For many investors, the notion of investing in an OTC stock is difficult to grasp. Such stocks are often illiquid and volatile, however, painting with such a broad stroke misses some clear opportunities, as not all OTC equities are as risky as their exchange makes them out to be. BioLife Solutions (BLFS), for instance, has a solid and growing business, where losses are narrowing and management is positioned to move the company into profitability. We’ve already seen positive cash flow, and with BioLife’s executives and directors owning a large percentage of the company, as we detail below, there’s ample incentive for success. We’ve written about BioLife Solutions before (for a review of BioLife, readers can refer to our prior article on the company), and with the company’s Q4 & full-year 2012 results released and what we believe is conservative guidance for 2013, the long-term outlook for BioLife is as bright as ever.
A Note of Caution
While BioLife solution is, in our view, a solid investment in the long-term, we must urge caution when it comes to investing in the company. Shares of BioLife are highly volatile, and have no options through which to hedge an investment. The company’s trading volume, while growing, is still small, with average daily trading volume over the past 3 months coming in below 37,000 shares. For small positions, this is unlikely to pose a problem, provided limit orders are used. However, for larger positions, this has the potential to pose problems. Therefore, investors may need to scale in (as well as scale out) if they wish to establish more substantial positions in the company. BioLife has stated that it’s planning to move to the NASDAQ once its balance sheet and financial results are strengthened (more on that later), which should lead to a significant increase in the company’s trading volume. Investors considering a position in BioLife should approach such an investment with a long-term perspective. While it may be, for the time being, an OTC company, it has few of the negative connotations associated with its present exchange. The company’s revenues are growing quickly, and with BioLife having achieved several quarters of positive operating cash flow, due to favorable working capital changes, it has a clear path towards sustainable operating cash flow. For investors with a long-term investing horizon, BioLife presents an opportunity to invest in an under-the-radar company with growing revenues and a clear path to profitability.
Q4 & 2012 Review: On the Road to Financial Success
BioLife, unlike many OTC healthcare companies, has a business that is not only up and running, but is growing. In 2012, revenues grew by over 105% to nearly $5.7 million, as more and more customers used the company’s preservation mediums. In particular, usage of HypoThermosol is increasing in the hair restoration market, with HypoThermosol becoming a new standard for ex vivo storage of hair grafts. Revenue from core products (CryoStor, HypoThermosol, and BloodStor) grew 23% in 2012 (and 6% in Q4 2012) as sales to core customers climbed to over $3 million. In its 10-K, BioLife also noted that during 2012, it struck a multi-year contract with a large multi-national customer and delivered $2.5 million in product to that customer during the year. Notably, sales to direct customers fell 5% in Q4 2012 (and rose 37% sequentially). However, it should be noted that BioLife’s direct sales are inherently more volatile than its indirect sales (as shown by the large sequential increase), and the company’s long-term opportunity with its direct customers is intact. BioLife is expanding its sales force, and total headcount rose to 28 at the end of 2012, versus 12 at the end of 2011, with employees added to the company production division, as well as both its indirect and direct sales teams, due to what the company calls “growing demand for our products and services.” The market for biopreservation mediums is set to grow to $500 million by 2018, up from $150 million in 2011.
While BioLife did post net and operating losses in its most recent quarter, the company was cash flow positive in Q4 2012 due to changes in working capital. The table below breaks down BioLife’s results for Q4 2012 and 2012 as a whole, versus the comparable periods for 2011, with Q4 statistics created via the reconciliation of BioLife’s 10-K for 2012 and its last 10-Q filing
In Q4 2012, revenues grew by 153% to over $2 million. And although BioLife’s gross margins continued to fall in the quarter, driven by a shift towards contract manufacturing revenues (as well as expenses associated with manufacturing expansion charged to cost of goods sold) the company is becoming increasingly efficient. Its operating losses fell to just over 15% of revenue in Q4 2012, versus 26.01% in Q4 2011, as the company’s aggressive investments in its sales force and operations are leading to SG&A leverage. In 2011, SG&A expenses totaled 76% of revenue, for 2012, the total fell to 49% of revenue. As BioLife continues to leverage its sales force and grow its revenues, the company’s operating losses as a percentage of revenue are set to continue falling. The company noted, alongside its Q4 revenue and earnings release (Q4 marked BioLife’s 10th consecutive quarter of record revenues), that it will continue to focus on generating positive operating income in 2013, and if BioLife’s trajectory during 2012 is maintained in 2013, it is possible that the company may in fact post positive operating income. To see if this is achievable, we’ll look at BioLife’s 2013 guidance.
2013 Guidance: Gauging BioLife’s Potential
For 2013, BioLife has established revenue guidance of $6.75 million at the midpoint, representing growth of 19.19% over 2012 sales (versus growth of 56.66% in 2012). Gross margins are forecasted to fall to 39.5% (a 98 basis point drop year-over-year, versus an 806 basis point drop in 2012), and operating expenses are forecasted to grow by 15% at the midpoint of guidance.
BioLife 2013 Pro Forma Operating Loss
| Revenue | $6,750,000 |
| Gross Profit (@ 39.5% Gross Margin) | $2,666,250 |
| Operating Expenses | $3,719,856 |
| Operating Loss | ($1,053,606) |
At first glance, this guidance seems disappointing. Revenue growth is set to slow to below 20%, and the combination of slightly lower gross margins, as well as growth in expenses, will send BioLife’s operating loss nearly 12% higher relative to 2012. Doesn’t this make the thesis for BioLife harder to defend? On the surface, the answer would seem yes. However, this is not the case. If BioLife’s guidance seems conservative, it’s because it is, in fact, conservative. When BioLife reported its 2011 results, it provided initial guidance for 2012. That guidance called for revenues of $4.1 million, “slightly lower gross margins,” and positive operating cash flow. On the last 2 points, BioLife’s management team delivered what they promised. When it came to revenues, however, BioLife’s management team underestimated the company’s potential (intentionally?). 2012 revenues came in at over $5.6 million, over 36% above the company’s initial outlook. There is room, as well as precedent, for BioLife’s results in 2013 to come in ahead of management’s initial guidance. Even as late as Q3 2012, BioLife was forecasting revenues of $5 million for all of 2012, highlighting the company’s penchant for conservatism. Our previous article on BioLife noted that the company’s guidance update in Q3 implied revenue growth of 71.23% in Q4 2012; actual revenue growth in Q4 2012 came in at 153%. BioLife’s present guidance for 2013 is unlikely to be reflective of its true potential this year, and based on its 2012 results, there is a good chance that the company will raise its guidance as the year progresses.
Financials & Insider Ownership: Pulling Back the Curtain
At first glance, BioLife’s balance sheet will likely make many investors nervous. The company ended 2012 with $232,644 in cash & equivalents, and debt & accrued interest of $13,362,518. On the surface, any company with less than $250,000 in cash and debt of more than $13 million is likely to present a poor investment opportunity, for it seems as though the company is on the verge of insolvency. However, there is more to BioLife’s balance sheet than meets the eye. The company’s debt, structured in the form of 7% promissory notes due on January 11, 2016, is owed to 2 of the company’s largest investors, Walter Villiger and Thomas Girschweiler, who serves as one of BioLife’s directors. These investors understand that if BioLife were to default on its debt, their stakes in the company would be put in jeopardy. Therefore, they have no incentive to overburden the company, and have already shown willingness for flexibility when it comes to the terms of these promissory notes. They, along with the company’s management team, own over 40% of BioLife’s current outstanding shares, a facet that we view as a meaningful endorsement of the company’s future potential. The table below summarizes BioLife’s major shareholders; as a reminder, BioLife had 70,035,710 outstanding shares as of February 28, 2013, and based on the current options and warrants held by the company’s board, management team, and key investors (totaling 20,236,666 shares), the company’s diluted share count is 90,272,376.
As the table above shows, BioLife’s directors, management team, and key investors own over 69% of the company’s current share count, and if all warrants are exercised, their ownership stake would rise to over 76% of the company (exercise of those warrants and options, at a weighted average price of around 8 cents, would result in proceeds of over $1.6 million to BioLife). These warrants and options are already deep in the money, and the majority of the holders of these instruments have elected not to exercise them, despite the meaningful profits (on a percentage basis) that such an exercise would bring. This suggests that these investors are waiting for further appreciation, and this should be interpreted as a vote of confidence in BioLife’s future potential. BioLife’s balance sheet is not as weak as the headline numbers suggest, and the company notes in its latest 10-K that, “We believe our current cash and cash provided by operations will satisfy our working capital requirements, debt obligations and capital expenditures for the foreseeable future.” Its debt, while sizeable, is held by key investors, who have a great deal of incentive in ensuring that the company remains on solid financial footing. We expect more color on BioLife’s strategy regarding a clean up of its balance sheet, which the company has said is a key aspect of its plan on moving to the NASDAQ. As Zacks notes in its latest report on BioLife, it is possible (even likely) that in the end, BioLife’s debt will be wiped away through the issuance of equity; the firm’s estimates imply that BioLife would need to issue as many as 47 million shares (at a price of 30 cents per share) to extinguish its debt. However, the firm also notes that this is an extreme scenario; the company has until January 2016 to pay its debts, and assuming that it continues to execute as it has in 2012, its share price is likely to be a good deal higher than 30 cents, thereby lowering the maximum level of dilution.
Conclusions
Shares of BioLife Solutions are a risky investment, but the risks here are less than the company’s OTC status implies. Unlike many of its OTC peers, BioLife has a clear business model, and management has delivered on its pledges to grow the business, reduce operating losses, and move the company towards positive operating cash flow. The company’s guidance for 2012 proved to be quite conservative, and we suspect the same for 2013 guidance as well. Investors who have a tolerance for risk, and a long-term time horizon should consider adding BioLife Solutions to their healthcare portfolios, and the ideal time to do so may be while BioLife is still under-the-radar and before it moves to the NASDAQ. The company is covered by Zacks, which has a $0.70 price target (versus a share price of $0.30 as of April 8, 2013) and an outperform rating. As BioLife continues to execute on its business plan and eventually move to the NASDAQ, expect visibility and analyst coverage to increase in tandem. BioLife’s management has shown that it can deliver on the underlying business, and the company is steadily ramping up its sales force, expanding its customer base, and moving towards sustained positive operating cash flow. BioLife’s status as an OTC-traded company should not serve to diminish its long-term potential, and BioLife’s 2012 results, as well as its prospects for 2013, suggest that these are risks worth taking.
