Monday, September 08, 2008

Are's Stock Buy Backs a Wise Move?

Why are (NASDAQ: BIDZ) insiders selling shares as the company is buying back shares, especially when management has claimed that the company’s shares are undervalued? Legendary investor Warren Buffett, CEO of Berkshire Hathaway (NYSE: BRKA), was once said:

Now, repurchases are all the rage, but are all too often made for an unstated and, in our view, ignoble reason: to pump or support the stock price... We will not repurchase shares unless we believe Berkshire stock is selling well below intrinsic value, conservatively calculated." [Emphasis added.]

Does’s share repurchase program really build “intrinsic value” or is it a short-term ploy “to pump or support the stock price” as insiders sell their shares?

During the Q2 2008 earnings call, CFO Lawrence Kong claimed:

As of July 31, 2008, we had repurchased a total of approximately 1,024,000 shares in the open market for a total of $8.8 million at an average price of $8.58 per share. We continue to repurchase in the open market under the stock repurchase program and still have approximately $11.2 million for additional share repurchases under our current program. The stock repurchase program reflects our continued confidence in the market opportunity and strategy and what [inaudible] appears to be at the undervaluation of our stock at current levels. We believe our stock to be a strong investment opportunity and a good use of our cash resources. [Emphasis added.]

Lawrence Kong claimed that, “We believe our stock to be a strong investment opportunity…..” Yet, most recently on September 3, 2008, Lawrence Kong sold 53,801 shares and pocketed gross proceeds of $239,764 or about $8.98 per share. Kong and other insiders have unloaded about 480,000 shares so far this year, pocketing gross proceeds in excess of $5.2 million, while the company has been repurchasing its stock (Source: SEC Form 4 Reports).

In some instances, has paid more money per share to buy back its shares, than the price per share received by insiders who sold their shares. For, example, in May and June 2008, repurchased 54,000 shares and paid $501,714 or about $9.29 per share. By comparison, Lawrence Kong recently sold 53,801 shares at an average price of $8.98 per share.

In certain other instances, other insiders have also sold their shares for less money per share than the company, at times, paid to buy back shares on the open market. For example, in February 2008, CEO David Zinberg sold 5,000 shares at $7.50 per share for gross proceeds of $37,500. That same month, Marina Zinberg (Vice President and sister of David Zinberg) sold 15,000 shares at $7.49 per share and received gross proceeds of $112,350. In March 2008, repurchased 433,827 shares at an average price per share of $8.11.

Does management personally hold the same views on the value of company stock as officially espoused by the company?

Examining Share repurchases for the six months ended June 30, 2008

While Lawrence Kong has claimed that’s share repurchase program is a “good use of our cash resources,” during the six-months ended June 30, 2008, the company utilized significant financial resources to repurchase shares of common stock. That resulted in very low cash balances at the end of Q2 2008 and the company had to draw on its line of credit to make certain inventory purchases.

During the first six months of fiscal year 2008, repurchased 823,297 shares, paying $6.965 million or an average price of $8.46 per share (Source: Q1 2008 10-Q report and Q2 2008 10-Q report). During that same period, reported net income was $8.22 million and net cash provided by operating activities was $3.342 million. Therefore, the company’s expenditures for share repurchases amounted to 85% of reported net income and more than twice the amount of net cash provided by operating activities. At the end of the second quarter, the cash balance dropped $5.975 million to a mere $618,000 from $6.593 million in the previous quarter.

As of June 30, 2008,’s reported net working capital of $31.877 million. However, the company’s working capital comprised almost entirely of inventory totaling $54.732 million, which took on average about 120 days to sell during the six-month period. In a previous blog post, I raised serious questions about’s compliance with GAAP in valuing inventory.

In addition, by June 2008, the company spent a cumulative total of $7.85 million to repurchase 923,297 shares since the beginning of its stock repurchase program in 2007. The stock repurchase program reduced available net working capital by about 20%. With relatively low cash balances totaling $618,000 and most of its working capital tied up in low turnover inventory, had to utilize its line to credit to make certain inventory purchases. As of June 30, 2008, owed $5.6 million under its line of credit.

During the Q2 2008 earnings call, CFO Lawrence Kong claimed:

Our positive cash flow and revolving line of credit provide us with strong liquidity to continue to successfully grow the business. [Emphasis added.]

However, as detailed above, about twice the amount of net cash provided by operating activities was utilized to buy back stock during the first six-months of the fiscal year. During the six-month period ended June 30, 2008, expended $6.965 million or $3.623 million in excess of cash flows of $3.342 million to repurchase its common stock. The end result was a low cash balance of $618,000 and and line of credit balance of $5.6 million. In effect,'s share repurchases are being financed in part with short term credit. It is a risky move to use a revolving line of credit to fund stock repurchases and the same time use it to provide funds to operate a business.

Are's share repurchases really a good long term use of shareholder resources at this time? I don't think so.

To be continued….

Written by,

Sam E. Antar (former Crazy Eddie CFO and a convicted felon)

Disclosure: Not long or short securities