Solazyme Becomes More Disciplined In Its Use Of Cash

Active cash management remains the name of the game for the algae-based specialty products and renewable oils company, Solazyme (NASDAQ:SZYM). Announced during the Q3 2014 earnings conference call, the company plans to reduce its cash outlays for 2015 in light of the slower-than-expected ramp at its 100,000 MT facility with joint venture partner Bunge (NYSE:BG).

The modern industrial plant based at Orindiuva in Brazil has thus far been inconvenienced by its partner’s new, yet inconsistent, cogeneration facility intended to provide power for Brazil’s electrical grid. Now, as the company slowly ramps early production already underway, Solazyme has begun to make the necessary sacrifices aimed to maintain its long-term versatility.

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In accordance to the announced plan, the company made its first public gesture geared to reduce upcoming operating expenses in light of the unexpected delay. On December 18, the company filed a Form 8-K found here. In it, Solazyme announced a reduction in its workforce and implemented additional undisclosed cost-cutting measures. The action comes as little surprise given the previously announced shift in strategy as the company begins to focus less on its enhanced commodity oils and more on its high-margin specialty products in order to provide ample time for its Brazilian facility to ramp.

Included in the provisions of the filing were several expectations as a result of the undertaken action. As is typical with these workforce reduction measures, Solazyme stated that it would incur Q4 2014 accounting charges of approximately $3 – $5 million due to severance payments, COBRA premiums, and outplacement assistance. However, in regards to actual use of cash, only a $2 million cash component is expected to be incurred in all. The cash expenditure will commence starting in Q4 2014 and is largely expected to be completed in Q1 2015.

In return for these charges, the company expects a reduction in its annualized cash operating expenses of at least $18 million for 2015. As a result of this, the company further reverses the trend of its expenses going forward as illustrated in the chart below and as found in my previous article detailing the company’s use of cash. In effect, these measures fortify the company’s efforts to rein in expenses as it continues to expand revenue through its ramping facilities and take advantage of developing product opportunities.

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According to the same plan outlined in the last conference call, Solazyme also anticipates at least 15% revenue growth as a baseline estimate for 2015. This revenue estimate also excludes the expected revenue attributed to the company’s joint venture where the majority of the revenue growth is expected to occur for next year. In effect, the new Brazilian facility also stands as the company’s most desirable development priority.

As a 50-50 joint venture with Bunge, cash utilized by the joint venture is matched by Solazyme’s partner. This inherently multiplies the effect of every dollar saved elsewhere. This effect is also compounded by the favorable trend found in a strengthening U.S. Dollar in contrast to the Brazilian Real. Combined, these two factors help increase the efficient use of cash when it comes to wisely expanding the amount of time that the joint venture has in becoming a profitable entity.

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One interesting aspect of the company’s recently filed Form 8-K also comes from the last statement. Shown below, the statement says the following:

“In conjunction with the plan, the Company’s Chief Executive Officer has volunteered to reduce his base salary by 25%, and all of the other members of the Company’s executive management team have volunteered to reduce their base salary by 10%, in each case effective as of January 1, 2015.”

Largely perceived as a move for solidarity, the noble gesture may fall short for those who now find themselves out of a job due to mismanaged expectations. Yet, for the current employees it also highlights the fact that management is willing to sacrifice to help propel the company forward. Additionally, this action should mean more for investors who have often been skeptical of management’s commitment in light of their historic diversification away from the company by automatically selling shares as a condition of their submitted Rule 10b5-1 trading plans.

Yet apart from a salary reduction, investors should also note that these automatic share sales have been halted for some time. As was the case when the stock dipped below $8 in November 2012, no insider has sold shares since the company dipped below $8 in recent months. Indeed, the last recorded insider transaction was an option exercised for 30,000 shares by company COO & CFO, Tyler Painter. Oddly enough, these shares were not automatically sold upon exercise as is customary for most option exercises and therefore represents a bullish position that has already lost value to date.

A Look At Solazyme Now

Solazyme now trades with a market capitalization of $201 million based on the last trading price of $2.53 as of December 19. The company maintains a healthy current ratio of 8.50 with over $250 million in cash and marketable securities. It also has no significant principal payments on long-term debt until 2018. However, the market remains skeptical that the company may not be able to become profitable or raise capital going forward. As such, it has severely discounted the company’s share price by more than 85% from a 52-week high of $15/share.

The company’s stock now appears to be rounding out a bottom level of support as short sellers abandon their holdings and investors position for the end of the tax year. The short interest in the company has fallen to 17.81 million as of November 28 from a record high of 24.85 million as of October 31. This marks a decline in short interest of nearly 29%. However, nearly 28% of the company’s share float and a rather high 22% of the company’s outstanding shares continue to be borrowed and sold short by speculative traders as of November 28.

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At the same time, Solazyme continues to see improvement on an operational level. Quarterly revenue has continued to grow every consecutive quarter since the company opened its first large-scale commercial facility in January 2014. Over the last four quarters, quarterly revenue grew 55.75% to $17.56 million in Q3 2014 from $11.27 million in Q4 2013. Gross profit only marginally increased from $9.29 million to $10.96 million as the company initially ramped commodity replacement products with very limited profit margins at this early stage of the company’s manufacturing cost curve. However, with the new strategic focus on higher-margin products, investors should expect for gross profit to improve as well.

Final Thoughts

Solazyme continues to make the hard choices necessary in order to become more efficient and to provide enough time for its new Brazilian joint venture to become a successful part of the company’s future. By initiating these cost-cutting metrics well in advance of future problems, the company strives to stay financially lean in order to maneuver through challenging environments. This is now being demonstrated by Solazyme through a change in its product mix in order to take advantage of market lead times and to suppress the ill effects of the current pricing environment. It is also being demonstrated by a reduction in the workforce in order to trim expenses as the company focuses more heavily on smaller volumes of specialty products which command a higher average selling price.

It is worth mentioning that the company remains no stranger to adaptation and has historically operated with foresight in mind in a way that ultimately proves to be better for the company in the long run. Here are a few instances of that which continues to illustrate the advanced planning on the part of management to adapt to changing situations:

  1. Solazyme switched from a pond-based algae system to an industrial fermentation production process when its cost estimates became impractical using autotrophic algae. This is why the company’s name and solar reference now stands as a misnomer to its current technology and use of heterotrophic algae.
  2. Solazyme took a significant risk by investing in a biological tool kit for its algae (in contrast to using a platform revolving around a well-understood organism such as yeast/bacteria). Although the process was costly and offered no guarantee of success, it ultimately resulted in a productive organism and the ability to manipulate it.
  3. Solazyme began to commercialize products which could command higher margins other than low-margin biofuels at a time when the industry was strictly focused in the development of advanced fuels. The company’s strategy of pursuing profitable markets today (eg. cosmetics, nutritionals, etc.) has since become the imitated approach by much of the industry.
  4. Solazyme went public in a very short window period in which advanced biofuels and clean technology were heavily supported by investors. Within a few short months, the IPO door closed as supposed peer companies experienced issues with their technology platforms. Choosing to go public when it did allowed the company to build its first commercial plants.
  5. Solazyme returned to the market twice to raise capital in advance of its need for it. Doing so has allowed for minimal dilution and has largely preserved the company’s share structure. The latest offering has cushioned the company to ramp up its operations under difficult market conditions and high-cost stage in the company’s growth.
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As history has proven in the past, the company has attempted to position on the basis of years into the future. This is not to dismiss the unforeseen circumstances that came along the way. Yet it is to suggest that the company’s actions remain the consequence of being proactive rather than reactive. The additional willingness of management to reduce their own pay also lends to this idea that the company’s interests are still in their best interest. As Solazyme now shifts to being prudent with its cash management, investors should expect that these measures were taken in order to best position the company’s long-term future.

Solazyme remains a speculative investment in the near-term as the company continues to define a bottom level of price support in light of a negative market perception. Investors should continue to remain cautious in light of such volatility. However, the company’s reduction in expenditures while maintaining a positive outlook on growth continues to best position the company as it strives to exit out of the high-cost curve of early commercial production. I personally remain a buyer of the company’s stock in small tranches over regular intervals as the long-term investment thesis continues to remain intact.

 

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