Friday, March 03, 2006

Update: Discovery Partners
Discovery Partners
Ticker: DPII
Price: $2.40
Market Cap: $63.3 million
Net Current Asset Value: $85 million

Since our March 2005 report shares of Discovery Partners are down 25 percent. We don't always get it right here at Cheap Stocks, or maybe our timing is not perfect, but we are not afraid to take our lumps.

As we noted in our initial post, Discovery had a sizable contract with Pfizer, whose renewal was in doubt. Indeed, Pfizer did not renew that contract, which has had a major impact on Discovery.

The company reported a net loss of $14 million for 2005. Revenues decreased 21 percent to 34.8 million. Not a pretty picture. The loss of the Pfizer contract is substantial, and as a result, the company has shut down and/or consolidated some of its facilities. Furthermore, the company is experiencing pricing pressure from outsourcing. That's quite a one-two punch.

Good News?
If there is any good news, its still the company's balance sheet. As of 12/31/05, the company had $83.5 million in cash and no debt to speak of. Thats about $3.20 in cash per share, while the stock trades at $2.40. Hold on, you might be saying, cash may be great, but if you have unprofitable operations, you'll burn through that cash quickly. Good point. In this case, the company is estimating a 2006 loss of from $15-$17 million, and cash burn of $12-$14 million. That would leave Discovery with $70 million (assuming company forecasts are accurate, a big assumption, we know)at year end 2006. Right now, the market is valuing the entire company at about $63 million. That's a fairly significant discount to cash, and a signal that the market has about given up on Discovery Partners.

Call Option?
Lets face it, its difficult to make a case for this company's operating businesses. Howevever, the cash level is interesting. If the company can truly end 2006 with $70 million in cash, purchase at current levels are essentially (ok, a stretch, we know) an in-the-money call, with a 1+ year expiration. The call being the possibility that Discovery turns the business around, even slightly over the next year, or perhaps that someone acquires them. I'd exchange $2.40 for $3.20 anyday, everyday, as often as possible. We know its not that simple. Any puffs left in this cigar butt? We'll see.

*The author does not have a position in this stock. This is neither a recommendation to buy or sell this security. All information provided believed to be reliable and presented for information purposes only.

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