LeapFrog Is A Classic Graham Net Net Investment

Since 2010, LeapFrog has seen its market cap tank thanks to the introduction of the iPad and other tablets.  The company has seen its earnings and cash flow shrink as a results of more competition. Competitors of LeapFrog were ahead of the company when adapting to the change of technology. The company's competitors introduced learnings apps for the iPad and other tablets years before LeapFrog did.

LeapFrog is selling for less than both its book value and  net current asset. This make the company a classic Benjamin Graham net net play. The market is currently value LeapFrog for less than cash and net working capital.
Mr. Market has given investors a rare net net opportunity with an margin of safety of 40%. This is an educational entertainment company that designs, develops, and markets technology-based learning products for children.

LeapFrog has been a pioneer in making reading and learning fun with their devices that have been very popular with the market.  The introduction of cheaper kid-friendly versions of the Kindle and Samsung tablets has taken a toll on the company's sales. In 2011, the company introduced the LeapPad which sold out during the holiday season that year. In 2012, they introduced an updated version of the LeapPad which sold just as well. But now with cheaper kid-friendly devices on the market, LeapFrog has seen its earning and sales fall as a result of more competition.

Over the last 13 years LeapFrog has generated $6 billion of revenues, and $2.6 billion in profits. Since going public, LeapFrog has spent over $1.3 billion on Sells, General & Overhead. Leapfrog is profitable and generates double-digit margins similar to its peers. Leapfrog is very capable of generating a large amount of revenues and gross profits, however, its very cyclical since the company has little product diversification. The company operates with lower gross margins than its competitors do.

Leapfrog spent $1.3 billion over the course of 13 years on advertising and R&D to build its products and brand. Clearly the company is suffering from the lack of diversification and manufacturing scale. This lack of diversification and scale have lower margins than its competitors. For the nine months ending in December 2014, the firm reported revenues of $305 million and a net loss of $142 million. Leapfrog during the first of half of fiscal year 2015 reported back-to-back quarterly losses. The company has seen a 43% decline over the prior year in net sales.

LeapFrog is currently selling for less than its cash and net working capital. The market has sent LeapFrog's shares tanking. The company is selling for 0.4x its book value and 0.42x its net current asset value. LeapFrog has a net current asset value of $2.17/share and has a tangible book value of $2.54/share. Despite the company being unprofitable, it has a current ratio of 4.0x and no long-term debt. LeapFrog is facing more competitions from its competitors and has little to no diversification with its products. The company is selling for at least a 40% discount to NCAV giving any rational investor a margin of safety of at least 40%. With a 40% margin of safety with little to no risk of losing your capital since the company is selling below liquidation value.
Published on Sep 26, 2015
By Cody Eustice
Cody is a freelance writer who has been writing financial articles for various sites for over a year now. He is a value investor looking for companies that sell for far less than their estimated business value.

Copyrighted 2020. Content published with author's permission.

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