“The $50 Billion Shadow Syndicate”

Cyber security pick from Michael Robinson

By Travis Johnson, Stock Gumshoe, October 7, 2009

Today I’m taking a look at a very florid teaser letter from Michael Robinson, who is apparently now helming Taipan’s Breakaway Investor newsletter, a service that has supplied us with a lot of entertaining ammunition over the years.

The letter builds on the fact that Robinson is apparently a “special investigative correspondent” and former mainstream journalist, and that he’s sniffed out a money-making opportunity in the government’s stimulus spending — and in particular, stimulus spending and other government spending on the hot area of cybersecurity.

Here’s how he pitches it:

“The stimulus bill is about to send an unprecedented tidal wave of federal funding into the private sector.

“Now, a bunch of the money will go to big established firms like Dell, Microsoft, Oracle and Hewlett-Packard.

“Good investments, no doubt. Problem is, these companies are already too big to make investors any real money.

“But here’s the thing:

“While much of the stimulus money will be given to the “old boys’ network” of corporate giants…

“… a major chunk of the funding has found its way into the hands of a tiny military contractor.

“I can tell you right now, this stock is the next government-backed millionaire-maker.

“The company has an exceptional product… but its real asset (as you will see in a moment) is its INSIDE CONNECTION to the U.S. government…

“… an INSIDE CONNECTION that will likely send its share price soaring very soon.”

Now … the bad news? This stock has already taken off in just a few days, on no real news at all, which means, in all likelihood, that the teaser ad is working really well and driving folks to subscribe and buy the shares.

Doesn’t mean it’s necessarily a lousy stock, though my suspicion is always that these newsletter-driven shares will come back to earth within a month or two, absent other near-term news catalysts. But let’s look at the details of this one, shall we?

“After digging into the records, I discovered that the REAL WINNER in the stimulus package is NOT infrastructure. Not by a long shot.

“And it’s NOT America’s workforce…

“And it’s NOT the U.S. economy…

“The real winner is a powerful syndicate with a very dangerous agenda… an agenda that will likely make YOU a pile of money — as much as $97,500 or more — by March 2010.”

This “powerful syndicate” is the technology industry, apparently — Robinson goes on to argue, with some evidence, that the computer, software and technology companies have the same influence in Obama’s administration that the oil companies had on George W. Bush’s priorities.

Then he throws in some argument that the tech industry is, essentially, bad for America:

“Bottom line: The government is about to rain billions down on the tech industry…

“And the tiny stock I’m going to tell you about is perhaps the biggest winner of all. I wouldn’t be surprised to see its share price soar in the next six months… making early investors very rich.

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“Now, you may be wondering… isn’t that good for America? Won’t government spending create jobs? Won’t it revive the economy?

“I realize on the surface, big technology spending sounds like a win-win situation… a good deal for everyone.

“But the truth is, technology spending will spark a ‘shadow recovery’… a recovery that LOOKS REAL at first glance… but ultimately disappears, leaving millions of Americans in severe financial pain.”

He goes on to say that the dark side of this technology spending will create more unemployment as technology steals jobs in the continuing fight for higher productivity. That strikes me as a bit of an odd endorsement of neo-Luddism, and an argument against the creative destruction of capitalism, for the editor of an investment newsletter that generally focuses on emerging technologies, and one whose business model would be much more challenging without the Internet (government funded and built, natch). But, of course, he goes on to say that though this will be terrible for the country’s economic recovery … you can still profit from it.

“And make no mistake: When this recovery disappoints, investors are going to be more frightened than ever.

“Money is going to fly out of the stock market at a record clip…

“The only companies left standing will be those propped up by massive government spending.

“That’s why I’m so excited about the tiny stock I mentioned earlier. Get in now, and this company could deliver a $97,500 payday in the next six months.”

So what is this stock? Robinson goes on to tell us that there are two ways to profit from the big technology spend — he believes that the big companies like Oracle, HP, etc. will do well but be slow and steady performers, but there’s something better:

“The key to making a fortune from today’s government spending is to hitch yourself to the “next Oracle.”

“You need to get in early… on the ground floor. That’s the exact opportunity you have today.

“You see, by following up on Branson’s tip, I’ve uncovered a tiny military contractor — a little-known stock — that I believe is the NEXT tech home-run sensation.

“In fact, if you could only invest in one company for the next five years… this would be the one. Not only does it provide a critical service… but because of its INSIDE CONNECTIONS…

“… it is looking at a virtually unlimited backlog of GOVERNMENT FUNDING… a backlog of government funding that could launch this stock by March 2010.”

This particular company is one that apparently works in cybersecurity — protecting networks and data from hackers and ne’er-do-wells of all sorts …

“In fact, cybersecurity has become America’s backbone.

“Without it, spies, foreign enemies, al-Qaida, or even homegrown terrorists could sabotage critical operations.

“Cyber attacks have increased 15,000% in the last few years…

“Bottom line: Cybersecurity has become essential to every aspect of modern life. And here’s the critical thing you need to understand:

“Every project, every initiative in the stimulus package requires cybersecurity.

“You want to build a smart grid? You need cybersecurity.

“You want to build a toll road? You need cybersecurity…

“You want to digitize medical records in the healthcare industry? You need cybersecurity.

“That’s why the company I’m tracking today is so lucrative… and why I’m certain its stock price is about to explode.”

And then we start to get into the actual clues about this firm:

“… the company I’m tracking today provides cybersecurity services.

“But here’s the thing: While its service is top-notch, its REAL ASSET is its CEO.

“This company is a perfect example of the power and importance inside connections play in Washington.

“In fact, because of its new CEO’s inside government connections, this company is going to hit the big time… while other companies that offer similar services are going to wither and die.

“Is that fair?

“Not really. But there is nothing you can do about it. What you can do is get on board, and rack up some serious money alongside the insiders.

“Let me give you the backstory…

“Until 2004, this company had ZERO government contracts.

“That all changed when its new CEO came on board.

“The CEO is a high-powered Washington, D.C. insider. In fact, using his inside government connections, he turned his former company into one of the 10 largest government contractors in the country… a multibillion-dollar success.

“He’s doing it again….

“It now has cozy relationships — and lucrative contracts — with powerful U.S. government agencies, including:

* Department of Defense (DOD)
* U.S. Army
* U.S. Navy
* U.S. Air Force
* Department of Education
* General Services Administration (GSA)
* Department of Transportation
* Defense Logistics Agency (DLA)
* Department of Homeland Security
* U.S. Postal Service
* And many more…”

OK, so we get a few clues there — the CEO’s past, the changes over the past five years, and some of their clients. What else do we learn?

First, that they’re named on a huge new contract:

“On March 27, 2009… just about a month after the stimulus bill was signed… this company was named as a recipient of a $50 billion contract… called the GSA Alliant Contract.

“The Alliant Contract is the largest government technology contract ever awarded…

“Please understand: In my 30 years covering the federal government, I’ve never seen anything like it.

“If you were to paint a dream scenario with a magic wand for a small IT contractor… this would be it.

“Not only can the Alliant Contract be used by the Department of Defense… but it can also be used by EVERY GOVERNMENT AGENCY in existence: Department of Education… Department of Transportation… Department of Agriculture… NASA… Homeland Security… U.S. Postal Service… Department of Health & Human Services…

“Doesn’t matter who it is, or what they do… any government agency can use this contract to spend money on cybersecurity…

“And get this: Even though it is SEPARATE from the stimulus bill… the Alliant Contract can draw funds from the stimulus bill.

“That means it is backed up by a $787 billion government windfall…”

OK, so we’ll leave aside the fact that there were many other “small IT contractors” and huge firms on the Alliant Contract as well (it named more than 50 companies, something Robinson doesn’t focus on, of course) — it is still a big potential piece of business, even if this one company is not going to get anywhere near $50 billion in sales from this contract (their sales over the last year were about $300 million).

I’m hinting in these little side comments that I actually know who this company is, and I do, but let’s go through this in order, shall we? The other specifics about this stock:

“This company is tiny… only about a $100 million market cap.

“Now, “market cap” is just a measure of a company’s market value. It basically determines how much the company would sell for on the open market.

“In this case, the company could be purchased for $100 million.”

They’re up about 30% since then, which is ridiculous enough, but do note that they also have about $75 million in debt, so if you wanted to buy ’em you’d be committing more like $200 million at the moment. Not a big difference for the big players, of course, and Robinson tells us that this company is likely to become the target of a bidding war.

Here’s how he explains it:

“Because this tiny company holds the keys to the Government Funding Kingdom. It provides an essential service, and was named as a recipient of a $50 billion government contract.

“That makes it worth a boatload of money to big firms looking to get a piece of the government pie.

“Let me ask you this: Would you pay $3 billion to get your hands on a $50 billion contract?

“You sure would! And here’s the thing: A $3 billion buyout could send a $100 million company soaring 30-fold.”

OK, so hopefully you recognize that being named as one of the companies on a $50 billion contract does not mean your company individually will be getting $50 billion in sales, which makes this hypothetical $3 billion buyout sound even more extravagant. That doesnt’ mean they won’t be bought out, I have no idea what will happen to the company — but I would be surprised, to be kind, if someone offered $3 billion out of the blue for an unprofitable company that the market believes is worth $200 million, even if it takes them six months to make this offer (he keeps mentioning March 2010).

And there’s one final argument in favor of this stock — he tells us that the wave of insider buying means the company is super-undervalued, also helping to imply that a buyout is imminent:

“While in Washington, I took a look at SEC records — particularly the ‘Form 4’ for this tiny stock.

“The SEC Form 4 indicates buying and selling patterns for a public company’s insiders.

“What I found confirmed my suspicions about an emerging buyout opportunity. In fact, the company’s insiders have been BUYING shares of their own stock at a frenetic pace… typically a strong indicator a buyout could be imminent.

“And get this:

“On March 31, 2009… just four days after the company was awarded its big government contract… the company’s president of Government Solutions (talk about a guy with inside government connections and information!) bought over 108,000 shares…

“And on September 2, 2009… a second insider with the company bought a stunning 1,320,000 shares…

“Think about that…

“WHY in the world would one insider grab up over 100,000 shares… and another buy an astounding 1,320,000 shares?

“Only one reason: These guys are behind the scenes and likely KNOW a buyout is in the works… ”

Hmmm … as many of you know, your friendly neighborhood Stock Gumshoe is based in Washington, DC — maybe I should also be implying that it takes a secret visit to Washington to view these SEC records, eh?

No, of course, the Form 4 records for any public company, which detail insider purchases and sales, are available to everyone through the SEC’s EDGAR database and, by extension, republished on most of the major financial websites and by several specialist websites that focus just on insider trading.

And yes, I should finally tell you who this company is, no? The name was first suggested to me by long time Gumshoe reader John L. — and he was right, this is Kratos Defense (KTOS or KTOSD, depending on what day you’re reading this). [Click here for a free instant trend analysis of KTOS]

Why the different tickers? Kratos had a 1:10 stock reverse split that went into effect about a month ago, and that necessitated the temporary change to the “D” ticker. That temporary ticker was only supposed to last three weeks — it is still in effect this morning, so it will probably revert to KTOS soon. So do keep in mind that when looking at historical earnings numbers there’s some potential for older data not being revised to match the 1:10 split. The stock was trading for about 80 cents a share back in early September, and stayed around that price after the split. It only took off like crazy (from $8.50 to the current $11.50 or so) over the last week that this ad has been running — the first mention of the ad that I saw was on September 30, and it really heated up the airwaves with heavy rotation over the weekend, a heavy rotation that appears to still be underway.

I’d argue that the $3 move in this stock over the past several days is due entirely to the response to this Breakaway Investor ad — which can mean a couple things: it might mean that they really did just bring some light to an undervalued opportunity, and the stock will continue to move higher as it gets more attention; or it might mean that they got people excited about a huge payday, and that potential payday is further away and more uncertain than they think, so the shares will tail off over the next month as those enthusiastic investors give up.

That latter one is, from my anecdotal experience, more typical. Doesn’t mean it will happen, of course, but I’ve seen similar peaks brought on by newsletter attention that withered when the newsletter ad stopped running and the enthusiastic new buyers stopped pouring into the shares. I do not make buy and sell recommendations, of course, but would almost always urge people, even if they love the stock and think it is indeed a great idea, to be patient and wait for the enthusiasm to cool a bit.

So who is Kratos? This is indeed a government IT contractor, though they are not specifically focused on cybersecurity to any great degree — they do participate in many contracts, including Alliant, that have a security focus, but they are not known primarily for cybersecurity work as far as I can tell. Here’s how they describe themselves:

“We provide mission critical engineering, IT services and war fighter solutions for the U.S. federal government and for state and local agencies. Our principle services include C5ISR, weapon systems lifecycle support, military weapon range and technical services, network engineering services, advanced IT services, security and surveillance systems, and critical infrastructure design and integration.”

If you look at the long-term charts, incidentally, you’ll see that the company has a long history — they used to be named Wireless Facilities (old ticker WFII), and they were one of the Nasdaq superstar stocks during the Internet boom. They renamed themselves Kratos, and refocused the company on government and defense contracting, about two years ago, beginning a long slow slide from $30 to about $5 at the market lows, and $11 currently.

Their last several contract awards have been for Navy workforce training and development, and for space and missile defense “technology development.” As of their last earnings release (for the second quarter), they had an order backlog of $640 million, though they didn’t specify what time period those expected revenues cover (some contracts go out several years). They have been growing their revenue both sequentially and year-over-year, and generating cash, and they do have such a massive history of losses on their books, from both themselves and the many smaller companies they’ve acquired, that they won’t be paying taxes for quite a while.

How about the insider buying? That provides the real direct confirmation that this is a match — their President of Government Solutions, Howard Bates, did indeed acquire 108,058 shares on March 31 — though he didn’t actually really buy them, these were part of a restricted stock award that he received when Kratos bought his old company a couple years ago. The more recent and dramatic insider buy, the 1,320,000 shares, was classified as a “private purchase,” primarily by a number of investment funds managed by a Kratos director, all of which did take place on Sept. 2. I assume that this may have been part of a larger direct sale to institutional investors that took place in conjunction with the reverse split, but I don’t know. And yes, those shares were of the pre-split stock, so at the current price we’d say that this insider actually bought 132,000 shares — this director, through his management funds, apparently now owns about 600,000 shares (out of about 13 million shares outstanding overall). Which might mean that this director, who also happens to be an institutional investor, was just keeping his ownership percentage of the firm steady — so by participating in this latest fundraising, he still controls about the same percentage of the company as he did before this institutional placement. Doesn’t mean it’s insignificant, or that he wouldn’t have bought shares if he didn’t like their prospects, just that it might not be a purchase designed to get a quick hit on a particularly imminent buyout.

And the bit about the transformative CEO? Robinson isn’t the only one who thinks he has done great things — CEO Eric DeMarco did receive an award for his turnaround work just a couple months ago, largely because he helped transform Kratos into a defense contractor through a couple strategic purchases/mergers (one of which, SYS Technologies, is actually the subsidiary that’s named in that Alliant contract with the government).

So there you have it — Kratos Defense, a government IT contractor with, after a strategic change of direction and some corporate acquisitions, a lot of Department of Defense business. It may or may not be a great investment idea, but is almost certainly be heavily touted by Breakaway Investor, and also almost certainly at a lofty share price that’s been driven by this newsletter attention. What do you think, will the shares fall back when the attention dies off? Will Gumshoe readers, those mighty legions of investors, actually drive the shares up further now? Will the shares be much higher in six months, as touted by Michael Robinson? I’ll be watching, but I don’t know what will happen — let us all know what you think with a comment below.

And if you’ve ever subscribed to Breakaway Investor, which used to be run by Andrew Mickey and has more recently been helmed by Christian DeHaemer before Michael Robinson came on board, let us know what you thought by clicking here to submit a review. Thanks!



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Kim Dawson
Kim Dawson
October 7, 2009 11:48 am

Subscribed to Breakaway Investor 4 days ago, just because of this stock. Figured the teaser ads would give it a pop. Expected you to write about it sooner. You didn’t so I sold it today. Now you write about it. Made a quick $2000. That more than covers the $49 for the service. I figured that even if you had told us about it on monday, it would have gone up more than the $49 in that time. I see it has gone up a little since I sold it, but I’m happy with my profit and I’ll watch for it to go back down. If the service hadn’t been so low priced, I’d have waited for you. Thanks for all of your great research. I look for it in the mornings.

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October 7, 2009 1:32 pm