RDW - Redwire: Sell The 50% Pop

Summary

• Redwire shares soared on Wednesday despite little apparent reason for doing so.
• The company has a significant revenue base, which puts it ahead of many space company peers.
• However, its low profit margins and relatively slow revenue growth make it hard to get too excited about the bull case at this higher valuation.

Redwire ( RDW ) is a small-cap space company that went public via a SPAC in 2021. Like many SPACs, RDW shares have been a poor performer. And, generally, Redwire has flown under the radar as well.

However, Redwire shares blasted off on Wednesday, surging 50% on the day:

This move is all the more puzzling since there is no apparent catalyst I can find for the development. The company doesn't appear to have announced earnings or any other material developments. I'd also point out that the stock didn't start to move until around 11 am; it wasn't reacting to any sort of news that came out the previous day or morning.

In any case, Redwire is suddenly on the move, and thus worth looking at. I've been poking through most of these smaller pureplay space companies in hopes of finding some interesting gems for the longer-term.

At $2.50 per share, I was fairly ambivalent on Redwire. Up here closer to $4, however, I am quite skeptical of the value proposition. Here's why I believe Wednesday's rally will be fleeting.

The Wednesday Rally

As noted, there don't seem to be any material developments which would explain the sudden jump in both trading volume and share price for Redwire.

The company did put out an article on its investor relations page on Wednesday, but it was merely a blog post from the CEO which doesn't appear to contain much in the way of new material information which would cause a 50% rally.

The article concluded by stating Redwire's corporate mission, with the CEO writing:

"Redwire is foundational to the future of space. As a key mission enabler, we are helping our customers by providing the critical building blocks they need to achieve their space aspirations. With decades of experience from our legacy organizations and a broad portfolio of proven space technologies, Redwire is well positioned to take a leading role in the future of space, from LEO, geosynchronous orbit, cislunar orbit and beyond. Redwire has the history, heritage, expertise, experience and international platform to accelerate humanity's expansion into space for generations to come."

This sort of mission statement is useful and interesting for folks just tuning in to the Redwire story, but doesn't seem like a catalyst for imminent stock price movement. I'd also note that Redwire posts an average of a couple updates every month in its newsroom section of the website, and prior articles haven't had any sort of impact on the stock price like we saw Wednesday.

The most likely theory, from what I can gather, is that there was a positive mention of Redwire in a TikTok video. According to some chatter on Twitter, a trending video suggested Redwire has satellite capabilities that can help defend the U.S. from spy balloons and whatever other flying objects have been entering U.S. airspace recently. I'd assign as much credibility to this as any other investment advice you'd find on TikTok, which is to say very little. But in an age of meme stocks, you never know what will get traders excited.

Redwire also had high short interest as a percentage of float coming into this week, so perhaps the move is merely a short squeeze which in turn is fueled by social media chatter or trending videos. In any case, actual fundamental reasoning for this move appears to be quite limited. As one final note, there have been no new Redwire SEC documents posted since mid-January as of this writing so there's absolutely nothing to report through official channels.

What Is Redwire About After All?

I highlighted the Redwire CEO's blog post above, as it is useful in answering this question. Redwire is a rollup of nearly a dozen different small space companies which offer a variety of services to the industry.

Redwire sees itself becoming an all-in-one vendor offering a wide variety of tools and services for building out the space industry:

This is great in theory. And yet, the company went public via a little-noticed SPAC and was trading for $2.50 a share until Wednesday. What explains the disconnect between the company's broad mission and the lack of more commercial momentum?

Namely, Redwire's acquisitions have all tended to be rather small. They are buying space businesses serving a lot of categories, yes, but it's unclear if these firms they are acquiring have the scale or R&D chops to become leaders in their niches. Moreover, there's question as to whether there is much sum-of-the-parts benefit here. Does putting together a bunch of tiny businesses in different verticals add value under one corporate banner?

Fellow Seeking Alpha author Vince Martin did an excellent job of highlighting the fundamental issue with Redwire from a valuation perspective. He pointed out how Redwire was built by a private equity company that acquired [at that time] seven different small space-related businesses. All of these were tiny, with Redwire paying less than $50 million for each one and just $149.2 million in total, as detailed by Martin as follows:

At the time of the SPAC deal, investors were paying four times as much for Redwire as a whole as the value of its underlying recently-assembled parts. Perhaps some premium was justified due to unifying all these small companies under one roof and consolidating certain administrative and sales expenses.

Still, it seems like a bit of financial alchemy to try to spin this cobbled together assembly of tiny space companies into a greater than half-a-billion dollar finished product.

Martin also noted that some of the seemingly most promising divisions were sold to Redwire for surprisingly low prices. Martin wrote:

"For instance, the Archinaut project unquestionably seems cool. The $73.7 million contract with NASA is Redwire's largest, according to filings.

But that contract was won by Made in Space in 2019. That company in turn was willing to sell itself for just $45.4 million a year later. That's not an isolated example. Essentially all of the tech touted by Redwire executives as driving growth - and enormous upside in RDW stock - comes from these legacy companies, and was developed before AE was able to acquire that technology for relatively low absolute valuations."

Valuation: A Significant Price For Modest Growth

Redwire has a solid revenue base in place already, which puts it ahead of many of its space rivals. The company generated $37.2 million in revenues last quarter, which annualizes to a runrate of about $150 million. It's a real base to work from, whereas several of the other publicly-traded space companies are still well short of even hitting $100 million in revenues yet.

The issue, not surprisingly, is profitability. Redwire hasn't even achieved adjusted EBITDA breakeven yet. Furthermore, last quarter, the company only earned $8 million in gross margin on its $37.2 million of revenues, which is rather discouraging.

Arguably, this is a downside of the bunch of small acquisitions model. It's possible that few of Redwire's businesses have enough scale on their own to generate high profit margins. One business generating $37 million of sales has considerable advantages in terms of negotiating for lower commodity costs, labor efficiencies, etc., but these advantages diminish when the $37 million is spread across many different distinct subsidiaries.

The ideal solution would be to grow out of the subscale problem. However, growth has been limited. Redwire's revenues were up just 14% year-over-year last quarter. Again, that's not terrible in abstract, but it is an issue when gross margin is so low. Ideally, when selling goods for such a low price compared to the cost of goods sold, you could find tons of new customers. Yet Redwire's revenues and its order book don't reflect that.

The company hasn't reported Q4 earnings yet. However, in its Q3 release, the company also lowered guidance for this current quarter, given the slower contract ramp up than expected.

Redwire had run down to just $17 million of available liquidity by September 2022. However, it raised $80 million in a fresh financing round. Don't get too excited about the balance sheet though, as roughly half that cash was immediately used to fund yet another acquisition.

Given that the company ran a negative free cash flow of $12.6 million last quarter, we could anticipate that it will take roughly $50 million a year to fund the business (barring further acquisitions). In other words, cash on hand should last through 2023, but things might get dicey in 2024 if the company doesn't see profitability increase markedly.

Redwire's Bottom Line

I'm highly skeptical of the rally we saw in Redwire's stock this week. I can't find any fundamental news that would justify this sort of move. If it is indeed based around social media chatter relating to spy balloons and/or purported UFO activity, I'd anticipate that the rally will quickly fizzle.

In the bigger picture, the former $2.50 share price seemed to reflect Redwire's risks and possibilities well. There is a real business here with significant commercial demand and revenues in place. However, it is low margin and not growing especially quickly. We also need more evidence to confirm that this heavily M&A driven business model is producing any real synergies or scale.

At $2.50/share, Redwire would be trading at a sub-$200 million market cap, which isn't too rich for approximately $175 million of revenues in 2023. Up at $4, though, it's much harder to get excited. I'd personally be a seller on this abrupt rally and wait for things to settle back down before considering a position in Redwire.

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