2 reasons to sell Eastman Kodak shares
Shares in Eastman Kodak (KODK 1.66%) have participated in a rocket rally since the company received a $765 million loan through the Defense Production Act to produce generic pharmaceutical ingredients useful for COVID-19 treatment and/or prevention efforts.
Kodak may have been selected because of its large, underutilized manufacturing capacity, which includes 88 reactors and a water treatment plant, according to CNBC. The network further states that the chemicals in the film are similar to key raw materials (KSMs) used to manufacture pharmaceutical drugs.
Although Kodak shares have benefited from a huge price increase on the news and look attractive, investors should think twice before jumping on board. The company has a long history of failed business ventures. And its strained financial situation may make it difficult to properly capitalize on this new revenue opportunity without diluting investors’ shares or incurring additional debt. Here are two reasons to avoid stock.
1. Kodak has questionable management
Eastman Kodak has a long history of questionable management decision-making. In 2012, the company filed for Chapter 11 bankruptcy due to its inability to transition from the high-margin photo film business to less profitable digital cameras. After a restructuring, Kodak exited the camera business altogether and now focuses on corporate imaging and other poorly thought out business ventures.
In 2018, Kodak entered the cryptocurrency sphere with the announcement of KODAKcoin, a “photo-centric cryptocurrency to give photographers and agencies more control over image rights management.”
KODAKcoin was designed to work with Kodak’s image licensing platform, KODAKOne, which uses web crawlers to identify customers’ intellectual property. But the cryptocurrency announcement appears to have had little to no fundamental implications for the company. Kodak’s stock soared over 233% from $3 to over $10 after the announcement in January 2018, before quickly falling back to earth.
Kodak made no mention of KODAKcoin or KODAKOne in its latest first-quarter earnings report, so it’s safe to assume the companies didn’t translate to meaningful revenue.
Then a report came out late last week that implied that Kodak management might unfairly benefit from insider knowledge of the company’s stock. According to a New York Times report, Eastman Kodak CEO Jim Continenza received 1.75 million stock options a day before news of the government loan became public, and he made millions (on paper) after the massive rally of action. The company’s board also received millions of stock options in May as the company negotiated the government loan. Through a spokesperson, the CEO and board deny any wrongdoing. But this news is another example of questionable management decisions going on at the company.
2. Kodak has bad finances
Now, after failing in its camera and cryptocurrency businesses, Kodak wants to start making KSMs, which are raw ingredients for making prescription drugs. To achieve this, the company secured a $765 million loan through the Defense Production Act as part of the government’s drive to “relocate” the US healthcare supply chain away from China and other foreign countries.
In the wild trading week following the loan announcement, Kodak stock – trading at $2.18 per share flat before the news – rose more than 1,800% at some intraday points before falling. settle around 780% at $19.36 per share. In Monday. Shares fell – and will likely continue to fall – as Kodak’s weak financial condition will make it difficult for the company to capitalize on this new revenue opportunity.
In its 2019 annual report, Kodak highlighted “substantial doubt” about its ability to continue in business due to cash flow problems. Things didn’t look any better in the company’s first quarter 2020 report, which was released on May 12.
In the first quarter, Kodak announced an 8.2% drop in revenue to $267 million and a net loss of $111 million. With just $209 million in cash and cash equivalents on its balance sheet, Kodak can have a limited financial runway without diluting stock value or incurring additional debt to fund further expansion. The $765 million loan will help ease the short-term cash crunch, but may not be enough to sustain Kodak until the new pharmaceutical operation becomes profitable.
Management did not provide color on expected cash flows from the pharmaceutical company — but judging by its failing track record, investors shouldn’t be too optimistic.
The take-out sale
Eastman Kodak highlights potential dangers of investing in small, poorly rated companies penny stocks. Penny stocks may seem tempting when their stock prices are skyrocketing, but that doesn’t make them good investments. Kodak’s stock was cheap for good reasons: bad management and bad fundamentals. This new government loan does not change the heart of the company’s problem and its general state of mind.
While Kodak has undeniable potential in chemical production due to its large manufacturing footprint and the supposed similarity between film chemicals and pharmaceutical KSMs, the company may struggle to execute its new business venture. This uncertainty does not bode well for current and potential Kodak investors.