San Diego San Diego's SureBeam Corp. is cocksure about its technology. But investors are understandably unsure about the company's prospects.
For SureBeam and its onetime parent, San Diego's Titan Corp., which Tuesday agreed to be purchased, it's a case study of a Wall Street truism: when stocks get overhyped, then plunge when reality sets in, investors can be brutally unforgiving if other problems crop up later.
This summer, SureBeam fired two major national accounting firms within three months -- possibly a record for U.S. companies. Consequently, the company is very late filing its second-quarter results, thus running afoul of the Nasdaq market, which may delist it. SureBeam is protesting, and there will be a hearing on the matter today. If the stock is delisted and begins trading on what's called the Pink Sheets -- the epitome of caveat emptor in the extreme -- SureBeam's shares will be on the end of a yo-yo in the hands of a shark with green eyeshades.
Trouble is, stock of both SureBeam and Titan have previously had big run-ups and run-downs, partly as a result of the companies' tendency to overhype a concept that happens to titillate Wall Street and the public at the time.
Now SureBeam has big trouble. The latest accounting firm to be fired, Deloitte & Touche, finds fault with an accounting technique that the company uses on almost 90 percent of its revenues. In the first quarter of this year -- the last public earnings filing the company made -- losses were greater than revenues. Civil lawsuits are piling up, charging SureBeam with phony accounting over a long period.
I'll get back to accounting. But first, some history: SureBeam, which manufactures irradiation systems to make food safer, was once part of Titan, a defense-equipment supplier. The SureBeam technologies were pulled together into one operation in 2000, and the next year, Titan let about 20 percent of SureBeam stock out to trade on the market, retaining 80 percent until 2002, when the rest of the shares were distributed tax-free to Titan shareholders.
While SureBeam was still 80 percent owned by Titan, 9/11 hit. Then came anthrax. Titan/SureBeam jumped. Not long after the anthrax deaths, Titan got a contract to sell $40 million worth of electron-beam systems to the U.S. Postal Service. SureBeam got $26 million of that contract.
The story shot around the world: SureBeam, a small San Diego company, will zap anthrax from the mails. Unfortunately, both companies let their rhetoric get out of hand. SureBeam announced in a press release that the post office "would use SureBeam's electron beam systems to eliminate the threat of anthrax in the U.S. mail system." Titan's chief executive enthused that he was happy the post office had chosen his company "to protect the public and postal workers from the threat of mailed anthrax."
The hyperbole escalated. SureBeam's then-president (now departed) exulted, "Since the world abruptly changed on September 11, we have never been more certain of the importance of our technology." In the next breath, he tied September 11 to a national concern for food safety -- a non sequitur rather like George Bush tying Saddam Hussein to Osama bin Laden. Later, the SureBeam chief effervesced, "Our SureBeam process became a national asset."
Trying to make flowering wisteria out of public hysteria, Titan set up its own "office of homeland security." Objective: make products to thwart terrorism. The leader: Susan Golding, former mayor of San Diego, who was also a Titan boardmember and special assistant to the chief executive.
The day before 9/11, SureBeam stock was worth $7.58. After 9/11, it reached $16.75. Titan's stock roared from $16.25 to above $29 on the hype.
Unfortunately, informed people were pointing out at the time that machines that zapped anthrax in mail would also make videos unplayable, melt tapes and cellophane, injure seeds, and cause all manner of mail mayhem. The post office bought the machines, "but they have not been installed," concedes Wil Williams, spokesman for Titan, and in 2001 the spokesman for SureBeam.
Sales of both SureBeam and Titan got a quick bump, but the contract was terminated last year, and both companies now admit that there is not much future in the mail-zapping business.
Both stocks came back down. SureBeam plunged to almost $1 last week before rebounding, as Titan moved below $17 until th merger announcement propelled it above $20. (Titan had earlier soared above $60 when telecom -- no longer in its future -- was a zingy buzzword.)
Titan is now dropping almost all of its nondefense business. The company no longer has an "office of homeland security," headed by Golding. It has security-related products, but they are housed elsewhere in the company. Golding is no longer a special assistant to the chief executive, but she remains on Titan's board.
SureBeam is in trouble now for being late reporting its earnings, but its last earnings report, for the first quarter of this year, was hardly inspiring. The company lost $6.6 million on sales of $6.1 million. The company has built expensive plants to irradiate foods, but they are underutilized and losing money. One was closed early this month. A key Saudi Arabian contract has been slowed down by the Iraq hostilities, but things are picking up slowly, according to Mark Stephenson, SureBeam spokesman.
Overall, the company admits in official filings that food irradiation has not caught on as quickly as expected. The company has a staggering accumulated deficit of $127.5 million. SureBeam has never made a quarterly profit, but over-optimistically predicted it would make money last year. Next year will be better, promises Stephenson.
SureBeam did something that can always be dangerous: to facilitate a sale, it advanced money to a customer. SureBeam advanced $5.8 million to a Hawaiian company whose best customer then went bankrupt. Most of the loan has been written off. Titan guaranteed 20 percent of a loan the Hawaiian company had with another lender. If the Hawaiian company defaults, Titan could be stuck with the whole bill, but would get the assets.
Last year, Titan extended a $50 million line of credit to SureBeam, which has drawn down half of that sum. However, SureBeam's financial results are so poor it cannot get the other half under terms of the credit facility, although it says it doesn't need it. This month, Titan warned in a filing that if SureBeam stumbles, Titan may have to write off that debt.
Now SureBeam faces the accounting flare-up. Its auditor had been Arthur Andersen, which came asunder in the wake of scandals such as Enron. SureBeam then hired KPMG, but the arrangement lasted only 14 months. On June 3, SureBeam fired KPMG. Stephenson says the accounting firm charged too much.
On June 9, it hired Deloitte & Touche. On August 19, it axed that firm. There is a critical dispute. In announcing the dismissal, SureBeam said that Deloitte "expressed concern as to the appropriateness of utilizing the percentage of completion method for revenue recognition." Simply put, the "percentage of completion" method permits a company to report income from a long-term contract based on its estimate of the percentage of the work that was completed during a certain period. Both Stephenson and Williams say that prior accounting firms and the Securities and Exchange Commission have approved this method for SureBeam.
In any case, a new accounting firm will have to get out that second-quarter report.
There are a couple of important points here. SureBeam does not appear to be a Peregrine, the San Diego software company whose top brass huddled near the end of each quarter and plotted how to inflate sales fraudulently to meet Wall Street's targets. And SureBeam may have a good system for irradiating foods -- although don't tell that to Ralph Nader's organizations, which have been a thorn in SureBeam's side.
Stephenson and Williams both say that SureBeam and Titan haven't talked too big in the past. But the anthrax experience and some other incidents belie that. Once-zapped investors don't forget.