is the multi-rotor copter?

    Dan: The advantage of multi-rotor drones, is that if one goes out, the copter can safely land with the other motors. And of course the fact that it is tethered, gives it a big safety advantage over any untethered drone.

    Question: What's the advantage of the multi-rotor copter over your helium product?

    Dan: The biggest advantage with the multi-rotor copter is that you don't need helium canisters. If you're in the middle of an Afghanistan desert and you don't have access to helium, the multi-rotor copter would be a better solution. The other advantage is that it's less expensive to launch a multi-rotor copter than it is a helium aerostat, the cost of which averages about $1000-$1500 for the initial launch. Once it has been launched, you don't need to fill it up again unless it's been deflated.

    Question: Will untethered drones ever be widely adopted?

    Dan: I believe untethered drones are inherently dangerous, because they are on their own in the air and either onboard malfunction or ground communication between the base station and the drone can be interrupted, either intentionally or through technical failure. When that happens, the drone can go wherever it wants, and there have been some instances where these out-of-control drones have almost hit commercial airliners.

    Question, Do you think that untethered drones will ever be legal?

    Dan: Yes, for certain applications in certain unpopulated locations. But in populated areas, with commercial air traffic, I think the dangers are too great for legalization but I guess we'll have to wait and see. In those cases, tethered drones would be preferable.

    Question: Could you describe how the military will be using your system?

    Dan: The military can use our tethered drones either for ISR or for enhanced communications. A fairly typical military application could be aerial surveillance of a remote operating base. Our system could provide 360° visual surveillance for several kilometers. Another application would be when you are moving troops into a hostile area and you don't know what's ahead of you. Our system could determine whether or not roadside bombs were being planted ahead of the troops. We could also detect snipers and hidden troops. Our system could help the military clear routes because it can see several kilometers out. One of the most promising applications is detecting IED's, improvised explosive devices, which have been so damaging to our troops. Our systems also can extend the range of communications among soldiers on the ground making it easier to coordinate strategies or activities.

    Question: Why can't the military just use small untethered drones?

    Dan: They do and they use a lot of them, but small untethered drones are not that effective for military use because they can't handle the weight of a high-quality camera, so the visual information provided is limited. They also can't stay up for very long, so they need to be landed and refueled or swap batteries fairly regularly. And these things are so hard to control that for around every 5 takeoffs, one is lost. With hundreds of takeoffs, a lot of untethered drones get lost, which ends up costing the military significantly. The soldiers we spoke with all preferred a system like ours because of the high quality camera, and because it could stay up in the air for long periods of time and didn't need to be retrieved after a landing. From what we heard, one of the most dangerous jobs is to retrieve a crashed drone because soldiers can be potentially injured or killed during that retrieval process.

    Question: So let me get this straight, the soldiers you spoke with said they would prefer your system to the untethered drone system they were currently using?

    Dan: That's correct, they said they would have liked to have our systems while they were deployed

    Question: Can you elaborate on your relationship with the US military?

    Dan: Last year our products were put in the hands of various arms of the military. They passed the safety clearances and were given all the rights and authorities to be used by soldiers in training and evaluation. These products were purchased and delivered to the military. The military is putting these products through extensive test procedures and providing feedback as to changes for future orders. We hope the military is not investing all this time and money just for a handful of units. We believe they're doing this so that they can say we put your unit through the paces, we've made the required change requests, and now we feel this is ready to be fielded. At that point we potentially could have a larger order. So what we believe will happen is that if a few platoons start using our products, it will create demand from other platoons. The Army has published information talking about how significant our system is for them and how useful it is. This information was published by the Army without our knowledge. We are hopeful about the future with the military and we want to support our soldiers through larger procurements in the future.

    Question: Is there anything else you can tell me about your relationship with the military?

    Dan: We believe the relationships we have with our Army customers are very good as these relationships have been built over the years. We have received repeat orders from each of our Army customers for additional parts and supplies while they continue to evaluate and operate the systems. What we believe is an advantage is the fact that over the course of our workings with these customers, they have requested several enhancements to the system to fit their needs and we believe these have been successfully integrated. By spending time with soldiers at bases and in military installations who are running the systems hands on, we receive their feedback, turn around and implement those ideas and concepts to make the systems more effective in theatre - we believe this is a strong asset.

    Question: What kind of feedback have you received from the military?

    Dan: Based on what was published by the Army and all of the feedback we have received, our system works and they like it.

    Question: Are there any near-term events we should know about?

    Dan: We recently completed the US Army's NIE 14.2 exercise with the WASP systems which are operated by SMDC. Additionally we completed the delivery of a system purchased by a State Department of Transportation, which was recently demonstrated for State officials from various agencies. We will also continue to support and work on additional procurements with the Army at Fort Polk, LA where they operate two BiB 250 systems to train soldiers during rotational exercises

    Question: How are you able to get the military to become one of your main customers?

    Dan: We try to be fast and effective at supporting their requests and we hope the more the systems are used in tests and training, the more exposure they will receive and that could lead to more soldiers wanting the capability

    Question: Does the military have any budget spending deadlines that would lead you to believe that you could receive orders by a given date?

    Dan: Typically the Government fiscal year ends at the end of September, so funds budgeted for procurement this year would be awarded prior to the end of September.

    Interview concluded here

    Key points from the interview

    • The total addressable market appears to be well over $5 billion.
    • The US military is a great customer, given its $821 billion defense budget and practically unlimited access to capital.
    • With the government's fiscal year ending in September, Drone Aviation could see new orders before that deadline. Given that the initial orders were probably small, follow-up orders could be significantly larger. In other words, the government tends to sample first, and then place larger orders.
    • For many applications, tethered drones are superior, particularly in metropolitan areas and in the battlefield.
    • Drone Aviation could help solve the currently unsolvable border control problem.
    • One of the company's large distributors already has customers which include state and federal government agencies, FEMA, homeland security, customs and border patrol, the Army, the Marines, the Navy, special operations. Given that this distributor already has its foot in the door, sales into any of these areas are probable and could dramatically increase Drone Aviation's top line revenue.
    • Drone Aviation provides the only mobile tethered drones on the market that have been procured by the Department of Defense. More importantly, these products could help save countless lives in the field.
    • With a $300,000 military version price tag and $100,000 commercial version price tag, Drone Aviation's products are significantly less expensive than most of the other multimillion dollar alternatives. On top of that, it appears the soldiers like Drone Aviation's product better than the more expensive products.
    • The company has managed to sell systems to the US government, with practically no sales or marketing department. Once the company begins aggressively pursuing sales and marketing, we should see a significant ramp up in revenue.

    How large is Drone Aviation's market?

    I can only estimate market size for a couple of Drone Aviation's market segments, but those markets alone are sizable. For example, on the military front, a platoon has anywhere from 30 to 60 soldiers. I estimate that each platoon could have at least 4 systems. With a total of 3000 platoons, that provides a potential market of 12,000 systems. With an average cost of $300,000 per system, that is a total addressable market of $3.6 billion. Even if Drone Aviation could only capture 10% of that market, that would still be $360 million in revenue.

    Another fairly easy market to estimate would be systems used by police departments. If we take the top 100 metropolitan cities, I estimate that each city could use at least one dozen units, or a total of 1200 systems. Since these cities wouldn't need the $300,000 military versions, at a cost of $100,000 per system, this would produce a total addressable market of $120 million, just for the large cities.

    The smaller cities would probably only use 3 or 4 systems, but we could count on another 1200 systems for the smaller cities, at a bare minimum. This would bring the total addressable market for police departments to $240 million. 10% of that number would be $24 million, which could go straight to Drone Aviation's top line. Ultimately I believe Drone Aviation will achieve much greater than 5% penetration.

    The other addressable markets are more difficult to estimate, but I believe the total addressable markets should exceed at least $5 billion. For example, monitoring our borders would definitely require a large number of systems, but it's impossible to estimate just how large that number would be.

    Drone Aviation's strong revenue growth

    Drone Aviation, taking into account its recently purchased subsidiary, achieved revenue growth exceeding 100% from 2012 to 2013. Drone Aviation is on track to produce significant revenue growth for 2014. Here are the adjusted figures taken from recent SEC filings:

    • 2012 revenue $390,000
    • 2013 revenue $848,000
    • 2014 revenue first 6 months: $613,000, ($354,000 revenue plus $259,000 in deferred revenue. Deferred revenue represents units sold but not yet delivered).

    Drone Aviation is on track to generate revenue above $1.2 million for 2014, and if the US government moves fast enough to get orders in before the September deadline, 2015 revenue could provide year-over-year revenue growth well beyond 100%.

    Drone Aviation is severely undervalued when compared to peers

    There are no publicly traded primarily pure play drone companies other than Drone Aviation, so the best comparison is Google's recent purchase of Titan Aerospace which was private at the time of acquisition. We don't know what Google paid, but we do know that Titan turned down a $60 million offer from Facebook, so we can assume Google paid significantly more than $60 million, since it actually got the deal done. My guess is that Google valued Titan above $80 million. But to keep estimates conservative, let's say Titan is only worth $60 million. By the way, Facebook didn't give up, it went on to buy another drone company, Ascenta, a development stage company which is developing solar powered drones.

    But where it really gets interesting is that when you look at Titan, it appears that it could be a company with nothing more than some very bright engineers with a concept. There are no products sold commercially, and I've been told that a successful prototype has not yet been developed, although there has been no public confirmation about the level of prototype development. It's a private company, so information is sparse. Google's Titan drone is a great idea, and will certainly hit the market someday. I love the concept! But it appears that commercialization or even a working prototype could be years off.

    Another private sale occurred a few years ago when Boeing bought Insitu for a reported $400 million. Insitu is a drone developer and manufacturer based in Oregon. The company has developed an impressive lineup of products, however they are all untethered, so applications are limited to unpopulated areas.

    If Titan, a pre-revenue and possibly pre-prototype company is worth at least $60 million Drone Aviation should be given a higher valuation than Titan given that Drone Aviation is successfully selling products now. Commercial companies are usually valued at steep multiples when compared to pre-commercial or pre-prototype companies like Titan.

    When we use Insitu as a comparison, and its $400 million valuation, we could also draw the conclusion that Drone Aviation should be valued considerably higher than its current $18 million valuation.

    Drone Aviation's current valuation of $18 million is ridiculously low.

    According to the most recent company presentation, there are currently 17.7 million common shares outstanding. At the current share price, that gives Drone Aviation a market capitalization of about $18 million.

    That's unbelievably low given the potential growth of this sector and the rate at which the company is growing revenue. With peer comparisons valued between $60 million and $400 million, I believe once Wall Street becomes aware of this company, its valuation will rise to a more appropriate level.

    What's appropriate? One could easily argue that Drone Aviation should be given a valuation above Titan's $60 million. If Drone Aviation announces some large sales to the military this summer, we could see a considerably higher valuation.

    Why is Drone Aviation so undervalued?

    The primary reason Drone Aviation is so undervalued is that Wall Street is completely unaware of this company. The company just completed a reverse merger IPO and is often the case with new companies, it takes time for Wall Street to take notice.

    That will change. Once investors realize the level of undervaluation and that Drone Aviation is growing revenue in a new and promising sector, buyers will come in, which could drive the shareprice to a more reasonable valuation. It would not be surprising to see Drone Aviation trading at a premium.

    Drone Aviation's low float could reward today's investors

    With a float of just 2.7 million shares, Drone Aviation's shareprice could rise significantly if just one institutional investor begins to establish a long position. I prefer low float investments, because with a limited supply, once investors become interested in a company, it's common to see short-term share price appreciation well beyond 100%.

    Look what happened with low float Marathon Patent Group (OTCQB:MARA), one of my recommendations last year, when it went from $4-$12. The same thing occurred with low float Organovo (NYSEMKT:ONVO), which also went from $4-$12 within a very short time frame. Low float amplifies potential share price appreciation.

    Drone Aviation's cash position

    As of the most recent SEC filing, Drone Aviation has $1.728 million in cash. The company's only debt is a $110,000 note payable to the Oklahoma Technology Commercialization Center.

    Here are the links to the most relevant SEC filings:

    http://ir.droneaviationcorp.com/all-sec-filings/content/0001013762-14-000969/0001013762-14-000969.pdf

    http://ir.droneaviationcorp.com/all-sec-filings/content/0001013762-14-000958/0001013762-14-000958.pdf

    http://www.sec.gov/Archives/edgar/data/1178727/000101376214000506/form10q.htm

    http://www.sec.gov/Archives/edgar/data/1178727/000101376214000657/form8k.htm

    With an estimated $1 million maximum burn, and no income, the company is financed for at least one year. Of course in reality, the company is generating revenue, so I don't foresee near-term financings.

    5 reasons Drone Aviation's shareprice could rise short-term

    Number 1: Drone Aviation is the only primarily pure play publicly traded drone company. With all the media attention drones have been getting lately, I believe there is a high level of pent up demand for drone investments. Once the word gets out, particularly with major media exposure such as the Wall Street Journal, CNBC, or Bloomberg, we chould see a substantial rise in Drone Aviation's shareprice.

    Number 2: With the Government fiscal year ending in September, last-minute spending could bring additional revenue to Drone Aviation. If any of these orders are large, this would have a very positive effect on Drone Aviation's shareprice. Most importantly, this is a catalyst that would occur before the end of September.

    Number 3: Given the high level of interest in drone technology, I expect other analysts to come on board with buy recommendations. This could also drive Drone Aviation's share price higher.

    Number 4: With such a low float, any level of interest could drive the share price significantly higher.

    Number 5: The level of undervaluation is so extreme, that with any level of Wall Street awareness, the share price should rise to a more appropriate level.

    Why Drone Aviation could be a good long-term investment

    After many hours of conference calls with COO Dan Erdberg, I feel confident in his ability to grow this company. He is smart, cautious, and conservative and in my opinion, he will deliver.

    Currently Drone Aviation is in the infancy stage of commercialization and has already attracted a very large customer, an ideal combination. This is the time in a company's development cycle where exponential revenue growth and extraordinary share price appreciation are common. If Drone Aviation continues to receive US government orders, at some point these orders will increase in size, and Drone Aviation could be trading at a large multiple of today's shareprice.

    What's the risk?

    While it appears that the government could be placing more orders this year, those orders could be delayed, maybe smaller than anticipated, or may not occur at all.

    As the restricted shares become tradable, we could see some selling pressure, which could cap the share price.

    Drone Aviation provides the only mobile tethered drones on the market that have been procured by the Department of Defense, but given the interest by the US government other companies could develop similar products and provide competitive pressure. This is a long-term risk, because product development would take years, and establishing a relationship with the US government could take even longer.

    As is the case with all startups, great products do not guarantee success. Management still needs to execute, and given the very nature of startups, one cannot predict whether or not management will succeed.

    Conclusion

    Google and Facebook's drone investments should not be ignored by investors. Both companies have proven successful at predicting future trends and I believe drone technology is at the beginning of its growth curve.

    Drone Aviation has a game changing product which captured the attention of the largest customer in the world, the US government. You have to remember that the government is a customer capable of placing extremely large orders, due to its practically unlimited access to capital. If the US government continues to buy products from Drone Aviation, just one large order could catapult Drone Aviation's shareprice well beyond today's level.

    Drone Aviation is extremely undervalued when compared to peers. Most investors don't know about this company yet, but as awareness spreads, I expect the company to be fairly valued, or even valued at a premium. We are in the early stage of the drone commercialization cycle, and I expect strong growth going forward.

    Since Drone Aviation is the first publicly traded primarily pure play drone investment, CNBC, Bloomberg, the Wall Street Journal, or other major media outlets could publicize this opportunity. This is a great story given the recent investments and interest shown by Facebook, Google, and Amazon. This could create demand for shares, and would amplify any share price appreciation. I have established a long position in anticipation of a near-term rise in Drone Aviation's share price.

    Disclaimer and disclosure: It is probable that the author and his associates have a position in the subject securities consistent with the opinion expressed in this article and they reserve the right to buy and/or sell the securities mentioned in this article, at any time without further notice. For complete disclosure and disclaimer information please click here.

    Disclosure: The author is long DRNE.

    Themes: goog, fb, amzn, tgt, noc, ba Stocks: DRNE
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Comments (28)
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  • brichnyc
    , contributor
    Comments (62) | Send Message
     
    Great write up Joe and I'm glad to see Dr. Frost here as well. I'm in for 10K shares on your advice.
    3 Sep 2014, 11:46 AM Reply Like
  • cshanahn12
    , contributor
    Comments (261) | Send Message
     
    Hope you cut your losses, if not then choke on them
    7 Sep 2014, 08:11 PM Reply Like
  • brichnyc
    , contributor
    Comments (62) | Send Message
     
    Well aren't you a sweet guy. Why don't you head on over to the TNXP board and check out the new drug being developed for FM and PTSD. You just might be a candidate for the latter. You seem very angry for someone who doesn't invest in this stock. I wonder why shorty???
    8 Sep 2014, 08:20 AM Reply Like
  • brichnyc
    , contributor
    Comments (62) | Send Message
     
    Joe, how many warrants are out there as well. I did not catch that. I see the 17M OS, what is fully diluted? Thx.
    3 Sep 2014, 11:50 AM Reply Like
  • JKenser
    , contributor
    Comments (499) | Send Message
     
    Hard to believe that the float is just over 2million given the volume here, seems like someone is just churning shares. Price has found little movement..
    3 Sep 2014, 12:03 PM Reply Like
  • babbeone
    , contributor
    Comments (118) | Send Message
     
    My concern are: Can they afford the debt?

     

    Do they have the cash to maintain operations (Lived with a $5M line of credit while trying to mfg product for the govt while the company was "getting back on its feet").

     

    If they become profitable how many shares are out there (potential P/E) and are revenues there to support a modest P/E?
    3 Sep 2014, 12:58 PM Reply Like
  • babbeone
    , contributor
    Comments (118) | Send Message
     
    Insider selling is not a data point, at times it should be ignored. Insiders often have most of their wealth tied up in their company’s stock, and at times they need to diversify and the only way for them to do that is to sell shares of their company’s stock.It is normal.
    3 Sep 2014, 01:30 PM Reply Like
  • CaliTodd
    , contributor
    Comments (3) | Send Message
     
    The volume in this stock can handle the insider selling. I am sure the consulting deals and deals the insiders have will have limited selling restrictions of 3% of daily volume a day etc. There is plenty that you need to research before making these assumptions. Insiders have the right to sell there stock and if they are smart it won't impact the stock much. Let's see what the govt orders say. Also, this is patented technology, not a blimp with a go pro strapped to it. If boeing uses something similar they can be sued for patent infringement.
    3 Sep 2014, 10:21 PM Reply Like
  • babbeone
    , contributor
    Comments (118) | Send Message
     
    The author should answer the questions instead of having SA delete all the concerns.
    5 Sep 2014, 09:32 AM Reply Like
  • grailhunter
    , contributor
    Comments (69) | Send Message
     
    The author owes us a redemption pick unless of course he sees nothing wrong in his reputation taking a hit. The timing of this recommendation obviously was not good. (I am not considering the long term investment aspect here) Although it provided an opportunity for a quick day trade the stock almost immediately came under heavy selling pressure supposedly from late August bagholders.
    5 Sep 2014, 02:59 PM Reply Like
  • babbeone
    , contributor
    Comments (118) | Send Message
     
    if you click on the Performance link the author does have a poor performance, Regardless instead of asking SA to delete all posts of people having lot of reservation about the stock, he should have replied, otherwise it looks as they said just pumping. If you want to follow someone with a very good performance search for Mark Gomes.
    5 Sep 2014, 09:33 PM Reply Like
  • grailhunter
    , contributor
    Comments (69) | Send Message
     
    I have to admit that this Performance function is very misleading. One can only wonder whether this was made intentionally or not. I usually track the performance of stock recommendations over one week or one month after they were published and these columns are totally missing so you need to check the chart anyway. It can be easily seen that OCLS was a ~100% gainer in a very short period of time after it was initially alerted on April 1st 2013. XXII turned into exceptionally good midterm performer and FNJN was just one day wonder so perhaps I become too spoiled by those plays.
    6 Sep 2014, 10:40 AM Reply Like
  • John H. Ford
    , contributor
    Comments (59) | Send Message
     
    Author’s reply » Normally a 15% gain within a couple of hours would be considered a good return. However, I expected considerably more. With a float of 2.7 million shares, and 10 million shares trading within 3 days, the stock should have been trading well above $2.

     

    What happened? The selling pressure was beyond anything I have seen. A similar level of selling happened right after I published my 22nd Century article, but in that case investors were rewarded, because once the selling concluded, the share price went from $1 to $6.

     

    What could I have done different? The biggest mistake I made was publishing the article after the share price had risen over 100%. The stock had recently been trading at $.50, and that would have been the time to publish the article. I went ahead and published anyway because I believed the positive aspects would mitigate the recent run-up in share price. I was wrong! While I do not know where the selling came from, and that was an element I had no control over, I can control when I published future articles. My goal at this point will be to publish at the bottom, not after a stock is doubled.
    6 Sep 2014, 11:52 AM Reply Like
  • lewandre
    , contributor
    Comments (32) | Send Message
     
    John,
    thanks for the article...timing does seem stressful on this one.
    What, if any catalysts do you see in the near future? Are there any outstanding orders for these? I think I see more beneficial usage of the quad-copter in the private sector than the military. What is the build time for these from order to delivery to the customer? Does Drone have any back orders?
    8 Sep 2014, 09:19 AM Reply Like
  • John H. Ford
    , contributor
    Comments (59) | Send Message
     
    Author’s reply » I think the quad copter release could generate orders from areas that we have not yet predicted. I like this product and think it will be well received in the commercial sector as well as the military. My understanding is that build time is not an issue.
    8 Sep 2014, 11:27 AM Reply Like
  • Gorsky
    , contributor
    Comment (1) | Send Message
     
    According to otcmarkets the number of shares outstanding is 25,986,114 as of Sep 03, 2014. This represents an increase of approx. 47% from the 17,7M you mentioned. Could this be the reason for the selling pressure? http://bit.ly/WJtUdO
    10 Sep 2014, 01:24 PM Reply Like
  • jjah
    , contributor
    Comments (8) | Send Message
     
    Does this mean you have moved on to another name? or still belive it is worth $2?
    23 Sep 2014, 10:50 AM Reply Like
  • bobazilla
    , contributor
    Comment (1) | Send Message
     
    If an "author" is a pay for play analyst or remunerated in a certain fashion from the company which is the subject of his/her glowing review, doesn't that information need to be disclosed?
    6 Sep 2014, 12:34 PM Reply Like
  • John H. Ford
    , contributor
    Comments (59) | Send Message
     
    Author’s reply » bobazilla

     

    You’re absolutely correct. If an author is paid to write an analysis, the author is required by law to disclose the exact nature of the compensation. Here’s the relevant section from the securities act of 1933:

     

    SEC 17b
    SECURITIES ACT OF 1933
    (b) It shall be unlawful for any person, by the use of any means or instruments of transportation or communication in interstate commerce or by the use of the mails, to publish, give publicity to, or circulate any notice, circular, advertisement, newspaper, article, letter, investment service, or communication which, though not purporting to offer a security for sale, describes such security for a consideration received or to be received, directly or indirectly, from an issuer, underwriter, or dealer, without fully disclosing the receipt, whether past or prospective, of such consideration and the amount thereof.

     

    Here is a link if you want more detail about the securities act of 1933:

     

    http://1.usa.gov/1we97fm

     

    Section 17 b is great because it allows investors to determine which authors are being paid, and which authors are simply voicing their own opinion. As you probably know, Seeking Alpha prohibits authors from being paid by companies for writing articles, even with disclosure. Wise decision on Seeking Alpha's part.
    8 Sep 2014, 11:59 AM Reply Like
  • Michael Y.
    , contributor
    Comments (2) | Send Message
     
    Hi,
    thanks for the article, but I do not agree that tethered drones are a lot safer than untetherd drones, all you have to do is cut the wire and it will drop, also a good camera is needed since you cannot easily get close to the item you want to look at. So when there is an event and something happens (which is what you are interested) you have to move quick and be really mobile.

     

    I agree there are multiple use cases for tethered drones but I do not think a wear house is one of them, I am missing the investment in utilities, like aircraft checkup (easy jet want to do it), facility (large buildings, bridges, ships, etc..) checkup, I believe that market is huge cause is can save a lot of costs and tethered drones are perfect for it, no time pressure, the location is static and the flight path is always the same, and you need it drone in the air for a long time. What do you think?
    7 Sep 2014, 09:37 PM Reply Like
  • brichnyc
    , contributor
    Comments (62) | Send Message
     
    John, we are now down about 50% from the more recent highs. Any thoughts ? Looks like a pump and dump but I know you do not act this way. I have been avg down and still have a cost basis around Frost at .75c.
    23 Sep 2014, 03:49 PM Reply Like
  • babbeone
    , contributor
    Comments (118) | Send Message
     
    This is going back to 10 cents.
    23 Sep 2014, 09:01 PM Reply Like
  • brichnyc
    , contributor
    Comments (62) | Send Message
     
    John, any thoughts on Drone? Now down 70% from the more recent highs. Did you sell your position??
    10 Oct 2014, 02:47 PM Reply Like
  • Jaeger Rabanes
    , contributor
    Comments (3) | Send Message
     
    Hi John, As always, thank you for your great work.

     

    Do you know why DRNE is down 70%? Because I can't find the answer which makes DRNE bargain to my eyes. =)
    15 Nov 2014, 10:43 AM Reply Like
  • tsugarla
    , contributor
    Comments (12) | Send Message
     
    Does anyone know why DRNE keeps going down? No news or info of any kind that I can see...
    3 Dec 2014, 10:20 AM Reply Like
  • John H. Ford
    , contributor
    Comments (59) | Send Message
     
    Author’s reply » I'm not aware of any fundamental news that is driving the price down. I just spoke with the company, and management appears to continue to execute.

     

    My theory is this: in the reverse merger, somebody got free trading shares that they have been selling which has driven the share price down to this extreme level. What perplexes me, is Dr. Frost didn't even catch this, he's in at $.75.

     

    I was shocked when it hit $.30. At $.16 I am flabbergasted. At some point the selling will end, but with several hundred thousand shares selling at $.16, I can't predict when that will be.
    4 Dec 2014, 03:07 PM Reply Like
  • tsugarla
    , contributor
    Comments (12) | Send Message
     
    Do you know what their cash situation is? How long can they keep running?
    10 Dec 2014, 03:58 AM Reply Like
  • brichnyc
    , contributor
    Comments (62) | Send Message
     
    Probably now it is tax selling.
    4 Dec 2014, 04:09 PM Reply Like
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