Why I am not buying Creative Technology Ltd. (SGX: C76)

If you're like me, who reads the news daily, I am pretty sure you are familiar with Creative Technology share price rally. The share price has appreciated more than a whopping 680%! To those who have bought the share in the past few days, congratulations to you, you must be sitting on a decent amount of profit!

With the rapid increase in price, I knew that Creative would hit my screening threshold for market capitalization and end up on my Watchlist. My intuition was right, I ran my screen after yesterday's market close and there it was, "SGX: C76".

However, I will share with you why I will not be purchasing Creative's shares as of now.

My investment strategy revolves around the idea of buying above average companies at below average prices. The reason why Creative's shares have appreciated so much in value is due to the introduction of a new technology dubbed "Super X-Fi". I won't go into much detail as to how the technology works, you can read more about it here on their official site. In summary, you get to experience the likes of a full surround sound system cramped into the portability of your headphones. Creative aims to sell a dongle with this specific chip for USD 150.

In the past 5 years, Creative has experienced negative EBIT throughout. My investment strategy looks closely at the LTM EBIT as a gauge of whether a company is above average at below average price.

Let's take a look at my screener's results (out of 33 stocks that fit my criteria):

Business Description

Creative Technology Ltd., together with its subsidiaries, designs, manufactures, and distributes digital entertainment products worldwide. It primarily provides digitized sound and video boards, computers, and related multimedia and personal digital entertainment products. The company also offers sound blasters, gaming headsets, speakers, headphones, MP3 players, Web cameras, and accessories, as well as software products. In addition, it provides multimedia solutions for personal computers and personal digital entertainment products. The company markets its products and solutions to consumers and system integrators through a distribution network, including traditional marketing channels, original equipment manufacturers, and Internet. Creative Technology Ltd. was founded in 1981 and is based in Singapore.

Current Statistics as of 5th March 2018

Market Cap: SGD 615.4mn 

EBIT/Enterprise Value: -7.7% (Ranked 33rd) 

EBIT/(Net working capital + Net Fixed Assets): 0% (Ranked 27th)*

*Note that this ratio is a little warped due to negative EBIT and negative invested capital (i.e. negative working capital and very little fixed asset)

Clearly, I will not be touching this stock based on my investment strategy and risks tolerance. Most investors right now would purchase this share acting like a venture capitalist. A new product which promises to revolutionize the industry and disrupt existing players. Of course, these investors take on significantly higher risk, but they will be rewarded handsomely if all goes to plan. I also see a potential for Creative to build multiple streams of income besides the sale of the dongle including licensing fees which they can charge to other audio equipment manufacturers which sounds incredibly lucrative.

As for myself, I would rather wait for the interim results of Creative to be out, reevaluate the financials and see if indeed, sales are picking up. Otherwise, I would rather continue to park my money in companies that have proven to be able to generate superior returns which are currently at below average prices. Additionally, I have identified some initial concerns as follows:

1) Will Creative be able to bring the product to market as mentioned (mid-2018)?

2) Will the quality of the product be affected due to ramping up of production?

3) How will the quality of sound differ if Super X-Fi is used with cheap headphones vs expensive headphones.

And for that reason, I'm out. *shark tank moment*

I'd love to hear your thoughts, happy to learn from fellow investors.

Cheers.