Compelling Microcap Growth / Value Idea – Taking the Formaldehyde Out of Wood Panels

EcoSynthetix Logo

A smart hedge fund analyst we know has identified a compelling microcap value idea EcoSynthetix Inc. (TSE: ECO or OTC: ECSNF– ~US$ 78M market cap) that is poised for a substantial ramp in sales of its revolutionary new DuraBind™ bioresin adhesive for wood panels – while sitting pretty with 77% of its market cap in cash (US $59.1M).  

This company is well worth spending some time on – as the upside is significant while the downside is protected by cost consciousness and a very strong balance sheet safety net.

We’re Always Smartest When Listening…
This very savvy investor has built a large position in ECO while also playing a role in adding new industry expertise and management talent to the company’s board and leadership. Like most of our best stock ideas – we just listen to smart people who have clearly done the work, kicked the tires and invest along with them. The value we provide is in filtering out those who do the work and those who pretend they know all the moving parts. While there are no guarantees – after tacking this company for nearly a year – we are impressed on all fronts regarding the Company, its technology, its persistence and discipline and its progress.  The nature of microcaps is that it takes FOREVER for things to get done; it comes with the territory. So patience and understanding of big company/small company hierarchies is critical to staying the course when things drag on.  The good news for readers is that we’ve spent the last year waiting and watching – so you don’t have to! ; ) 

The launch of DuraBind bioresin adhesive for wood panels represents an enormous potential catalyst for this renewable chemicals company and its portfolio of commercially proven bio-based products. DuraBind is an eco-friendly adhesive positioned to replace formaldehyde-based resins that dominate the field but are facing increasing regulatory and consumer obstacles.

Most notably, cancer-linked urea formaldehyde (UF) based resins tripped up Lumber Liquidators (NYSE: LL) when it was found – despite their labeling – that some of their flooring was emitting formaldehyde at levels far exceeding California EPA and its California Air Resources Board (CARB) standards.

Anecdotally, we have heard that much of the flooring and furniture industry faces the same emissions issues, and is rapidly looking to eliminate formaldehyde from their products.  One prominent example is that IKEA is attempting to reduce or eliminate formaldehyde levels in its wood composites over the balance of this decade.  The industry refers to these products as NAF – No Added Formaldyhyde formulations.

DuraBind Commercialization Progress
As companies seek to produce products that meet regulatory and consumer preferences, DuraBind represents the only economic alternative for wood-panel manufacturers. EcoSynthetix has spent the past 24 months advancing dialogs, pilots, and industrial-scale mill trials with most of leading global wood panel manufacturers. Traction in this area is clearly the key to value creation – so we will provide more detail on this progress below. Suffice it to say, it is our understanding the ECO is already in trial stages with manufacturers who own enough mills to support a substantial ramp in its business. enough mills to support hundreds of millions in annual revenues.  The total potential market is measured in the billions and is dominated by UF products from large specialty chemical companies like BASF and Koch Industries.  We believe early commercialization success by ECO will be met by swift M&A or partnership activity by a large incumbent.

Our optimism is only tempered by past experience: it should be noted that EcoSynthetix had previously attempted to commercialize a formaldehyde-free product targeted in the building insulation market but was unsuccessful in these efforts.  However, we believe that the engineered wood substitution opportunity is much more complex – wood mills in the industry have been looking for economic alternatives since the first anti-formaldehyde legislation in the early 1990s, and still no alternative has been mass-adopted.  Thus, we believe that the company has a truly unique value proposition that will not be easily copied.

Recent progress outlined in the Q1 conference call and slides includes ten large manufacturers in various phases of active trials along with the addition of a few new customer prospects during Q1, demonstrating growing awareness and interest in NAF  Q1.  The Composite Panel Association held its annual panel in Arizona this past April and attendance was extremely strong.  Further, interest was very high in the no added formaldehyde segment.

To date, DuraBind has been utilized in the production of over 5 million square feet of manufactured boards that have been approved for customer sale.

In total, EcoSynthetix estimates there are approximately 1,100 wood board production lines around the world, driving adhesives demand in the billions of dollars each year.  Currently approximately 90% of total demand is being supplied with formaldehyde-added adhesives.  EcoSynthetix DuraBin represents the first bio-adhesive that delivers both on performance and cost – to make it a suitable NAF replacement.

Microcap Risk Mitigated by US $59M Cash Position
Backstopping an investment in EcoSynthetix has an impressive balance sheet with no debt and US $59.1M in cash and term deposits (held in US dollars) and a recent market cap of just US $69.8 M. The strength of the cash position can be diminished by investors who fail to assess the $US cash position in the apples to apples context of a US$ denominated market cap, given that the TSE is the only viable market for ECO shares. Trading on the OTC under the symbol ECSNF is sporadic at best, and our belief is that this only represents grey market trades that are executed in Canada but “printed” on the OTC denominated in US$.

Potential Steep Growth Ramp is Masked by Legacy Business
EcoSynthetix also screens poorly on recent financial performance as its legacy business is in bio-coatings for paper and paperboard. That business has been under pressure due to pricing pressure from petroleum-based alternatives that have benefited from the oil price slide, as well as the secular decline of the paper industry, exacerbated by the bankruptcy of key customers in the US in 2015. FY 2015 revenues totaled US $14.6M, down from US $18.8M the prior year,

New Management Team is Talented, Focused and Executing
However, with the appointment of CEO Jeff MacDonald in 2015, management has been successful in its efforts to reduce costs and cash burn by steering focus exclusively to the wood composites market. Q1 2016 operating expenses were 38% below those in the year ago period, and cash burn now stands at ~$1.5MM/quarter.

Further, the steady ramp in focus on eco-friendly bio-friendly alternatives continues to provide optimism to EcoSynthetix’s prospects in this area.  The recent addition of Paul Lucas, former CEO of Glaxosmithkline Canada, and Jeff Nodland, former president of the coatings division of Hexion (a major industry incumbent now owned by Apollo), to the board of directors gives us confidence that the company is experiencing a resurgence.

Overview
EcoSynthetix offers a variety of bio-chemicals proven to help manufacturers reduce their reliance on petroleum-based chemicals and VOCs, while decreasing overall material costs, improving manufacturing performance and reducing their carbon footprint. Its products include

  • EcoSphere®  legacy bio-chemical which is an alternative to petroleum-based latex coatings
    for paper and paperboard
  • EcoMer®       EcoMer can be combined with conventional vinyl monomers, including
    styrene, acrylics, and vinyl acetate to produce polymers suitable for use in
    pressure sensitive adhesives, ink and toner resins and paints.
  • EcoStix®       bio-based pressure-sensitive adhesives for stickers
  • DuraBind™  bioresins for wood panel market 

 

Biostage at a Glance:
                                                            Canada                                      US
Symbol                                               ECO.TO                                   ECSNF

Recent Price                                       $C 1.70                                  US$ 1.30*

52 Week Range                            $C 1.00 – $C 1.85                     $US 0.77 – $US 1.41

Exchange Rate                             $C 1.30 = US $1.00               $US 0.77 = $C1.00

Market Cap                                        $C 101M                               $US 77M*

Cash & Term Deposits                      $C 76.8M**                         $US 59.1M

   Cash per share                                 $C 1.30**                              $US 1.00

Shares Out                                         59.3M                                    59.3M

*Based on 1.3:1.0 conversion rate
**Based on 0.77:1:00 conversion rate

Disclosure: The principal of Catalyst Global, which publishes CG Focus List, has been an investor in EcoSynthetix since July 2015 – with subsequent purchases over the next 6-9 months.  The principal has no intention to sell any of his position over the balance of 2016 and will weigh any further purchases or sales based on the progress of EcoSynthetix in its commercialization.

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