Wall Street has never been known for its patience. When innovative companies do not deliver results on schedule, their stocks can take a beating. This recently happened to Solazyme (NASDAQ: SZYM), and Marketocracy Master Justin Uyehara believes the selloff has brought the stock down to a level from which it can easily double. He is taking advantage of Wall Street’s impatience by increasing his position.
This is not unusual behavior for Justin when it comes to small companies with big potential. Since 2003, Justin has averaged 28.3%, nearly triple the return of the S&P 500’s annual return of 9.7%. You can view Justin’s top five holdings, learn more about his strategy, and track his progress with monthly Performance Insights emailed directly to you at the end of each month by visiting our website.
Justin's Marketocracy model portfolio has averaged 28.3% a year for 11 years. (Photo credit:... [+]
Ken Kam: Justin, good evening. I noticed that 17% of your portfolio is allocated in Solazyme. Why such a large position?
Justin Uyehara: First, I believe in small companies. Since the end of 1998, the MSCI World Small Cap index has grown 9.8% per year, more than double the S&P 500’s 4.8% over the same period. I have about 65% of my Marketocracy portfolio is invested in small caps and micro caps, because I believe they are the fastest way to grow one’s portfolio.
Ken: So, what do you like about Solazyme? What were you looking for when you found this company?
Justin: I like companies that can turn commodities into a high value product. The commodities that Solazyme is working with are sugar and algae. They have developed a way to grow microalgae by using sugar as the main nutrient, and then they ferment the plant in dark enclosed steel containers. The company researched thousands of algae strains, and found a select few that can be used to manufacture oils, lubricants, flour, and proteins.
Ken: When I look at their income statement, I see that there are no earnings yet. If that is the case, where do you see the potential?
Justin: The company has a few strategies for their algae based products that impress me. First, they have partnerships with petroleum companies like Chevron (NYSE: CVX) and Ecopetrol (NYSE: EC) where they are converting the algae into biodiesel. Even though this is new and exciting technology, algae, as the company points out, has been a major source of petroleum for centuries. Their unique innovation s creating a way to produce oil on a large scale with faster turnaround from their algae production. The algae based oil is then turned into fuel.
Ken: Beyond the obvious, what are the potential markets?
Justin: They have a contract with both the Department of Defense and the Department of Energy. Consider the U.S. Navy for example. The DOD spends over $4 billion per year on petroleum based fuels. Meanwhile, renewable fuel only makes up 1% of their total fuel consumption. If Solazyme can create a cost effective method of producing marine fuel, they have a huge potential market awaiting them that dwarfs their current $50 million per year revenues. They are already producing the renewable fuel used in the 50/50 jet fuel that powers our F/A 18 fighter jets, and that part of the market is just now taking off.
Ken: I like the pun. Are there commercial interests for these renewable fuels?
Justin: United Continental Holdings (NYSE: UAL) entered into agreements with Solazyme when United and Continental were separate companies. The first deliveries of Solazyme’s Solajet jet fuel were to begin this year. Solazyme also entered an agreement with Qantas Airlines in 2011. The benefit is this new jet fuel can be used in today’s infrastructure and burns cleaner than petroleum based fuels. Since over 5 million barrels of jet fuel are used per year, it would benefit the airlines to find a renewable source, and Solajet will meet that need.
Ken: Is there potential anywhere else?
Justin: Dow Chemical (NYSE: DOW) uses the lubricants that Solazyme is able to produce from microalgae. The dielectric insulating fluid is used for transformers and high voltage capacitors. In addition, Bunge (NYSE: BG) entered into an agreement with Solazyme to produce Encapso, which is a oil drilling lubricant. That project started in May, and should start producing serious revenues in 12 to 18 months.
Ken: What is the potential business for Encapso?
Justin: It is a $10.6 billion business. The oil industry spends significant money on lubricants for their equipment, because the technology to extract deep oil deposits had to change. It can best be described as a skeleton key approach. For oil fields, like Bakken, the deep extraction causes more wear and tear on the equipment and requires a reliable product. Encapso provides a renewable solution.
Ken: You mentioned flour and proteins can be produced from microalgae. What kind of products is Solazyme producing with that?
Justin: Companies are already using their products. Solazyme produced the essential oils in Algenist sold by Sephora. The reported sales for Algenist were around $20 million in sales for 2013. Their AlgaVia flour and protein products are used in food production. Large food producers like Archer Daniels (NYSE: ADM) include algae based products in their production, and distribution is happening through stores like Whole Foods (NASDAQ: WFM).
Ken: Does the report of recent insider trading concern you?
Justin: I know that (Jonathan) Wolfson sold 150,000 shares in the past month.
Ken: Does it raise a red flag for you that the CEO is selling shares in his own company?
Justin: Even CEOs need to diversify their investments. I don’t see this as a major concern, especially since he still owns over 2 million shares. It appears that insiders and major shareholders still own around 40% of the company, so they are still showing their faith in the business.
Ken: So based on all of this information, you think Solazyme can double in five years?
Justin: My goal is to try to find names before Wall Street does. When the company went public, it sold at around $25 a share, because the street realized the potential. Then, they lost their patience. I know it is down now, but there is too much potential with this company for it to not double. The potential is showing in their top line results with revenue growth at 33%. They’re opening plants and producing products. They just need to execute, and I believe they are. In fact, I am looking for more than a double. It is a leader in this space, so sooner, rather than later, it will meet expectations.
My Take
Justin admits that investing in small and micro caps is speculative, but he feels that is where the greater potential is. For many investors, the problem with these companies is that too often their products are more hype than substance. Justin did his homework with Solazyme to make sure that it has a legitimate product line with real interest from big customers. Justin sees this company as a true investment, and he makes a strong case to show that Solazyme’s products will not only generate revenue, but will also produce the kind of earnings that will warrant a near term double.
It is often the case that innovation does not occur on schedule. This can lead to large price movements whenever Wall Street is disappointed. But, if the innovation solves big problems for large customers, Wall Street’s disappointments can create great opportunities to buy stocks when much of the fluff has been drained out of the price. It seems to me that this is the case with Solazyme.
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Disclosure: I am the portfolio manager for mutual and hedge funds advised by Marketocracy Capital Management, an SEC registered investment advisor. Before relying on the opinions expressed in this article, you should assume that Marketocracy, its affiliates, clients, and I have material financial interests in these stocks and may hold or trade them contrary to these opinions when, in our view, market conditions change.
