Portfolio manager summary
- Pyrogenesis (PYR) stock has rallied over 1300% (since Jan 2020) on the back of a series of aspirational press releases and inclusion in ARK’s PRNT 3D printing ETF
- Our research reveals that PYR has obfuscated disclosure about related parties, has significant conflicts of interest, recognized revenue from a company it partially owned and financed, and has repeatedly overpromised and underdelivered
- Since 2014, PYR boasted about hundreds of millions of dollars in potential revenue from various businesses like 3D printing and waste to energy systems, among other things – in reality, PYR generated $7MM in average annual revenue while burning a cumulative ~$23MM in FCF
- PYR’s 3D printing segment gained little traction despite half a decade of press releases; its initial $12.5MM contract produced limited revenue and recent Aubert contract win generated no sales; PYR seems poorly positioned to compete against 3D heavyweights DDD and SSYS
- “Family Matters” 1: PYR touted Drosrite International (DI) as a “client”, and waited over a year from the initial release to disclose in filings that DI was actually owned/controlled by the CEO’s son (we estimate that DI represented between 30% and 56% of 2020 revenue)
- We question the substance of DI – it failed to reach PYR’s revenue expectations and our diligence found that while DI lists a Mahwah, New Jersey Regus office as its headquarters, DI DOES NOT have a lease for private space there
- We believe that management formed DI to skirt Saudi/Canada trade restrictions in place at the time
- In 2020, PYR invested a sum in HPQ (another listed Canadian small cap) and proceeded to book an identical amount in revenue from HPQ! An unlikely coincidence we’d characterize as roundtripping of financing dollars into revenue (we estimate HPQ represented 23% of 2020 revenue)
- 2020 reported revenues could be over 100% overstated as we believe that a portion, if not all, of the revenues from DI & HPQ are conflicted and unsustainable as a result of the above relationships
- “Family Matters” 2: PYR’s CEO was handpicked by its allegedly “independent” board to negotiate on behalf of PYR with a counterparty run by the CEO’s father (for whom the CEO himself held a power of attorney). This ended with a settlement of $3.7MM in favor of the father. In our view, this reflects a clear conflict of interest and is what led to the concurrent resignation of the audit committee chair
- We believe the pattern of exaggeration and unusual dealings makes PYR’s claims about its plasma torch business flimsy – our research corroborates the view that this technology will not be a revenue panacea
- Amidst all of this, PYR has significant internal control issues, something we view as alarming given PYR does business with related entities perceived to be unrelated; in our view, this makes the financials hard to believe
- We believe that 40% to 80% of PYR’s revenues are suspect (or non-arm’s length) and we assign a $0.74 price target to the stock, down ~88% from current levels
PYR: Press releasing a stock to a $1B+ market cap
(all amounts in CAD unless otherwise noted)
Pyrogenesis (PYR) is a Montreal-based company that offers various metals related product lines including aluminum waste recovery systems, plasma torch and plasma waste destruction systems, metal powders for additive manufacturing, and a process to produce high quality silicon from quartz, among others. We believe that PYR has repeatedly failed to bring any of these businesses to scale, as evidenced by its revenue development.
Since the beginning of 2020, after peaking at a $1.9B market cap, PYR’s stock is still up over 1300% on a flurry of press releases and inclusion in ARK’s PRNT 3D printing ETF (even though PYR is hardly a 3D printing company, in our view). In this note, we address why 1) this move is unjustified and 2) our views that PYR’s 3D printing effort is unlikely to succeed. We wonder whether ARK is aware that PYR’s efforts into 3D printing have yielded minimal results – a $12.5MM contract win never full materialized and the current named 3D printing client has yet to buy anything from PYR. Not to mention PYR’s main focus is NOT on 3D printing.
Unlike other names we’ve written on, PYR has real products and some real customers. That said, our quarrel with PYR lies in its disclosure issues, interactions with family members, conflicts of interest, potentially financing its own revenues, what we believe to be exaggerating potential business, and internal control issues. We believe the relationships and transactions found in PYR’s history should cause investors to question the veracity and potential of the company and its fundamentals.
As a teaser – PYR waited over a year before disclosing in a filing that its “client” (as per press releases), Drosrite International, was actually an accounting subsidiary of the company controlled by CEO Peter Pascali’s son. We believe that PYR aided in the formation of this entity to skirt trade restrictions in place at the time.
Investors were also excited about PYR’s involvement with HPQ Silicon, a Canadian company “that focuses on becoming a producer of nano silicon materials”. What investors missed was that PYR invested $2.4MM in HPQ, and then recognized $2.4MM in revenue from HPQ for the sale of intellectual property – what we’d term a round trip between equity financing and revenue.
These examples, plus a 4x increase in DSO, other exaggerations and unusual transactions call into question the company’s credibility and reported numbers. We assign a target price of $0.74 to PYR, down ~88% from current levels and to where it was around May 2020.
Not quite hundreds of millions in revenue
To give our readers an idea of what PYR is about, we highlight a series of claims and show you what actually happened:
- February 2014 – “PyroGenesis is confident that the results from this fourth contract, expected within the next 3 months, will lead to a full scale industrial plasma installation worth in excess of $10 million dollars”
- October 2014 – “Once this process is fully commercialized, potential revenues are in the hundreds of millions of dollars.”
- March 2015 – “PyroGenesis Announces Signing of an Exclusive Marketing License Agreement for $500,000 Plus Commitment for Six (6) 50 TPD Waste Treatment Systems Totaling Over $120 million”
- September 2019 – “We fully expect that this will be the first of many systems ordered by the Client who will benefit, upon reaching a certain milestone, from a limited territorial exclusivity. This contract, together with signed backlog, recently announced contract award, and the imminent US Navy contract for $13.5M, portends to a backlog of over $40M, which must be addressed within the next 18 months, come September. This does not include the $35M of backlog in subsequent years. It is a very exciting time for the Company.”
What we have here are claims that imply tens of millions, if not hundreds of millions, in revenue from 2014 onward, and a 2019 claim that would imply revenue in excess of $40MM through 2020.
Here’s what PYR’s revenues ACTUALLY looked like – not tens of millions, let alone hundreds of millions in revenues post 2014/2015, and less than half of the alleged $40MM backlog is represented in 2020 revenue. Not to mention that a meaningful amount came from DI, a newly-disclosed accounting subsidiary of the company and HPQ, which is approximately 12% owned by PYR. Note here that 80% of 2020’s revenue was, in our view, not arm’s length, as we discuss later.
Source: Company filings
We believe that this shows that the company has engaged in serially overpromising revenue opportunities that just didn’t seem to materialize. In our view, this is either indicative of poor execution, simple overoptimism, or willful exaggeration designed to move the stock price.
We don’t believe PYR can compete in 3D printing
Despite a flurry of press releases about 3D printing capabilities, including PYR’s inexplicable inclusion into ARK’s PRNT ETF, we don’t believe PYR will gain any traction in the space.
In July of 2014, PYR announced that it had signed a $12.5MM contract “the Sale of Powder Production Systems for 3D Printing with International Large Scale Manufacturer”, sharing that its backlog exceeded $20MM. In the release, PYR announced that they would supply the customer with its “unique metal powder production platforms” over an 18-month period for $12.5MM. In October 2015, or 15 months later, CEO Pascali indicated that they expected “the downpayment for the next nine (9) systems in Q4 2015/Q1 2016 with all nine (9) systems expected to be delivered by Q4 2016.”
The filings tell a different story – the FY15 filings note that PYR and the customer had unresolved differences:
Source: FY15 MD&A
In fact, in 2016, PYR completely abandoned the project:
Source: 2Q16 MD&A
So, no $12.5MM 3D printing revenues materialized despite the company’s guidance.
It’s also useful to note that while PYR signed a “mutually exclusive partnership agreement” with Aubert & Duval, a “subsidiary of the ERAMET Group” to supply powder to the “European Union Additive Manufacturing/3D Printing Market” in 2019, this has produced NO REVENUE TO DATE:
Source: 2020 AIF
From a fundamental standpoint, PYR seems to be poorly positioned. A Google Patents search through Pyrogenesis’s patents for “powder” or “plasma atomization”, PYR’s methodology, reveals fewer than 20 patents in the US & Canada – but this is not the only metric by which PYR lags 3D heavyweights like DDD and SSYS:
DDD and SSYS each spend over 100 times what PYR spends on R&D, have over 25 times the staff, and much more intellectual property. PYR, with just a powder offering, has to compete with DDD and SSYS’s turnkey printer and materials offerings. Given the lack of historical traction and limited resources versus major competitors, we just don’t think PYR can compete.
The pattern continues with Drosrite International
On April 29, 2019, PYR announced “that a potential contract (“Contract”) of over $20M in first year revenues, together with significant subsequent years revenues, is imminent.” The company followed this press release with another in June 2019 that it was, in fact, awarded the contract, but that the “client and the business line cannot be disclosed at this time” until the contract was signed:
Source: Press release
On October 9, 2019, PYR revealed that the contract was with a “US based private company duly constituted and existing under the laws of the State of Delaware”, Drosrite International (DI), that was licensed by PYR to “manufacture, market, sell and distribute DROSRITE™ systems and technology to the Kingdom of Saudi Arabia, and certain other countries in the Middle East, on an exclusive basis”.
PYR was due some pretty impressive revenue from this deal – $20MM within 12 months, with $6.4MM coming within 2-4 weeks of the announcement:
Source: Press release
This was followed by:
- A February 2020 press release saying payment terms with DI were adjusted
- A March 2020 press release announcing that the receipt of $1.44MM under the DI contract, and that “DI will pay PyroGenesis approximately, based on current exchange rates, $25M over the next 12 months”
- An April 2020 press release announcing another $1.4MM payment
- A July 2020 release claiming that payments “totaling over $7.5MM have been received to date under the exclusive contract with Drosrite International LLC (“DI”)” and that another $2.5MM was expected in the “next few weeks”, bringing the grand total of alleged payments from DI to $10MM
In our view, none of this is credible, or true, for that matter – the first claim, from October 2019, that DI would pay $20MM to PYR within 12 months did not materialize – PYR’s Drosrite segment did approximately $10MM in revenue in 2020, or 50% less than what PYR guided from DI alone in October 2019.
It is our view that PYR is also nowhere close to receiving $25MM from DI by March 2021, as guided in March 2020. We believe this is yet another data point in the pattern of PYR overpromising and underdelivering.
We believe Drosrite International’s relationship to PYR was, for a time, likely purposefully obfuscated
Included in the October 2019 PYR release was a link to DI’s press release, where we learn that DI’s CEO is named Alex Pascali:
Source: Press release
Could this be the same Alex Pascali that was a PYR employee?
It took over a year, about six press releases, until November 3 2020, and an amendment to PYR’s Annual Information Form (AIF), before PYR finally disclosed to investors that DI, was, in fact, a subsidiary for accounting purposes and controlled by PYR CEO Peter Pascali’s son, Alex (note to our readers: these are not our words – they are written by the company – another reason to read the fine print):
From the original October 2019 contract signing through the November 2020 disclosure that DI was “on an accounting basis, a subsidiary of the Company, and not a client”, PYR press released twice explicitly calling DI a client:
Source: Press release
Source: Press release
PYR also issued another four subsequent releases where it provided updates on the DI payments without disclosing the fact that DI was controlled by Alex Pascali. Was the investing public to assume and know that Alex was Peter’s son? As you can see below, the original 2019 AIF made no mention of Alex Pascali:
Source: 2019 AIF
We believe that PYR management actively sought to hide this from investors, which, in the grand scheme of what we talk about in this report, is another indictment of management’s credibility. Aside from what we believe to be a serious misrepresentation that lasted over a year, we believe there are major issues with this relationship, specifically that its delayed disclosure speaks to internal control and compliance issues at the company
The first is with the economic substance of DI – in the 2020 filing, we learn that PYR does not have any subsidiaries. This means that while DI is a subsidiary for accounting purposes (primarily because it is controlled by a relative of PYR’s CEO who is an employee of PYR and is, quite literally, a “related” party), it is, from a corporate structure and legal standpoint, an independent entity.
Generally, one would expect a legally separate entity that holds itself out as a business would have some economic substance, but our view is that it doesn’t. DI is required to pay PYR amounts “equal to the payments received by Drosrite International under its Dross Processing Service Agreement with Radian Oil & Gas”:
This would suggest that DI has to move all of its Radian client revenues up to PYR, making it a pass-through vehicle for the benefit of PYR. DI, under its agreement with its client Radian, has to “manufacture and deliver” DROSRITE systems, which should entail some level of expenses.
This, to us, appears to cause a problem – DI received payments from Radian but needs to transfer those payments to PYR, all while incurring costs to “manufacture and deliver” systems, which would imply that DI is all costs, making it lossmaking. How does DI finance itself since it is allegedly independent of PYR?
We also have concerns about the general substance of DI. The address listed on DI’s website directs users to Regus office space:
Source: DI website
We tried calling DI multiple times, but were never able to reach anyone. More interestingly, we reached out to Regus to confirm whether DI is a tenant.
The answer shocked us – Regus told us that while DI has a membership to use the lounge in the Mahwah Regus space, and can rent offices on a day-to-day basis, it DOES NOT have a lease for private space at the Mahwah site.
We struggle with the substance of a business that 1) does not answer its phone and 2) does not have even semi-permanent space. It’s almost like DI doesn’t want to be found.
Inquiries to PYR about DI’s manufacturing were not answered.
We believe DI was formed to skirt trade restrictions
This then begs the question, why does DI exist in the first place? Why couldn’t PYR simply sell its products directly to Radian Oil & Gas, a Saudi Arabia-based company? It is our view that DI was formed to skirt trade restrictions between Canada and Saudi Arabia in place at the time.
According to Delaware corporate filings, DI was formed on December 18, 2018:
This date is significant – in August 2018, Saudi Arabia suspended new trade with Canada after Canada’s foreign ministry “urged Riyadh to release arrested civil rights activists”:
Shortly thereafter, Export Development Canada, Canada’s export financing agency, suspended Saudi-related activity. Practically speaking, this meant that PYR could not have started trading directly with Radian, which is Saudi-based.
So, through DI, a US-based, legally independent vehicle, PYR could perhaps skirt the trade restriction. The reality is that while DI is legally a separate entity from PYR, and thus not legally owned by a Canadian parent, it is still controlled by Alex Pascali, as an employee of PYR, as eventually disclosed by PYR. We would characterize this as the creation of a US entity to adhere to the letter of the law, but certainly not the spirit of the law given the control by a PYR employee who is the child of PYR’s CEO.
It took ten months, until July 2019, for Export Development Canada to change its position on Saudi Arabia from “off cover” to “open on restricted basis”, but by then PYR had already pot committed itself by making both the April and June 2019 announcements we mentioned above, and kept the DI narrative going.
We believe that PYR actively sought to skirt export restrictions – PYR also waited over a year to formally disclose to investors the nature of its relationship with DI. Furthermore, we believe it shows investors to what lengths PYR will go to create the illusion of growth.
In our next sections, we show another significant conflict of interest (this time with an entity from the Offshore Leaks database), revenues that aren’t quite arm’s length (in our view), and internal control issues that should cause great concern to investors.
We believe PUREVAP revenues are the result of providing financing to HPQ
PYR has made much about its PUREVAP technology, a family of silicon processes which it is exclusively developing for HPQ Silicon Resources. HPQ’s origins are as a mining company whose “activities are centred on becoming vertically integrated using it’s [sic] proprietary PUREVAPTM “Quartz Reduction Reactors” (QRR) (patent pending) process”.
Despite a $260MM market cap, HPQ has never generated any revenues (through 3Q20) and has a $28MM retained deficit. HPQ has just two employees on LinkedIn! From 2011 until September 2020, HPQ has burned $11.1MM in cash flow from operations and relied on cumulative financing of $23.4MM to keep going. PYR, on the other hand, reported $4.1MM in PUREVAP sales to HPQ in 2020, of which $3.6MM was the sale of intellectual properties – more on this shortly.
Source: HPQ filings
PYR’s relationship with HPQ began in 2016, when it sold IP to HPQ – as part of the purchase price, $300k was paid through the issuance of 1,363,636 shares of HPQ to PYR, making PYR roughly a 1% owner in HPQ at the time. The terms of this 2016 contract are that PYR will received a royalty equal to 10% of HPQ’s net sales with minimum payments – PYR waived the 2018 and 2019 minimum payments, and collected $150k in 2020 in what appear to be minimum payments.
In August 2018, PYR increased its ownership in HPQ to 9.6% by acquiring 16MM shares of HPQ at $0.12 for a total investment of $1.95MM in HPQ. Note that over the period ending December 2020 where PYR took its ownership of HPQ to 11.55%, it has never filed an early warning report as required by Canadian regulators.
PYR also granted HPQ a $1.5MM credit line to “cover unexpected project cost over runs that could potentially occur after then end of planned test period in 2019 until December 31, 2020.” Note that HPQ disclosed the credit line from PYR – but PYR has not mentioned in its filings that it extended a line of credit to HPQ, yet another disclosure issue at PYR in our view.
Now here is where it gets strange – on September 1, 2020, PYR announced that it had purchased 4MM units out of a 4.5MM unit HPQ private placement for a total investment in HPQ of $2.4MM. In August, PYR signed a “development agreement” with a subsidiary of HPQ, HPQ Nano Silicon Powders where PYR would receive royalties at 10% of the subsidiary’s net sales:
Source: 2020 AIF
In the 2020 annual filing, we learn that PYR sold IP to HPQ Nano Silicon Powders in 2020, for….you guessed it…$2.4MM:
Source: 2020 AIF
What a coincidence – PYR invested $2.4MM in HPQ, and also booked $2.4MM in revenue from HPQ! That looks an awful lot like manufacturing revenues from providing financing to HPQ.
The other curious aspect of this relationship is PYR’s booking of royalties – HPQ, quite literally, has no revenue, even through the first nine months of 2020. Despite this, PYR has booked a royalty receivable from HPQ and its subsidiary totaling $1.6MM:
Source: 2020 AIF
How could PYR possibly recognize a royalty receivable (and book it into revenue) with HPQ not generating any revenue? A 10% royalty on zero should be zero. There is no revenue, and no receivable.
What’s even stranger is that HPQ’s 20-year estimate of royalties payable to PYR are just $815k, almost 50% less than what PYR carries the receivable at:
Source: HPQ 3Q20 financials
So unless HPQ had a dramatic upswing in revenue in 4Q20, we cannot make sense of the discrepancy in royalties between PYR and HPQ.
Phoenix, an offshore conflict of interest
There have been many mentions of in PYR’s filings of a settlement between Phoenix, a company controlled by Peter Photis Pascali, father of PYR’s CEO Photis Peter Pascali. In prior filings, we learn that PYR had issued shares to settle amounts owed to Phoenix, a “related party creditor” and that effective September 2018, “Peter Photis Pascali and Phoenix Haute Technology Inc are no longer related to the Company.”
Whew. Or so you’d think. What this statement doesn’t capture is the drama that led to that conclusion and the conflict of interest it entailed.
The Revised 2019 AIF we mentioned earlier – you know, the one that FINALLY disclosed to investors the relationship between PYR and DI, also provides disclosure regarding the Phoenix settlement that until then had been kept from investors. Essentially, Phoenix disagreed with PYR on what it was owed related to a 2011 sale of intellectual property to PYR. The Revised 2019 AIF reveals the following:
- Following Phoenix’s claim about what it was owed, “One member of the Board expressed the view that the claim of Phoenix was not a valid claim and the board process lacked independence”.
- The next day, April 27, 2018, that board member RESIGNED from the board. Our research would suggest that this was Angelos Vlasopoulous, who was Chair of the Audit Committee. This would leave four directors, one of which was PYR’s CEO, the son of the controlling shareholder of Phoenix
- The remaining three directors “agreed that P. Peter Pascali [PYR’s CEO] was in the best position to negotiate a settlement with Phoenix”
We have to question the independence of a board who appoints the son of an opposing party to negotiate with that party in the best interest of the PYR. This is an even greater issue, in our minds, because Peter Pascali, the CEO of PYR and son of the controlling shareholder of Phoenix, had a power of attorney to take actions on his father’s behalf, and Phoenix was considered “ ‘under common control’ of the Father and P. Peter Pascali from an accounting perspective when the settlement agreement was entered into”:
Source: 2019 Revised AIF
Peter Pascali was not only CEO of PYR, but was also considered a control person of Phoenix – despite this, he was sent to negotiate on behalf of PYR against an entity that was considered under his “common control”. This, in our view, is a massive conflict of interest that should cause investors great concern as it exposes the company to situations where its interests may be deprioritized.
Phoenix itself deserves a look – the full name of the entity is Phoenix Haute Technology Inc, and, to our great surprise, turned up in the Offshore Leaks database as a British Virgin Islands corporation:
Source: Offshore Leaks
The Offshore Leaks database is a report disclosing the details of over 100,000 offshore companies and their beneficial owners – while there are many legitimate uses of offshore entities, and Phoenix may be such a use case, offshore entities have been used to mask ownership and avoid taxes, according to ICIJ.
Let us be clear – we are not suggesting the Pascalis are engaging in any untoward behavior using this entity, but its offshore domicile is a cause for concern, in our view, given the DI dealings and Phoenix conflict of interest.
And speaking of conflicts of interest, we couldn’t end this section without mentioning that PYR leases its corporate headquarters from….you guessed it…a related party of the CEO, the Pascali Trust, which owns the building:
Source: 2019 Revised AIF
We believe that PYR is misrepresenting its relationship with the US Navy
PYR dedicates an entire slide of its investor deck to its “relationship” with the US Navy, claiming it was “engaged” by the Navy:
Source: PYR investor deck
PYR also press released the same $11.5MM deal announcement:
Source: Press release
But searching through the Department of Defense’s contracts database, which posts contracts in excess of $7.5MM reveals NOTHING about PYR:
Source: Department of Defense
This leads us to one of two conclusions:
- The CAD $11.5MM contract is actually not guaranteed at that amount or is in reality less than USD $7.5MM
- PYR does not have a direct contract with the Department of Defense
We cannot prove or refute the first one, but we do have a view on the second one. PYR had previously announced Navy deals, and in a 2011 announcement, actually disclosed that the Navy design, construction, and testing was “done on behalf of Newport News Shipbuilding, a division of Huntington Ingalls Industries (NYSE: HII)”, suggesting that PYR’s contract was, in fact, not with the Navy, but with Newport News Shipbuilding:
Source: PYR press release
In fact, in 1Q15 MD&A, PYR confirms the delivery of a system to Newport News Shipbuilding:
Source: 1Q15 MD&A
And in a 2019 press release, PYR announced that the US Navy was “moving forward with a two-ship buy” and that the Navy had “reached an agreement with the shipbuilder, Huntington Ingalls Industries (HII) [parent of Newport News Shipbuilding]”.
It’s pretty clear to us that the relationship is between the Navy and Newport News Shipbuilding, and not between PYR and the Navy, yet PYR’s management neglected to include Newport News Shipbuilding in the investor deck and the September 2020 press release announcing the $11.5MM contract.
It’s almost as if the company wants investors to think it has a direct relationship with the US Navy, a much more impressive and newsworthy organization than a shipbuilder. It is our belief that PYR’s relationship is not directly with the Navy, and we believe that PYR chose to exaggerate the nature of the relationship in order to foment investor interest.
Until now, we’ve shared our view that PYR has engaged in several transactions that appear conflicted, mispresent the company, or seem to be obfuscating the business:
- It took over a year for PYR to disclose that DI was run by CEO Peter Pascali’s son; we believe that DI was formed to skirt trade restrictions in effect at the time
- We do not believe the full ~$10MM of Drosrite and $4.2MM of HPQ revenues are truly arm’s length given the family relationship in DI and ownership stake in HPQ – these collectively account for 80% of 2020 revenue
- PYR appears to have manufactured $2.4MM of 2020 revenue, or approximately 13% of 2020 revenue, by investing the same amount into HPQ (of which PYR owned > 10%)
- Peter Pascali’s negotiations against an entity he was deemed to be under common control is an apparently massive conflict of interest
- We believe that PYR is misrepresenting that it has a contract with the US Navy – its own prior disclosures show that products were designed on behalf of a shipbuilder
- PYR failed to disclose its over-10% ownership in HPQ (on a partially diluted basis) as required by Canadian filing rules
We believe that these are events that seriously undermine management’s credibility and suggest a pattern of exaggeration and self-dealing. We believe that these issues could portend a poor future for investors in PYR.
We believe the plasma torch opportunity is much smaller than investors think
We believe that in light of the unusual transactions and pattern of apparent exaggeration that investors should look at PYR’s plasma torch announcements with a jaundiced eye. In 2020, PYR made three announcements regarding inroads to proving our selling plasma torches for iron ore pelletization:
- April 2020 – successfully completed the first phase of a modeling contract with the goal of replacing all existing fossil fuel burners at a “multi-billion-dollar international producer of iron ore pellets” implying a revenue opportunity nearing $1.5B to replace 500 burners
- June 2020 – a second similar contract with another “multi-billion-dollar producer of iron ore pellets” with over 100 burners
- July 2020 – a Client C has “entered into active equipment purchase discussions with the Company”
- September 2020 – announced receipt of a “Draft Contract” related to the April 2020 release which appears to have resulted in the sale of ONE torch at $1.8MM, almost 50% below the “up to $3M” per torch revenue outlined in the April release
Doesn’t this look awfully like the 2014/2015 announcements promoting hundreds of millions of dollars of revenue? Only in this case, it’s billions. We’re skeptical here, not just because of the history of bold claims PYR has made, but also because of our research into plasma torch technology.
Simply speaking, plasma torches can be used to generate the heat required in the steelmaking process through electricity rather than fossil fuels. This, in theory, makes a lot of sense and would be an environmentally friendly solution.
Feedback from an industry expert (obtained on condition of anonymity through an expert network) corroborates the environmental argument, but suggests that plasma torch technology still has a long way to go:
- He stated that no company he has seen could conceivably make 100 or 200 torches in a two-year window, given the current manufacturing infrastructure. This is critical in light of PYR’s “over 10 plants each requiring approx. 50 plasma torches” commentary and is further supported by the fact that PYR’s leased manufacturing facilities total just 6739 square meters, or 72,537 square feet
- Power supplies for plasma torches are hard to get – it takes six months to get one or two power supplies for the torch due to the difficulty of obtaining the rare earth magnets needed
- His clients don’t believe fossil fuels will be replaced for another 20 years – it would be a gargantuan effort over the next three or four years to build out the electricity infrastructure necessary to support the power requirements to replace furnace burners with plasma torches
This feedback supports the idea that plasma torches, while an interesting and useful technology, are unlikely to be gamechanging in the near term. In our view, PYR has, consistent with its prior communications, exaggerated the near term opportunity for plasma torches.
PYR appears to lack substantial internal controls
The above sections, in our view, show significant issues with PYR’s credibility. Management appears to have serially promised things it didn’t deliver, and engaged in a number of transactions that we view to be conflicted or downright unethical. These shortcomings matter all the more since management identified “material weaknesses in internal control over financial reporting” at the end of 2020.
We highlight several of the deficiencies here:
- Deficiencies relating to the board and audit committee’s oversight and governance of external financial reporting and related party transactions
- A lack of senior financial reporting resources
- “[C]ontrol activities related to documentation and consistency in accounting for intangible assets internally generated and revenue recognition were deficient”
- PYR “did not design and maintain appropriate segregation of duties and controls over the effective preparation, review and approval, and associated documentation of journal entries and did not have adequate review procedures for the recording of manual entries”
- PYR “did not implement and maintain effective controls surrounding certain complex spreadsheets, including addressing all identified risks associated with manual data entry, completeness of data entry, and the accuracy of mathematical formulas”
- PYR “did not maintain effective user access controls to adequately restrict user access to financial applications and related data commensurate with job responsibilities”
The practical implications of these deficiencies, in our view, is that investors cannot rely on PYR’s reporting, because there are no processes in place to ensure that that this reporting is, in fact, correct. PYR, in fact, appears to agree with this conclusion:
“These control deficiencies create a reasonable possibility that a material misstatement to the consolidated financial statements will not be prevented or detected on a timely basis. Therefore, the Company’s principal executive officer and principal financial officer concluded that the design and operation of the Company’s disclosure controls and procedures are not effective as of December 31, 2020.”
Source: 2020 40-F
We believe that the combination of what we view as misrepresentations, exaggerations, conflicted parties, and these internal control weaknesses mean that PYR is a risky investment that should be avoided. We believe that investors should not believe PYR’s reporting or multiple press releases.
For additional detail, here are the internal control weaknesses as outlined in the 2020 40-F:
Source: 2020 40-F
Valuation and conclusion
The Mariner Instant Replay:
- PYR has promised hundreds of millions of dollars in revenues and failed to deliver on those promises
- We don’t believe PYR can be competitive in 3D printing
- DI has missed the goals set by management in multiple press releases
- It appears that PYR delayed disclosure of the control and related party dynamics of both DI and Phoenix
- We believe DI was formed to skirt Canadian/Saudi trade restrictions, which we believe presents a credibility issue for management
- PYR appears to have financed a portion of its own revenues from HPQ, and does not appear to have filed its ownership in HPQ with regulators
- We believe that PYR demonstrated a serious lack of independence in having its CEO negotiate against an entity for which he had power of attorney
- PYR does not appear to have a direct contract with the Navy
- We believe PYR has overstated the plasma torch opportunity
- PYR appears to lack substantial internal controls
The overall summary here is that it appears that PYR engaged in a number of transactions that, when combined with poor internal controls, could be misrepresented in the financial statements. In addition to this, we believe that PYR’s comments about its business wins are either willful exaggerations or that management are serial optimists unable to appropriately manage expectations. In our view, either conclusion calls into question management’s credibility with its current claims and the real potential of the business going forward.
The practical implication, in our view, is twofold:
- We are unable to assess whether the reported Drosrite revenue of $9.9MM in 2020 was accounted for properly given the unusual relationship with DI (an accounting subsidiary but not a corporate subsidiary)
- We believe PYR’s ownership in HPQ, as well as the fact that it appears to have financed a portion of its PUREVAP revenues by investing in HPQ, makes it hard to believe the $4.2MM in PUREVAP revenues in 2020
This skepticism is supported by the over 4x increase in DSO, suggesting PYR is booking revenue without collecting the cash:
Source: PYR filings
Which brings us to valuation – PYR’s EV is 51.5x 2020 sales, an eye-popping valuation for an industrial business. We believe that Drosrite revenues in excess of the $5.5MM received by DI from Radian are suspect, as are the $2.4MM in revenues recognized from HPQ (equivalent to the $2.4MM investment PYR made in HPQ). This reduces revenue to our “credible” estimate of $10.9MM, down 39% from what was reported in 2020.
Applying a 100% premium to the highest EV/sales multiple in the comp set, 4.9x, which is DDD’s valuation, we arrive at a price target of $0.74, down ~88% from current levels and near where the stock was in May of 2020:
NOTE: PYR did not respond to our questions, which we submitted through their IR form.