The term "inflection point" is used a lot in the microcap world and I want to be sure we all understand what that means as it should play a significant role in performing due diligence as part of your investment process. The term simply means "turning point", and knowing when the "turning point" might occur plays a crucial role in building my investment thesis and position in a company. Stated another way, an "inflection point" can be considered a turning point after which a dramatic change, with either positive or negative results, is expected to result.
To illustrate the point, take a look at the graphic below. What you see is basically the shape of a hockey stick that represents the performance of a company pre and post the company reaching its "inflection point". The arrow from the box labeled "Where the Magic Happens" is representative of the actual "inflection point" in a company. The result of the synergies that trigger that "inflection point" is what can generate significant returns for investors for years ahead.
An "inflection point" for one company isn't necessarily the same "inflection point" for another company. It all depends on what is needed in order for the company to reach a level in which several synergies come together that clearly demonstrate that the company has "turned the corner". For example, an "inflection point" for a certain company may be reaching profitability, turning cash flow positive, or raising sufficient funds in an effort to acquire another company. Or, it could be something completely different, such as a certain individual joining the Board of Directors that could bring about significant positive change for shareholders. Or, using a recent example, it could be a company like Innovative Food Holdings (IVFH) spinning off its unprofitable business unit (The Fresh Diet) in order for the company to re-invest its cash into the "good" part of its business.
But, the best case scenario for an "inflection point" is a combination of positive events converging around the same point in time, which can be the trigger a nanocap or microcap company needs for the market to start paying attention and for investors to start to push the stock price up to more appropriate levels. Simply stated, this could be the initial push that begins the journey to "multi-bagger" status.
Some investors like to position themselves well ahead of the potential "inflection points" in order to "not miss out". Others like to wait for the major "inflection point" to be triggered and then invest in the company. It's a personal decision that each investor has to make. For me, I would rather be in early and take more risk in order to maximize long-term gains than to miss out on a company's initial upturn (up the hockey stick). But, that is just me. I embrace volatility and can tolerate it, most can't.
Let's examine some of our portfolio companies to illustrate their inflection points and when they might hit them.
Although the stock price performance for Ackroo has been painful, our long-term investment thesis is perfectly intact, allowing us to embrace the short-term price dislocations while building out a nice position in anticipation of future market discovery when Ackroo hits its "inflection points".
There were several "inflection points" that were a part of my investment thesis into Ackroo. The first "inflection point" was the company paying Dealer Rewards the $600k December 2015 payment as part of its acquisition. This was something I considered to be one of the more risky parts of my investments in Ackroo, however, I had confidence the CEO would figure out a way to get enough warrants exercised to make the payment or would renegotiate the terms. Well, the terms were successfully renegotiated in a way that will not put a financial burden on the business. Now Ackroo can focus on executing its business rather than worrying about the balance sheet.
While this was an important announcement, the market did not view it as an "inflection point". I have no doubt, however, that several "inflection points" are upon us and will occur within the next 3-6 months. These "inflection points" are becoming cash flow positive and reporting the company's first ever profitable quarter. We expect cash flow positive to occur in Q4 2015 and profitability to occur in Q1 2016.
In my opinion, there are no greater "inflection points" for a company than becoming cash flow positive and becoming profitable as it means the company can grow organically, if it chooses, without the need for financing, thus dilution. In the case of Ackroo, cost cutting and impressive gross margins of 70% + are really starting to move the needle, and it's my opinion the company is nearing the curve on the hockey stick that will lead to impressive future gains.
When I opened my position in Brekford several months ago it was based one thing, the company becoming profitable at some point during or before Q2 2016. I recognized a major shift happening in the company's business in that they were aggressively positioning the company to grow significantly within a division that provides 65%+ gross revenues, with much of that revenue stream recurring. At the same time, the company was significantly cutting costs and lowering expenses. So, my investment thesis at the time (and still is) was that with expenses greatly decreasing and a growing business division within the company's ASTE (Automated Safety & Traffic Enforcement) unit, the gross margins would continue to increase and the company would become profitable in the coming quarters.
The company is making progress. Q4 2015 and Q1 2016 will be pivotal quarters for the company and if I do not see continued progress than I will chalk this investment up as nothing more than a "story stock"...but the numbers are moving in the right direction and profitability is, in my opinion, knocking on the door. When this significant "inflection point" occurs, it could be the beginning of exponential growth forward for the company.
Kraken Sonar (PNG.V)
Kraken is an example of a company that hit its first real "inflection point" shortly after I initially invested in the company. I had a pretty good idea because of significant due diligence that the investment thesis would likely start playing out very quickly, and it has. Shortly after we opened our position the company received a $1.5 million purchase order for a Unmanned Underwater Vehicle (UUV) which the company calls KATFISH. Keep in mind that the total company revenues up to this point were under $2 million, so this order was significant. Additionally, shortly thereafter the company also received $750,000 in R&D funds.
Since the significant order and the R&D funds announcement, the stock raced up almost 100% above our cost basis. It has pulled back a little bit, but that is expected as a company as young as Kraken continues to "mature" and hit key "inflection points".
The company will be reporting Q3 2015 numbers later this week or on Monday and I expect them to show significant progress. The future is exciting for this (now) little company as it is about to begin its ascent up the "hockey stick", in my opinion.
Of course, there are times when "inflection points" do not occur as planned. When this happens it requires you to re-evaluate your investment thesis to understand if something has truly changed. This is precisely the reason why I chose to sell Kelso Technologies (KLS.TO, KIQ). Part of my investment thesis, and a major "inflection point" in my mind, was a backlog of business that I thought was being booked due to a change in railway regulations that would ultimately benefit the company. Well, it turns out that the regulations took longer than anticipated to finalize and the backlog didn't build in Kelso as quickly as I would have expected. I was a seller when the stock began to take a nose-dive. Kelso should see some positive things occurring for them starting in Q1 2016, and I will see if there is an investment thesis to be made that makes sense at that time.
In conclusion, "inflection points" should play a very important role in formulating your investment thesis prior to taking a position in a company. Knowing what the company's "inflection points" are allow you to monitor your investment thesis over time to ensure it is playing out as you planned. Most importantly, however, knowing the "inflection points" allow you to invest at an appropriate time that suits your investing style...for me that is getting in well before the ascent up the "hockey stick".