Is ZAGG an Unprofitable Shell Game?

ZAGG generated negative operating cash flow and even more negative free cash flow from inception through Q1 2011.

The company burnt through $3.15 million in operating cash flow in 2010. In the first quarter of 2011 the operating cash flow burn accelerated with them burning through $5.07 million. All of the profits were piling up as inventory.

June 21, 2011
ZAGG announces acquisition of iFrogz.

June 29, 2011
http://video.cnbc.com/gallery/?video=3000030373

Question: "When will cash flow turn positive?"
Answer : "I think we can do that with the next 12 months."

August 15, 2011

Q2 earnings come out and cash flow is positive.
Management announces on the conference call that they burnt through cash in the quarter only to issue a correction later:

8k filing after earnings
"It was noted during the conference call that the Company had negative cash flow from operations during the second quarter. In actuality, the Company had positive cash flow from operating activities of $2.9 million for the three months ended June 30, 2011. For the six months ended June 30, 2011, the Company had negative cash flow from operating activities of $2.2 million."

Cash flow continues to be positive ever since the closing of the iFrogz acquisition with the tally being:

Q2 2011 $2.9 mm

Q3 2011 $1.1 mm

Q4 2011 $8.2 mm

Q1 2012 $14 mm

Total cash flow since iFrogz closing $26.2 million.

On CNBC Pedersen had blamed the failure of the company to generate cash flow on the company's growth rate. Growth did not decelerate but the company started throwing off an insane amount of cash flow right after the iFrogz acquisition.

How and more importantly why did things change right after the iFrogz acquisition? Remember instead of buying iFrogz for all stock ZAGG took out a hard money loan and paid for the $105 million purchase with $55 million in stock and $50 million in cash. I believe that we will find out when ZAGG finally implodes that real purchase price of iFrogz was really closer to $10 million in cash and $55 million in stock. Even that would be expensive for a company with no brand equity and not much detectable sell through. Where did the missing $40 million dollars go? I believe the selling iFrogz shareholders (or more likely family members) invested in a new distribution company that turned around and bought a bunch of obsolete inventory from ZAGG during the next several quarters. This explains the sudden unbelievable divergence in cash flow and it also explains why receivable dropped in a quarter when the fast collection cycle internet sales dropped to only 10% leaving the majority in sales to retailers that generally pay on 120 day terms. The shell company that was set up to recycle the money back into ZAGG paid cash for their purchases thus the impossible reduction in A/Rs in the quarter.

My estimates are that the real cash flow from the business for the last 4 quarter is approximately negative $10 million dollars. That means that

ZAGG has already recycled most of the iFrogz money back into the corporation.

Now that the slush fund of money from the iFrogz acquisition is starting to run dry management said that inventories were going to start increasing again as they are going to start shipping all their products from China rather than air freighting them. So we will be back to negative cash flow next quarter as they again try to hide bogus profits in fictitious inventory.

The bad new for shareholders is that no value is being created by these circular scams (readers new to the story should go back and read about the ZAGGbox scam that recycled a $4 million "investment" in a bogus product right back into the company). In fact quite the contrary as ZAGG is paying taxes on earnings that don't exist so shareholder value is being wiped out with ever additional circular scam. Also just as a friendly reminder, the lockup on the remaining 2 million shares paid for iFrogz comes off in June. In December the iFrogz guys sold ever single share of the 2 million that freed up causing the stock to plummet. This sale of all of their stock available is one more fact backing up my allegations that they did not receive the $50 million in cash. While I have admittedly been early in calling ZAGG's demise, it is just the timing that I was wrong on. It is coming!