Mechanical Technology: A Hidde – GuruFocus.com

Overview

Mechanical Technology Inc. (MKTY, Financial), which is quickly to be renamed Soluna Holdings, operates two companies: MTI Instruments and Soluna Computing. Both companies are worthwhile and rising at a quick charge whereas producing excessive returns on invested capital. The firm was unknown for a while till fund supervisor Michael Toporek (founding father of Brookstone Partners) took over as CEO, elevated profitability, kick-began progress and introduced it out of the darkness in 2018.

The firm is now listed on the Nasdaq with 12.7 million shares excellent and a market cap of $103 million. Toporek at the moment owns 38.2% of Mechanical Technology and has solely elevated his place within the firm since taking management.

MTI Instruments

MTI is engaged within the design, manufacturing and promoting of vibration measurement and system balancing options, precision linear displacement sensors, devices and system options and wafer inspection instruments. These merchandise are crucial to the manufacturing and inspection of airplanes, electrical car batteries, semiconductor wafers and a plethora of different merchandise.

Most of MTI’s income (42.9% as of 2020) is generated from the U.S. Air Force. This excessive buyer focus is barely regarding, however the Air Force has confirmed to be keen to proceed shopping for its merchandise. These merchandise primarily encompass moveable balancing methods and precision instrument merchandise, that are crucial to the inspection of plane and associated gear, so it could be troublesome for patrons to modify suppliers. Therefore, I consider MTI will have the ability to preserve the Air Force as a buyer within the coming years.

Since 2020, administration has indicated that MTI has seen important elevated curiosity for its PBS, diagnostic gear and semiconductor merchandise. The new curiosity has been from EV producers and semiconductor corporations. The administration workforce has famous they’re actively in communication with such corporations and count on the event of those new market alternatives to speed up progress.

MTI Instruments’ progress and profitability have been spectacular over the previous a number of years.

Source: Mechanical Technology

Revenue grew a wholesome 36%, whereas web revenue elevated 397%. This is quick progress, which I see persevering with sooner or later. Of course, I don’t count on web revenue to proceed climbing at such a watch-popping tempo within the coming years.

Based on what administration has been speaking to shareholders, income and profitability progress will proceed into the long run. I estimate MTI will develop at a compound annual charge of 15% over the following 5 years.

MTI appears to be an environment friendly firm with a big addressable market that operates profitably and can have the ability to develop each income and income over the approaching years. Though administration has said MTI won’t be a significant contributor to earnings sooner or later, it stays a high quality subsidiary. There can be a chance that administration chooses to spin-off MTI into its personal inventory or promote the enterprise outright to fund the crypto mining operations and its future progress. I don’t see this occurring quickly, however possibly sooner or later.

Soluna Computing

Soluna Computing is Mechanical Technology’s crypto mining operation.

On Aug. 12, the corporate introduced that its subsidiary, EcoChain, was buying Soluna Computing. Management additionally introduced the corporate shall be renamed “Soluna Holdings,” together with EcoChain being renamed “Soluna Computing”.

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Source: Mechanical Technology.

Following the acquisition announcement, administration gave a presentation laying out the brand new crypto mining operation and its goal targets for the approaching years.

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Source: Mechanical Technology.

EcoChain is heading in the right direction to supply not less than 50 megawatts by 12 months-finish 2021. Soluna Computing has a large pipeline of over 300 MW that shall be built-in into the mining operation over the following a number of years. As the MW are built-in, income and earnings will skyrocket.

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Source: Mechanical Technology.

This acquisition will place Soluna within the high three of mining corporations when it comes to MW produced, making it a significant participant within the crypto mining trade.

The CEO has communicated that the lengthy-time period aim is to supply low-price various vitality information facilities for all issues associated to blockchain and crypto mining.

Key benefits

Soluna Computing operates as one of many few 100% environmentally-pleasant crypto miners. As said within the firm’s presentation, it’s going to generate most of its MW energy by wind, together with using pure fuel when obligatory.

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Source: Mechanical Technology

This is a bonus over opponents as corporations and governments have expressed concern over the unfavorable results crypto miners are having on the surroundings. If Soluna can proceed to keep up its eco-pleasant picture, it’s going to seemingly change into the popular provider for a lot of prospects.

Although Soluna selected to enter the crypto mining area, it has important information middle infrastructure and advantageous energy prices that give it the power to pivot to many industries that require computing. I consider that is administration’s lengthy-time period intention.

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Source: Mechanical Technology.

A distinctive technique the corporate has been implementing is constructing information facilities used to buy extra renewable vitality. This is a brilliant technique that gives enhanced energy infrastructure and operational flexibility.

Most importantly, Soluna additionally holds one other intrinsic benefit over opponents: energy price. Compared to different miners, Soluna is the most effective at school.

Below are the facility prices of every firm damaged down:

  • Riot Blockchain (RIOT, Financial) – 2.5 cents to five cents relying on location.
  • Hut 8 (HUT, Financial) – 2.8 cents through $25 million paydown with provider.
  • Bitfarms (BITF, Financial) – 2.2 cents to 4 cents relying on location.
  • Marathon – 2.8 cents through fairness cope with Beowulf Energy.
  • Digihost (TSXV:DGHI, Financial) – 3.8 cents.
  • Soluna – 2.3 cents.

The future is profitability:

By the top of 2021, the corporate is on observe to hit its goal of fifty MW produced. In the presentation, administration laid out how a lot income and revenue Soluna would generate in a full 12 months assuming 50 MW produced and a bitcoin worth of $45,000:

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Source: Mechanical Technology.

I estimate that Soluna will have the ability to produce not less than $500,000 in Ebitda per MW produced. Management has indicated the corporate ought to have the ability to produce between $654,000 to $834,000 per MW in contributing margin (their model of gross margin). Soluna spends a negligible quantity on analysis and improvement bills, so I estimate $1.5 million to $3 million shall be spent on promoting, common and administrative bills yearly. Given what we all know, it appears that evidently many of the contributing margin will lead to Ebitda.

What can we estimate earnings energy to be over the following three years? As said, administration expects the corporate will attain not less than 50 MW by 12 months-finish. By the top of 2022, administration estimates it’s going to attain 250 MW. Considering the pipeline and future earnings energy, I estimate the corporate will attain not less than 350 MW by 12 months-finish 2023. Although Soluna has proven it will possibly produce nearer to $800,000 in Ebitda per MW, I shall be very conservative and use $500,000 per MW within the estimates beneath:

($ in thousands and thousands)

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Source: Mechanical Technology.

In a full 12 months of fifty MW, Soluna will produce not less than $25 million in Ebitda. A full 12 months of 250 MW ought to produce not less than $125 million. This is a large quantity of progress in just some years, however it is vitally attainable. Management has said they’ve “set the groundwork to attain our goal targets” utilizing varied strategies to extend money equivalents with out heavy dilution, together with a current most popular share issuance.

Clearly there’s huge upside potential as earnings and income progress explodes within the coming years. However, does administration have the talent and capital self-discipline to hold out the plan?

Quality administration

There are many skilled board members and executives at Mechanical Technology, however I wish to take a detailed take a look at Toporek.

Below are some excerpts from his CEO letter:

  • “I wish to deliver a new paradigm of elevated transparency to the Company.”
  • “Our intention is to talk with shareholders frequently on our targets and the Company’s progress in assembly these targets.”
  • As important shareholders, administration’s aim is to earn robust returns on buyers capital.”
  • “We additionally set the groundwork to attain our goal aim for EcoChain for 2021.”
  • Toporek said that they need to beThe AWS for blockchain.”

As said earlier, Toporek owns 38% of the corporate, so any dilution or inventory worth decline would have an effect on him essentially the most. As of 2020, Toporek takes a wage of $25,000, together with choice grants. This is undoubtedly low and sends a powerful message to shareholders that he’s not milking the corporate for his personal revenue. It additionally tells me he thinks the lengthy-time period appreciation from his shares shall be a lot greater than any wage or compensation package deal they might supply him.

Finally, Toporek has made good on his phrase. Since 2016, he has used capital self-discipline to show the corporate in direction of profitability and create a helpful crypto mining subsidiary. His capital allocation, transparency and communication are really unmatched within the trade.

The remainder of the administration teamshares his views on capital self-discipline and sustaining a excessive return on invested capital for all ventures. On nearly each shareholder name, the time period ROIC is constantly utilized by the chief working officer, chief monetary officer and CEO. It may be very refreshing to see managers which are centered on being high quality capital allocators.

Risks

I see just a few dangers that might gradual the corporate’s progress or earnings energy sooner or later.

  • Brookstone Partners might make the most of the corporate attributable to its majority fairness stake. Although that is within the realm of chance, this can be very unlikely. If administration accomplishes their targets, the corporate will change into very helpful, so Brookstone would revenue greater than anybody. I consider there’s a robust alignment of curiosity between shareholders and administration that may stop such an occasion from happening.
  • Mechanical Technology is linked to the cryptocurrency markets, together with the value of bitcoin. This connection can deliver extra volatility to the inventory relying on the value motion of bitcoin and different cryptocurrencies. Soluna isn’t straight linked to the value of bitcoin when it comes to funding income or losses as a result of they convert all their bitcoin to {dollars} every day, subsequently they don’t maintain any crypto on their stability sheet (in contrast to Riot Blockchain and different miners). In the previous, the inventory worth has not been significantly affected by fluctuations in bitcoin costs, thus this danger is probably going alleviated.
  • A crypto market collapse. This is an especially low chance, however within the occasion of a crypto market collapse attributable to sure regulation or authorities intervention, Mechanical Technology’s inventory would seemingly take an preliminary hit. Management has addressed this subject with the conclusion that so long as the corporate produces energy, they will flip to any trade that’s concerned with computing that requires information middle area. So lengthy as they maintain producing energy at a low worth, this danger is minimized and they’ll at all times have a pivot choice.

Valuation

Thanks to the knowledge administration offered concerning their crypto mining operations and MTI enterprise, an inexpensive estimate of worth may be achieved. My valuation shall be based mostly on what I consider the corporate can do within the close to future.

Mechanical Technology at the moment has $12 million in money and just lately accomplished a most popular inventory issuance, which offered a further $18 million. Overall, I estimate the corporate’s money place to be round $30 million at the moment. I consider most, if not all, these funds will go in direction of upgrading to new gear for its crypto operations. These purchases are essential to the expansion of Soluna and can profit the corporate in the long run.

Because the corporate has not but began to include the total Soluna pipeline, I’ll base my valuation off what Mechanical Technology will do in a full 12 months, assuming Soluna Holdings will conservatively produce not less than 50 MW:

  • Revenue – $65 million
  • Net revenue – $26 million
  • Less: Maintenance capital expenditure of $5 million.
  • Free money – $21 million
  • Earnings per share – $2.05
  • Price-earnings ratio – 15
  • Estimated inventory worth – $30.70
  • Upside to present worth – 377%

Not together with the longer term earnings from the rise in MW all through 2022-23 and assuming Soluna will produce not less than 50 MW in a full 12 months going ahead, the inventory is considerably undervalued. Additionally, contemplating that MW produced shall be 5 to 6 occasions greater in just a few years as the corporate absolutely incorporates Soluna’s pipeline, earnings will develop exponentially, giving Mechanical Technology the power to be a large multi-bagger inside 5 years.

Catalysts

There are a number of potential occasions or catalysts that might have a optimistic impact on the inventory:

  • Quarterly earnings: As the crypto mining subsidiary grows, the income and earnings progress will begin to present up within the quarterly studies. This is the most important catalyst that can most certainly propel the inventory greater within the coming years.
  • New identify and ticker: The firm will change its identify and ticker after the Soluna acquisition closes in late October. I consider altering the identify from Mechanical Technologyto Soluna Holdings might drive extra protection from buyers and funds that might doubtlessly have an effect on the inventory worth.
  • Mergers and acquisitions: I consider administration is open to merging or buying a smaller crypto miner or associated corporations. I don’t see this technique as a key progress driver for the long run, however it’s a chance. Any such motion might show to be a catalyst for the inventory’s progress.

Conclusion

Mechanical Technologies is an interesting funding for a lot of causes.

The firm has robust environmental and energy price benefits over opponents that can shield its margins and progress sooner or later. Mechanical Technology’s earnings and income are additionally set to skyrocket because it integrates its newly acquired pipeline of energy over the following three years.

The CEO can be aligned with shareholders, encourages transparency and communication and units attainable targets whereas sustaining a protracted-time period imaginative and prescient for the corporate.

If Soluna solely produced 50 MW on a yearly foundation, which I consider it’s going to, given the earnings progress that may happen, the corporate is promoting for a big low cost.

Overall, I consider Mechanical Technologies is a high quality firm with rising and worthwhile subsidiaries in addition to a stellar administration workforce who I consider will execute their plans to the fullest. If the corporate meets its targets, it might certainly change into the Amazon Web Services for blockchain.

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About the Author: Daniel