Implant Sciences: Pumped and Probably Bankrupt (IMSC)

Implant Sciences (IMSC) has historically been a sub-$1 Pink Sheet penny stock. The company makes devices to detect trace amounts of explosives. It sells the vast majority of its devices in Third World countries. Its products are not approved by the Transportation Security Administration (TSA) in the U.S.

In the last few weeks it has gained 50% to 100%, depending on the day of the week, giving it an astonishing $50 million market capitalization. The recent move has come on the following press:

VFC’s Stock House is a Seeking Alpha “Certified” author, which probably explains why the articles were picked up by Yahoo. The articles are entirely promotional and have titles like:

Gene Marcial’s blog is similar in that all of the information comes from the company itself. Marcial’s main “expert” is Goldman Small Cap Research. What Marcial doesn’t tell the reader is that Goldman is a penny-stock promotion operation. It does “sponsored research” (i.e companies pay it to be favorably covered). Its disclaimer states: “Goldman Small Cap Research did not make an independent investigation or inquiry as to the accuracy of any information provided by the Company, or other firms. Goldman Small Cap Research relied solely upon information provided by the Company….” Here’s a sampling of Goldman’s analytical writing from a couple of different reports:

  • “The moment you have all been waiting for is here…”
  • “The Most Disruptive Technology in Energy in Years…”
  • “…[a flurry of news] will move the stock close to the $0.10 level…a company that we believe will dominate…”

Furthermore, Marcial and Goldman are business partners, in a service called “Corporate Profile” or CPreports, which calls itself “a one stop resource for the hottest stock news and stock picks.” It too is a sponsorship based “news” service, according to its disclaimer:

Since Corporate Profile, LLC has been compensated in many instances for its services, investors should evaluate the information on the Site with that in mind and should always perform their own independent analysis. Corporate Profile or its affiliates may from time to time aqcuire stock in companies that it covers. This compensation could be in cash or/and issuance of securities of the profiled company.

Needless to say, CPreports’ homepage links to Marcial’s Forbes column. Mutual back-scratching and possible conflicts of interest are rather common in this story. Update: All the signs point to Corporate Profile taking money to pump the stock, as seen in this hard-hitting YouTube video.

Marcial’s other expert is “Gregory MacArthur, president of investment consulting firm ViewPoint2000.” He says nothing that isn’t straight from a company press release. ViewPoint2000 has no Internet presence, making it hard to investigate. MacArthur has no detectable track record, although there is a Gregory MacArthur registered on Amazon.com with just one book review. That one review is of….Gene Marcial’s book. Mutual back-scratching, everywhere you look…

Maybe all this coverage is legitimate, and it’s not shady for Marcial to promote a penny stock by citing his buddies. Maybe there really is a company that will dominate and could trade for almost $0.10. However it is rather odd to have so much “independent” analysis of Implant Sciences, and no mention of the company’s warning of bankruptcy.

We will be required to repay all of our borrowings from DMRJ on September 30, 2012. Our obligations to DMRJ are secured by a security interest in substantially all of our assets. … As of April 30, 2012, the outstanding balances due to DMRJ under these instruments were $3,440,000, $1,000,000 and $23,907,000, respectively. If we are unable to repay these amounts as required, refinance our obligations to DMRJ, or negotiate extensions of these obligations, DMRJ may seize our assets and we may be forced to curtail or discontinue operations entirely and/or file for protection under bankruptcy laws.

Implant Science is in hock to DMRJ Group, which also approved some directors as a condition of financing. Any new capital has to come on DMRJ’s terms. So, can the company meet its debt obligations? The balance sheet shows negative working capital and negative shareholder equity:

  • Current assets: $5.5 million
  • Current liabilities: $35 million
  • Shareholder equity: ($29 million)

The company has lost between $12 and $16 million in each of the last three years. It has had negative operating cash flow every year. It owns $3 million in cash-equivalents (subtracting inventory from current assets). It cannot produce the $28 million that it has to repay on Sep. 30. Also troubling to any thesis about a growth stock is that its revenue is unstable and in decline:

  • 2009: $8.7 million
  • 2010: $3.5 million
  • 2011: $6.6 million

Marcial reported this as “Last year, Implant’s revenues doubled…”

The promoted hope for the company is that its trace-explosive detectors will be approved for use by the TSA. According to the company, that could happen in August. Currently, the majority of its sales are to the Third World. However, the only information about the chances for that approval comes from the company itself. And, approval doesn’t mean winning contracts in any case. It will still have to compete against larger and more reputable companies.

According to Goldman, who is paid to be optimistic, the government has allocated $40 million to “hand-held explosive trace detection devices”, Implant’s specialty. Suppose that’s true. Suppose Implant is approved to bid on that. According to Goldman, there are two other, much larger and well-established competitors: Smiths Detection and Morpho Detection. It’s surprising GE isn’t in this game, but suppose Goldman is right. Suppose Implant Sciences competes with just two others, and gets 33% of the pie. That is $12 million in revenue. Suppose its profit margins are 10%. That is $1.2 million in profit. It is losing $15 million/year, and needs $28 million by Sep. 30 to remain solvent.

It’s hard to see how this stock can be anything but a rip-off. The company has sold itself to DMRJ Group and has no ability to buy itself back. While DMRJ has an interest in supporting the business, that is quite different from supporting the common shareholder. If it is a bankrupt business with a viable product, DMRJ can seize the assets. If it is a bankrupt business with no viable product, the common shareholder still loses. If it is to survive, it must do so through dilution of the common shareholder by issuing new shares on DMRJ Group’s terms.

The most interesting thing about this, to me (maybe I’m naive), is not the pump and dump. That’s as old as the hills. It’s that reputable media like Forbes can be used to pump a penny stock. At least VFC’s Stock House disclosed a long position in his articles (no excuse for failing to mention the miserable financial condition, however). Seeking Alpha requires it. Does Forbes? If little investors can’t trust Forbes columnists not to rip them off, who can they trust? One expects somebody to have standards, somewhere.

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