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From The Mailbag: Comarco

Stocks trading at big discounts to their net current asset values can generate strong returns for shareholders. But as previously discussed, investors in such stocks should nevertheless fully vet these potential investments to ensure that downside protection is indeed present.

Consider Comarco (CMRO), a maker of power products (e.g. chargers) for consumer electronics such as mobile phones. The company trades on the Nasdaq for just $3 million, despite current assets of $16 million against total liabilities of $10 million. Unfortunately, despite the apparent discount to assets at which the company trades, Comarco's price could go lower still.

The company plans to de-list from the Nasdaq! While this will help the company reduce its annual expenses by several hundred thousand dollars, it may not help investors. Companies trading over-the-counter tend to trade at lower multiples (to earnings or book value etc.) than their exchange-listed peers, for a variety of reasons (e.g. lower trading volumes, lack of inclusion in an index, lower investor interest etc).

As value investors, however, we know not to make our purchase decisions based on what other investors may or may not do. However, even after the fee savings from de-listing, the firm may still not be profitable. The main problem is that the company appears to be losing out to its competitors. Portable consumer electronics are in demand, but for whatever reason, demand for Comarco's chargers are down significantly. The following statement from the company's press release from mid-December illustrates that Comarco is losing the competitive battle:

"...[W]e anticipate a pricing adjustment at retail that should help drive additional sales"

In other words, Comarco will try to cut prices to compete. But gross margins were only 13% last quarter, which doesn't leave a whole lot of room, if any, to pull out a profit.

Value investors are on the prowl for businesses selling on the cheap. But just because a company is cheap doesn't mean it can't get cheaper! Investors must investigate to determine whether their downside risk is indeed protected; if the company's intrinsic value has the potential to fall significantly, the investment isn't worth the risk.

Disclosure: NoneThis article was written by Saj Karsan of Barel Karsan. If you enjoyed this article, please consider subscribing to the feed.