Verifone back to earth, or..

Upwards an upwards, but watch those trendlines
Verifone (PAY), a company providing secure electronic payment solutions has been on a tear, easily doubling the share price since last September.

Terrific company in what seems to be a terrific growth market. The long case has been stated quite eloquently here, so we won’t have to repeat that, although you might wanna check the date of that article (Dec 24 2009).

Since then, it has been onwards and upwards, that conviction of a rather young looking Senior Vice President Gregory Pepin from the Vatea Fund has proved more than its value..

What we especially like is that this seems a company who develops high-end services in the high-end markets, and then has a big opportunity replicating those advantages in other, less developed markets.

An interesting point is that the shares are not even on an all-time high:

The main reason the company is undervalued is due to their 2007 earnings re-statement. There was an issue with inventory accounting. That news, which broke right in the middle of the financial crisis, increased the negative reactions, and dealt a huge blow to the stock, which dropped from $50 to $15 and eventually to $4 when they issued some kind of profit warning in early 2009.

But the stock has rather exceeded even Pepin price range:

We believe that Verifone is an attractive long term hold. We think that the fair value of the stock could easily be around the $25-35 range, at least.

As it closed at $48.18 on Monday February 14 2011. Some things to consider:

  • Analyst estimates for this year amount to $1.68 per share, rising to $2 in 2012
  • Revenue growth is in the low teens
  • Cash and debt almost cancel one another out
  • Leveraged free cash flow is significant, at $78M

We have little doubt that this is a very well run company in a market with many opportunities. However, we think that valuations are getting stretched, and what’s more, technically the picture is getting overbought. Consider the graph (which self-updates, so consider Feb 14 2011 when the stock closed at $48.18):

It has just breached the upper limit of the upward trend. Either we get some kind of melt-up, or it falls back to within the trend.

A melt-up is possible if the shorts are really getting nervous (we’ve seen that with Netflix in February 2011, for instance), and there does seem to be a catalyst for that in the mobile market.

We suspect that the generous valuations and overbought condition will pull the stock back within the trendline though, but we don’t exclude the party to last a little longer. We’ll keep a very close eye on this one, if it runs up a little more, selling those out-of-the-money short-term calls becomes our favourite investment strategy once again.