Turning Over Rosetta Stone

I had four MFI stocks report earnings last night: RST, MTXX, QXM and HCKT. Two were good and two were bad. Let us review them.

Rosetta Stone - This stock was an absolute mistake. I think I mentioned this weekend that they were new to my mechanical list and that I had bought them I was looking forward to their earnings yesterday as my experience has been that new IPOs usually have strong earnings out of the box... I mean you don't want to disappoint the street one month after an IPO. When I read the press release (Rosetta Stone Inc. Reports First Quarter 2009 Results), I started scratching my head as it didn't add up.

• it was a better quarter than a year ago (up 41% in sales)
• they are an MFI stock with a 32% earnings yield (per my calc)
• The listed market cap (yesterday) was about $57m.
• They made $3.2m, which against a 57m market cap feels like a 32% EY
• BUT, they only made 19 cents per share, which against a $29 stock price would be a P/E over 30! That doesn't sound like a 32% EY.

Where was the math wrong? It didn't take long to figure it out. The basic weighted average # of shares = about 1.9m. That correlates to the $57m market cap (1.9m x $30 per share = $57m). BUT they have over 17m diluted shares! Now I don't know what the difference between the basic and diluted # of shares is... obviously some shares are promised to some one down the road. Perhaps at a price, I don't know. Perhaps they are options. But that is a huge difference. I didn't bother to figure out why they were different, the sheer size made me suspicious and I decided to sell all my RST shares, taking a quick 10% haircut and chalking it up to look at basic/diluted shares next time... especially with recent IPOs.

HCKT - this is another stock I bought last week. They also had "disppointing" earnings (The Hackett Group Announces First Quarter Results), but I could live with them. They still have a ton of cash and while they will slow down with the economy, I think it is priced in.

MTXX - this is a funny little company that makes OTC flu/cold stocks. They are increasing revenues and earnings in the teeth of the recession (Matrixx Initiatives, Inc. Reports Fiscal 2009 Revenue Increased 11% to a Record $111.6 Million and Earnings Per Share Increased 40% to $1.46). They have an impregnable balance sheet. They did say they plan to look at acquisitions in 2009.... hopefully nothing to make them sick. They were up about 10% today.

QXM - this was my big bet, the little Chinese phone maker. They were down YoY, but still a solid quarter with a solid outlook (Qiao Xing Mobile Reports Fourth Quarter and Fiscal Year 2008 Financial Results). The amazing thing is how cheap they remain (they did go up 5 to 6& today). They have like $432m in cash and a $164m market cap. How can that be for a company that is making money? I don't know the answer, but I won't be selling anytime soon.

Speaking of selling, I did sell a couple of stocks prematurely the past two weeks. While I generally try to use the Magic Formula, I have been so scarred and trigger-shy from the past two years that I have been selling some into this rally. I am now at my biggest cash position ever. I sold AHCI which was a great stock for me, I got about a 60% return from early January. I also sold SOLR for over a 30% gain. That may end up being a fortuitous sale as I see they're down about 15% this evening as they announced earnings. I also sold half my TC, which means I have what I started with as it has doubled. I think that is all my sales, I feel better now that I have confessed (MFI does have religious connotations as you have to "believe" and have "faith").

Even with the sales and having a good chunk in cash, I am now 10% above the benchmark Russell 3000 portfolio and getting within spitting distance (well, perhaps a bit more than that) of breakeven.

Finally, I made a mistake adding MSTR to my mechanical portfolio this weekend. It was already in it as of August . I will keep RST in the MP, even though I don't think it belongs.

Later this week I will profile my all-Chinese portfolio I started in mid September last year. It is up about 15% while the Russell 3000 is down over 25% in the same stretch.