The Long Case for BriteSmile (BSML)

| About: BriteSmile Inc. (BSML)

In the midst of this market rout, I continue to look for stocks that look cheap based on long-term fundamentals. One stock that caught my attention is BriteSmile (BSML). I've been following BriteSmile for over five years and I believe that the odds finally favor an investment gamble at current prices.

Before getting to the BriteSmile writeup, please be sure to read the disclaimer at the bottom of this post. In addition, please note that BriteSmile is a micro-cap stock that is extremely volatile. If you plan to trade this stock, use limits and be prepared for a lot of volatility. Finally, please also note that this article was posted when BSML was trading in the $1.70 to $1.80 range.

Why BriteSmile?

In the last two months, BriteSmile has been undergoing significant corporate changes which are not fully understood or appreciated by most market participants. A full description of these changes can be read about in the company's SEC filings and press releases. You will get a good understanding of BriteSmile's business by visiting its website.

On an enterprise value basis the company is trading at about a 40% discount to the value given to the continuing operations a mere three months ago, providing investors with solid downside protection based upon a private market value of the business. I believe that this valuation discount is primarily due to the fact that there are still some legacy legal risks for BriteSmile and more importantly, most investors are unaware as to what is actually happening at the company following a major divestiture and legal settlement with Discus Dental earlier this year. As such, the stock has yet to reflect the positive aspects of the company's recent restructuring and potential growth opportunities of its continuing operations.

On the financial front, with the recent deal with Discus, BriteSmile is also sitting on a decent amount of cash, the total amount of which equals about 40% of their current market value. Additionally, BriteSmile's continuing operations, for which the company has yet to file detailed and clear financials offer excellent growth opportunities, backed up by solid historical results, a favorable industry outlook, and over $150 million in tax loss carry forwards.

Interestingly, the largest shareholders of BriteSmile have recently filed with the SEC revealing their intentions to buy up to 50% of the outstanding common stock of the company in an attempt to facilitate a go-private transaction. This implies that shareholders who know the company best, feel that the stock is undervalued at current levels.

Overall, despite certain legal risks, I believe that there is little business risk in BriteSmile’s continuing operations, little financial risk at the company, and significant opportunities for growth which are not as of yet reflected in the stock price.

For more information about BriteSmile, I encourage you to read thru the company's SEC filings. Below I have summarized some of the key information.

Shares Outstanding: 10.6 million

Current Price: $1.80

Market Cap: $20 million

Unrestricted Cash:
$9.3 million. Note: The company has $12.5 million in restricted cash reserved for legal settlements, and has about $4 million due from P&G from a recent legal settlement. I expect that after all legal liabilities are settled, the company will have unrestricted cash of at least $12 million. However, to be conservative I have used $9 million as the cash figure.

Outstanding Debt:
$0. Note: The company does have continuing lease/rental payments due for the retail stores that it currently operates under the continuing day-to-day operations.

Enterprise Value [EV]: About $10 million.

Trailing 12 Months Sales from Continuing Operations: $17 million to $24 million, average of $20.5 million. The uncertainty regarding the revenue number is due to the uncertainty related to which specific businesses the company has retained the rights to operate under their agreement with Discus Dental.

Trailing 12 Months EBITDA from Continuing Operations: N/A. Please note however, that recent reports from management seem to imply that continuing operations would be cash-flow positive in the coming quarters. In any event, the current operation is not all that complicated and it should quite easy to generate a fair amount of cash from the operation assuming tight cost controls and conservative growth initiatives.

Valuation: In February 2006, BriteSmile had previously entered into an agreement to sell their remaining spa business for $20 million. The deal was called off by BriteSmile in early May. Without access to up-to-date financials, other than estimated sales figures and the opinion of Piper Jaffray regarding the above sale, I am comfortable in assuming that BriteSmile’s remaining operating business is worth at least $20 million which was the agreed upon purchase price. Adding in the unrestricted cash, and I arrive at a minimum value for BriteSmile of $29 million or at least $2.60 per share.

Major Risk
Aside from a host of risks associated with any business, BriteSmile still faces major legal risk. Specifically, BriteSmile is still the subject of various legacy legal disputes and the company may face significant financial liabilities should BriteSmile be ruled against in these lawsuits. A full description of these lawsuits is available in the recent 10Q on file with the SEC. It is my understanding from reading the 10Q, that there are really only two remaining major lawsuits against BriteSmile and that company has reserved over $12 million in cash to be used in the settlement of these legal cases. This cash amount appears to cover all potential legal liabilities. Of course it is still possible that the company will be found liable for more than $12 million, but in that case there is still another $9 million in cash available to cover any further liabilities. My assumption is that these legal risks are reflected in the low valuation of the stock relative to current operations and future prospects.

BSML 1-yr Chart

I, Yehuda Fruchter, own shares in the stock mentioned in this report. In addition, this report includes market analysis. All ideas, opinions, and/or forecasts, expressed or implied herein, are for informational purposes only and should not be construed as a recommendation to invest, trade, and/or speculate in the markets or in any particular stock. Any investments, trades, and/or speculations made in light of the ideas, opinions, and/or forecasts, expressed or implied herein, are committed at your own risk, financial or otherwise. Yehuda Fruchter maintains no legal responsibility to update this report or his holdings in the stock mentioned in this report.

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