Thursday, June 30, 2011

New Frontier Media: Pre-Catalyst

Companies with large depreciation charges usually require matching capital expenditures just to keep revenues stable. But in the rare instances where this is not the case, earnings are often a poor proxy for a company's free cash flow. New Frontier Media (NOOF) appears to be a prime example of this phenomenon, to such a large extent that its cash balance at the end of the year may exceed its market cap.

New Frontier Media is a small cap that trades for $25 million. While the company has approximately broken even on an earnings basis over the last three years, it has generated $21 million in operating cash flow against just $9 million of capital expenditures. That trend is set to continue this year, as the company anticipates effective capex spend of under $1 million ($2.3 million in building improvements plus $0.3 million in new equipment minus $1.7 million in tenant allowances that will flow through the income statement).

Since the company already has $18 million in net cash (compared to a trading price of $25 million), its net cash may actually exceed its market cap this year. This could prompt a dividend or buyback that generates strong returns for investors are the current price.

Unfortunately, the company's top executive doesn't own a significant number of shares; his annual salary is three times larger than his actual stake in the business. But to his credit, the company has bought back shares in the past. In 2008 and 2009, the company bought back a combined $13 million of stock. The way the company is building up its cash position at the present time, it is on track to comfortably afford a similar buyback.

Disclosure: Author has a long position in shares of NOOF

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