I have written about Skullcandy (SKUL) a couple of times. In the most recent article, my thesis was that pessimism has reached epic proportions. Following an additional 50% drop in the share price since writing that, clearly I was a little early with that call. However, really nothing has changed from my buy thesis other than the share price being that much more attractive now. In this article, I will outline several reasons why I am heavily accumulating Skullcandy shares at new historic lows.
For starters, Skullcandy is a strong brand. Being a branding expert with a specialty in social media and web 2.0, I love everything about the Skullcandy branding. From its grassroots appeal to the action sports crowd to its active Facebook (FB) page with fans for the most part raving about their products and plastering the skull logo on their bedroom walls and cars. Although it is still in its infancy, most analysts have missed this point. I would compare the marketing, growth curve and industry competition to Monster (MNST), which trades at a rich multiple of 23 (and this after a 50% haircut in share price), compared to 6 for Skullcandy.
Investors are just simply missing the bigger picture here and remain fixated on a couple cents of earnings misses that most recently could be very easily attributed to a natural disaster like Hurricane Sandy. The argument made by a number of analysts, and even Jim Cramer, is that this is a highly competitive commodity-based business and there is nothing proprietary about the brand. I could not disagree more with this line of thinking and while it is difficult to put a value on the branding, I know from firsthand experience that it's in the hundreds of millions of dollars to get similar exposure for a product line. If the brand was tainted in any way with scandals, that would certainly devalue it, but for now all I see are all the right people that you would want behind a brand that appeals to this action sports and youth demographic. Furthermore, the products are all designed and engineered in house now and anybody who has bought them recently can attest to the awesome Supreme Sound and overall build quality and durability that really set them apart from the competition, particularly in the $50-$150 range. Try to take a pair of Bose over-the-ear headphones snowboarding and see how well those hold up.
I wrote about takeover expert Kyle Wescoat coming on board as CFO and how Skullcandy is potentially positioning themselves to be a takeover target. Recent events have strengthened my opinion of this actually happening. On January 28th, without any fanfare, Skullcandy filed an 8-K which reported on an amendment to their credit facility that is now permitting the company to buy back up to $28 million in outstanding common stock. When reaffirming his buy rating on Skullcandy stock on Friday, Andrew Burns from DA Davidson wrote that this available share buyback is a potential catalyst to propel the stock price higher. This of course came on the heels of an after-market announcement the day before that the CEO Jeremy Andrus has resigned to take a vague role with a private equity firm and that company founder Rick Alden has stepped in as interim CEO. Like Kyle Wescoat, I don't believe that Rick Alden plans to be an executive very long. He strikes me as a guy that would rather be on a ski slope somewhere or dreaming up his next big entrepreneurial idea, than sitting in a board room and running the day-to-day activities of the company.
Furthermore, based on an updated 13G filing on Thursday, investment company Waddell & Reed owns 8% of the common shares. I would speculate that Jeremy Andrus was pushed out by the board (possibly under pressure from the large institutional shareholders) to make way for a takeover or private equity bid. This has likely been going on a few months now, beginning with the time he registered his share sale plan which was ironically disclosed the day after the Morgan Stanley downgrade in September. At this time of the downgrade and share registration by Andrus, the stock was priced at more than double today's value and if Skullcandy was a target at that point, you can bet it is on everybody's radar right now. Really nothing in the fundamental and growth story has changed since then, but the value of this play has been exponentially enhanced as a mere result of a deteriorated share price. I would like to point out that absent the rather excessive executive share-based compensation, Skullcandy earnings would be reflected significantly higher in past quarters. I expect all of this to change as the institutions and board flex their muscles. Clearly they have spoken about leadership and Andrus is out and investors like myself anxiously await a clearer and fairer direction for protecting shareholder value.
The majority of the rest of the common shares is controlled by insiders, with Jeremy Andrus and Rick Alden owning 40%, and with the ability now of the company to buy back nearly 17% of the shares at current prices, the actual float can rapidly shrink in a hurry. It is very rare that investors have an opportunity to buy into a true growth story with proprietary technology and killer branding that is trading at a multiple of 6, with zero long-term debt, no scandals or class action suits or even any SEC inquiries. The product pipeline runs deep and I haven't even scratched the surface into the new opportunities in gaming which was a big focus of the last earnings call and is barely ever mentioned as a catalyst by the analysts who cover this stock. International distribution and even domestic distribution in stores like GameStop (GME) and Wal-Mart (WMT) can materially increase sales overnight and are virgin territory at the moment.