Red Mountain Capital – iRobot (IRBT) – Activist Investing

This article originally appeared on the Alternative Activist blog in April. You can follow the Alternative Activist on Twitter.

Red Mountain calls out logical activist target and sleepy cash-hoarder iRobot to divest non-core assets.  

iRobot Snapshot

Red Mountain Capital focuses on small cap stocks and has $400M+ invested. Since 2006, the fund has targeted 14 companies, posting an average return of 54% that bests the S&P by 25%. Red Mountain has the most experience with the consumer industry (where iRobot is classified), with 6 activist investments. The whopping $50M invested in iRobot is the fund’s second largest investment to date. Their last two investments (iRobot and Popeye’s) have both been over $50M each for companies with market caps above $1 billion, which is a departure from their small cap strategy as the average market cap of all its targets is just $365M. Also, its previous 3 investments did not eclipse $20M and the fund had never invested above $34M. Perhaps Red Mountain raised a new round and has to put that capital to work by chasing down larger targets.

Members of the fund have served on multiple portfolio company boards and Red Mountain is agitating for change at iRobot, calling for the Company to focus exclusively on its home robots business and to sell or shut down both the defense & security and remote presence businesses. It is also demanding iRobot alter its capital allocation practices, declassify its board, separate the Chairman and CEO roles and allow shareholders to call special meetings.

For iRobot the company, this one smells like a stable, sleepy public company that has been hoarding cash and posting unexciting but adequate financials.

  1. iRobot feels safe, with no debt and a cash position that accounts for 22% of the market cap as well as positive earnings and free cash flow.
  2. Revenue growth has historically been good but has slowed over the past 3 years, while EPS has been expanding.
  3. Margins are all positive and have been creeping up over the past couple years.
  4. The stock is down 14% in the LTM and the current valuation looks fair when compared to the 5 year averages.
  5. After reviewing the segment data, Red Mountain has a solid case to jettison the defense & security business, given that its annual revenue fell from $175M in 2011 to just $46M in 2014 and its gross margin has fallen to 46%, while home robots revenue has grown from $279M to $507M over the same time period and its gross margin has expanded to 51%.

While I fully believe in the inevitable AI revolution, think again if you think iRobot is going to be the company leading the charge. The truly revolutionary companies will bring AI more to life and will make iRobot an afterthought. It is time to accept iRobot as a value play, and not a growth play with commensurate R&D investment, and to squeeze as much shareholder value as possible now before it gets swept away. Check out this article on the new company formed by the Siri founders, Viv. Companies like these will be leading AI, not iRobot.

Given its high cash balance, underperforming non-core assets and anti-shareholder corporate governance, iRobot is a perfect activist target. The investment is safe and given the upside and valuation lift that could be realized by focusing solely on its home robots business and better utilization of its balance sheet, I invested.