SuperCom ( Nasdaq - SPCB ) -- In Control

SuperCom (SPCB $12.00) is a niche provider of digital identity systems.  The company focuses on emerging markets.  Africa is its leading geography.  Other regions include South America, Asia, and the Middle East.  SuperCom sells its systems primarily to government customers.  Applications include drivers licenses, vehicle permits, passports, visas, national multi-ID documents, border control, and a range of narrow programs.  SuperCom also provides traditional paper documents as required.  Digital systems contain biometric data, holograms, ultraviolet patterns, and computer memory that are tied into national databases.  Forgeries are more expensive and complicated to make than for paper documents.  Digital systems also provide improved data reporting.  Demand is rising in Third World countries due to basic modernization trends.  Greater emphasis on security and terrorist threats are reinforcing growth.  At this point Ebola control hasn't become a factor.  If the disease continues to proliferate tracking systems might be implemented for that purpose, as well.

The company acquired a direct competitor last December.  On Track Innovations ("OTIV") decided to sell the unit and deploy those funds in its wireless payment technology.  That line required capital to realize its potential.  SuperCom paid $10 million in cash plus a contingent earn-out for the division, which sells digital identity systems primarily to Third World customers.  The transaction reduced direct competition, expanded technology resources, and beefed up sales and marketing.  Since combining forces SuperCom has signed $55 million of new business so far in 2014.  The company also has been able to bid on far more projects.  The industry remains generally competitive.  Most participants emphasize the developed world, or huge emerging countries like India and Brazil.  Margins tend to be high throughout the industry.  Initial deployments typically generate gross margins of 55%-60%.  Recurring revenue usually equals 20%-30% of the initial build-out cost, and yields gross margins of 70%-75%.  Overhead consists mainly of product development and sales commisssions.

Two additional technologies might amplify growth.  SuperCom is rolling out a digital tracking line aimed at the corrections and health care industries.  The units include superior batteries and longer range than existing bracelets.  Applications include prisoners on release, medical patients at risk of wandering, and health care equipment that moves frequently.  An animal tracking system also is in development.

Mobile payment technology offers additional diversification.  SuperCom's "Pure Money" application works on any kind of cell phone, not just the most advanced versions like the ones required by Apple Pay.  The target market will be unbanked consumers, mainly in Third World countries.  Fees will be earned from participating merchants and governments, in addition to transaction charges.  The technology allows retailers to uses their own phone or tablet computer as a point of sale system, so additional hardware purchases aren't required.  The software alternatively can be loaded onto an existing POS system.

Digital identity contracts probably will account for most 2015 revenue.  We estimate sales will advance 36% next year to $45 million.  The new technologies may contribute $2-$3 million of that.  Earnings (fully taxed) could improve 21% to $.85 a share.  Tax loss carry forwards will shelter 2015  income, supplementing cash flow.  Those savings probably will run out in 2016.  Faster growth is possible if the new lines gain momentum or the digital identity segment wins lots of new business.

SuperCom may pursue another acquisition in the near future.  The company previously authorized the sale of $50 million in stock with a shelf registration.  The target could triple SuperCom's sales, according to the company.  It also would enable the company to penetrate Western electronic identification markets.  SuperCom indicates the target is very profitable and would be immediately accretive to earnings.  It's unknown why the target is being sold, although reports suggest the owners are looking for money.  SuperCom's stock price may move sideways or even decline somewhat until the transaction is formalized, or a decision is made not to pursue it.  Assuming the contemplated transation does not go through sales could attain $75-$100 million in 2-3 years.  Earnings could increase to $1.15-$1.55 a share. SuperCom notes that its 5-year goal is sales of $250 million.

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Highpower International ( Nasdaq - HPJ ) -- Charges Ahead

Highpower International (HPJ $6.25) is a leading manufacturer of plastic lithium ion batteries used in consumer electronic devices.  The basic technology is similar to the batteries made popular by Tesla Motors.  Those are produced by Panasonic.  Unlike Tesla's which are all identical cylinders, Highpower makes batteries in whatever shape and size is required to fit a particular device.  The company has been producing batteries for two decades.  It still relies on nickel cadmium batteries, an older technology, for 40% of sales.  That line has price-performance advantages for numerous applications and is likely to remain viable into the next decade.  But lithium ion is the company's principal source of growth at this point.

Competition is intense.  Low cost producers are springing up in China.  Established Japanese manufacturers already have solid connections in the consumer elections area.  Many now are moving into electric vehicles and solar back-up, as well.  And while the Americans aren't directly involved, they are devising ways to improve the batteries and make them efficient with better software.  But Highpower is remaining ahead of the pack.  The company upgraded its existing facilities in 2012.  A new plant was constructed last year, potentially doubling capacity.  About one third of that was activated this year.  More equipment and personnel will be added as order volume expands.

Highpower already supplies Sony and several other major Japanese consumer electronics producers.  This year it began working with Qualcomm to develop batteries for next generation products like smart watches.  R&D collaborations are underway with American scientists to improve the lithium ion technology, particularly to make it less prone to fire.  Highpower also is moving into the electric vehicle market with batteries aimed at buses.  The Chinese government has made it a priority to reduce air pollution with cleaner public transportation systems.  The company also is working with an American company to develop a line of solar powered back-up energy systems, to replace diesel units.

Consumer electronics will drive the boat in the near term.  Margins have been impacted by the capacity expansion.  Non cash depreciation charges on the entire new facility have overwhelmed the incremental revenue to date.  Sequential improvement is likely to reverse that equation as volume builds during the second half of 2014.  Gross margins promise to widen further in 2015 as depreciation expense remains fixed and revenue continues to climb.

We estimate 2015 earnings will double to $.60 a share.  Sales are poised to advance 22% to $195 a share.  Further margin improvement should accompany rising sales volume in subsequent periods.  Margins also may benefit from Highpower's battery recycling unit.  That operation is losing money presently, having just opened last year.  But a swing to profitability is likely as volume improves.  The facility also enhances sales activity, because customers know they won't have any environmental liability down the road.

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Pure Technologies ( Toronto - PUR ) -- Runs a Tight Ship

Pure Technologies (PUR.to $7.50) is the leading provider of monitoring technologies used by water utilities to identify leaks.  The company makes several devices that travel through pipes of all sizes without getting stuck behind valves or other obstacles.  The systems rely on several methods to pinpoint weak spots in the network.  Utilities apply that information to fix short lengths of pipe, where the problem resides.  Traditional methods applied corrective action after a leak occurred.  Those approaches were less accurate, moreover.  So repair work often spanned miles of pipe, causing much greater expense levels.  Most customers still hire Pure on a one-off basis to assess an entire network and plan how to make to repairs.  A growing number use the company to provide full-time monitoring services, to ensure major problems never arise.

The company completed a significant acquisition in September.  Up until then Pure had conducted similar monitoring services for oil and gas pipelines, on a limited scale.  That unit comprised about 7% of sales.  The acquisition tripled that revenue run rate, expanded the customer base, and provided key technologies and services.  Oil and gas pipeline construction is surging to accommodate the fracking revolution.  Older pipelines are running at capacity, moreover, making preventative maintenance more essential.  Only a small percentage of the leak detection market has been penetrated to date.  The combined unit could grow 25% annually or more well into the decade.

Meantime, demand for water monitoring is accelerating, too.  The threat of droughts is causing utilities to manage their systems more efficiently.  But many are close to 100 years old.  Upgrades certainly have been made over the years.  Still, a lot of systems are aging and require close attention to prevent major breaks.  International business offers additional opportunity.  Many systems are groaning under the weight of expanding populations and modernized economies.  Water use tends to correlate with GDP growth.  To date international revenue has been modest.  But marketing efforts are being ramped up to make a deeper penetration over the coming years.

We estimate 2014 earnings will advance 82% to $.20 a share (Canadian).  Sales tend to be stronger in the second half as utilities implement their annual plans.  That sequential improvement could propel full year sales to $78 million (+28%).  Next year, bolstered by the acquisition, sales could rise 35% to $105 million to support a 50% increase in earnings ($.30 a share).  Pure faces lots of indirect competition in the water area from engineering companies, which specialize in replacing big sections of pipe.  Patents and experience provide a competitive barrier in the company's niche.  Technologies exist to monitor oil and gas pipelines (so-called "pigs").  Pure's work with those and provide an overall improvement in performance and lower cost.

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MAM Software - Driving Performance

MAM Software (MAMS $5.00) is a leading software provider for auto part, auto repair, and tire retailers.  MAM also provides similar products for wholesaler distributors in those industries.  The company is based in England.  It controls approximately 70% of the U.K. and Irish markets, which remain under penetrated.  The technology is easy to implement for small and mid-sized operations that formerly used spreadsheets and generic retail management programs.  MAM Software's products are specifically designed for the automotive industry, providing far superior performance at similar costs.  The company recently completed an acquisition to facilitate entry into the U.S. market.  That move led to a joint venture with a major U.S. company that promises to accelerate gains while reducing risk.  Business in the U.K. is being converted from on-site software to cloud based delivery.  That promises to raise profitability and customer retention over the long haul.  The technology is being emphasized in the U.S., as well.  New international markets are being addressed.  Demand is surging among smaller auto parts, auto repair, and tire retailers because the technology allows them to compete with the Big Boys at an affordable cost.  Competition consists primarily of generic retail software providers that don't have the specific industry knowledge that MAM Software delivers.

MAM's software modernizes auto shop operations.  Counter personnel can see different pricing options right away, alerting customers to promotions, discounts, combination deals, and lower cost alternatives from other vendors.  Cross selling opportunities are highlighted.  Inventory management and re-ordering are streamlined.  A complete accounting system is provided for managerial, financial reporting, and tax purposes.  The software helps improve margins, expand revenue, and enhance customer retention.  E-commerce modules are included to facilitate sales on the Internet.  The technology is a complete package that is structured for auto shop operations, which can be fine tuned pretty easily for individual requirements.  MAM provides a range of data services in addition to the store level software.  The key products are part catalogs that help store personnel identify the exact item required to meet each customer's need.  Every model year has different specifications.  Not every part is compatible.

The company is shifting to a cloud based delivery format.  MAM Software has been operating in the U.K. and Ireland for more than a decade.  Most of those customers run the software on-site, creating a fair amount of complication when updates are released and other changes occur.  Those systems are sold for a single lump sum payment.  The new cloud based system is priced on a recurring month to month basis and is maintained by MAM at a central location.  Updates are automatic and don't require the customers' involvement.  Financial performance has slowed in the current fiscal year (June) due to the transition.  But real business momentum has continued at a fast pace.  Instead of upfront payments the revenue is being spread out into future periods.

A recent joint marketing relationship with a unit of Autozone promises to accelerate performance.  The giant retailer's Alldata subsidiary is the leading U.S. provider of data for auto repair shops, spanning approximately 80,000 locations.  For every repair job Alldata generates a full bill of materials and estimates for how much time each task will take.  Alldata originally planned to develop its own shop management software to complement the data service.  Instead, last January it joined forces with MAM.  Alldata is handling all of the marketing and customer relations.  MAM is managing the software component, which will be delivered in a cloud based manner.  Revenue will be split in an undisclosed manner but MAM indicates its contribution margin will be attractive due to the lack of selling expense.  The initial response among potential customers reportedly has been positive.  Significant leverage could be realized in fiscal 2015 (June) as the program builds steam.

Meantime, sales growth remains vibrant in the company's established markets.  Competition is forcing retailers and wholesalers to consolidate and modernize.  The company's American unit, obtained via acquisition in 2012, is making inroads in the auto part and tire segments.  The U.K. and Irish business is continuing to thrive, as well.  And MAM is making plans to enter additional European markets.  The company also is eyeing new vertical segments like plumbing, building materials, and electrical supplies.

We estimate sales will come in around $31 million in fiscal 2014 (June).  Earnings appear on track to reach $.22 a share.  Next year $36 million and $.35 a share represent realistic targets.  A stronger showing is possible if the Alldata relationship yields significant impetus right away.  Our estimates assume it will take some time for the market to develop.  Financial results will benefit gradually, moreover, since revenue will be recognized on a monthly basis.

The build up of cloud based recurring revenue promises to lift profitability over the long haul.  In 2-3 years sales could reach $45-$55 million to yield income of $.55-$.75 a share.  Applying a P/E multiple of 23x to the midpoint of the range suggests a target price of $15 a share, potential appreciation of 200% from the current quote.  Limits are advised.

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Computer Modelling Group ( Toronto - CMG ) -- The Big Frack Attack

Computer Modelling Group (CMG.to $27.50) is the leading provider of simulation software used to maximize the economic potential of hard to recover oil and gas reserves.  The company dominates the tar sands market in Western Canada.  It also has strong positions in deep offshore and other heavy oil applications.  Most large pools of petroleum and natural have been found by now.  The ones that remain have become difficult to monetize, moreover, because they exist out in the ocean or in arctic locations.   New land-based discoveries increasingly are being made in shale deposits which require a high degree of technical ability to exploit.  Computer Modelling entered that market a few years ago as U.S. drilling activity accelerated.  The number of customers employing its simulators now is expanding at a rapid pace.  Most have been trying out the technology on a limited basis.  Success has encouraged them to purchase additional licenses and apply the technology to a larger percentage of their overall drilling programs.

The core business remains solid.  Computer Modelling added seven shale customers in the December quarter, bringing the total to 37.  But that segment still represents a small portion of the total business.  The tar sands segment flattened out over the past year due to pipeline shortages, which made it more difficult for smaller operators to acquire financing.  That forced output to be moved by railroad, a more expensive option that itself was capacity constrained.  A series of accidents caused the Canadian government to tighten safety rules on rail car shipping, moreover, exerting further pressure on drilling activity in Western Canada.  Despite all that the major producers have kept up production, and most of those companies are heavy users of Computer Modelling's systems.

Expansion in South America and the Middle East is reinforcing growth.  The company has a close affiliation with Petrobas, Brazil's national oil company.  It also has close ties with leading producers in Colombia and Venezuela.  The latter has fallen behind in its payments to Computer Modelling.  Further delay is possible until the political situation there is resolved.  But the long term outlook in Venezuela remains positive.  Activity is rising in other South American nations, as well, with Argentina in particular preparing to start a major shale drilling initiative.  Middle East demand has been improving in recent years because even there new discoveries have become more difficult to exploit.  The company also is making inroads in Asia.  Shale drilling could become a substantial market in that region over the coming decade.

Competition remains scant.  Schlumberger provides simulation software for conventional oil fields but has been unable to keep pace with Computer Modelling in the high end.  Halliburton used to offer its own heavy oil simulators but now typically re-sells the company's.  A Russian start-up announced a competitive offering in 2013 but that product still hasn't been launched commercially.  Computer Modelling spends 20% of revenue on product development.  It also receives funding from Shell and Petrobas to develop a next generation system that simulates above ground facilities along with the underground drilling operations.  An active consulting team helps customers apply the technology.  It also collects feedback to help upgrade the systems cost effectively.

We estimate sales will advance 12% in the current fiscal year (March) to $77 million.  Earnings appear on track to improve 10% to $.76 a share.  Implementation of the Keystone XL pipeline could reignite Canadian activity over the next few years.  More important, demand by U.S. shale producers is likely to gain momentum as greater experience with the technology is obtained.  The customer count could increase to 60 or more in the U.S. alone.  And those customers probably will buy an expanding number of licenses.  International business is poised to rise in response both to greater conventional (heavy oil) drilling, and the adoption of horizontal fracking methods.  The next generation package recently began field testing by Shell and Petrobas.  That line is likely to generate incremental revenue within 1-2 years if all goes well.  In 2-3 years sales could reach $125-$150 million to produce income of $1.25-$1.50 a share.

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