Silicon Graphics International Corp. (SGI)

1. Price Earning or PE Based:

XXXXX Capital is currently forecasting that SGI will produce an annual run rate of 72 cents per year pro forma. With SGI’s margins, revenues and profits all expanding, SGI should at least achieve some industry parity in value.

When the Diversified Computer Industry’s average PE of 17.55 is applied to SGI, this would give ongoing business a value of $12.63. Then, when you add the cash of $5.10 per share, we believe that SGI could achieve a stock market value of $17.73.

This analysis is from a professional fund management company, I don’t wish to name names. I’ve got no opinion on SGI and it may well work out, but I’m gobsmacked how a professional analyst can publish such stempweggle.

If you haven’t spotted why that analysis is woefully bad, then consider this. Is the Diversified Computer Industry’s average cash per share zero? Was cash backed out of the industry prior to calculating P/E? Of curse not, so why the forking hell would you then add cash in on top in this case?

Then check a few of their “facts“. Have profits and margins really been expanding?

Why would an analyst use the Diversified Computer Industry’s average P/E which includes cash holding and then add cash in on top? There is only one reason. When you did your P/E comparative analysis without adding the cash in the price estimate was too low. Now that you’ve loaded up on the shares you want to make them look super duper compelling to others. So you add cash in to inflate the price target. You do it mater of factly as if that is the way analysis is done.

As it happens the Diversified Computer Systems Industry is top heavy, with two companies comprising almost 96% of the industry. IBM has $10.8 per share cash and HP has $5.8o in cash. So perhaps we should actually calculate SGI’s price as $0.72*17.55 and then back out somewhere between $0.70 and $5.70 for it’s cash shortfall.

I won’t even get into the massive difference in SGI real earnings and proforma, their non-existent ROE or that their operations have lost cash two out of the last three years.

Now there is a valid reason to be considering SGI’s cash of importance. Their cash is almost half their market cap. However, to properly consider it you’d use enterprise value ratios, like EV/EBITDA or EV/EBIT or even EV/whacky pro forma earnings which ignore the real cost is dilution of executive and employee options scheme. Well EBITDA and EBIT have both been negative since Rackable Systems bought the bankrupt Silicon Graphics in 2009, so it’s no wonder they didn’t want to use those figures. EV/Pro forma EPS is 8.3, using the aggressive proforma of $0.72 and EV of $181M.

That was their lead fundamental point. The next key reason to buy was based on sales multiples and totally ignored the point that SGI loose money on every $1 of sales, with substantial negative operating income for the last three quarters and shabby gross margins to boot.

One final point, how about that claim of “SGI’s margins, revenues and profits all expanding“. I’ll let the following chart talk to that. All four are down in the last quarter and losses keep getting bigger.

What do you think? Is there any validity in using rules of thumb like P/E plus cash?

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