Small Cap Value Report (3 Au g 2015) - PHD, FRP, NET, TMZ

Good morning.

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Proactis Holdings (LON:PHD)

Share price: 92.3p (up 10.5% today)
No. shares: 39.4m
Market cap: £36.4m

(at the time of writing I hold a long position in this company)

Midas article - I don't usually mention share tips, but the Midas column in This Is Money can be very good, and has mentioned some interesting companies in the past, so it's worth looking at. It also tends to cause moves up in share prices, as it's widely read, and people who follow newspaper tips often buy "blind", without DTOR, which of course makes us shudder here at Stockopedia!

Although I suspect most of us probably started out investing by blindly following newspaper and and magazine tips, until you realise that it's a mugs game. Mainly because so many of the stories have been planted by PR companies, eager to get the share prices of their clients up - in advance of a Placing, or to provide liquidity for a major shareholder (or Directors) to sell some shares.

When I last reviewed the figures here on Proactis, in Oct 2014, I couldn't see any appeal. However, I've since changed my mind, whilst still having some concerns about the weak balance sheet.

As the Midas article explains, Proactis is launching a similar product to Tungsten (LON:TUNG) - invoice discounting for e-invoicing, through its established customer base. The major difference between Proactis & Tungsten is that Proactis is already profitable, whereas Tungsten has been a bit of a disaster so far - arguably trying to run before it could walk, and incurring heavy losses, and seemingly increasing difficulty in finding new investors prepared to fund the continuing losses.

The closing comments by Midas are very specific, so clearly the company and its advisers presumably want us to look at the next trading update, indicating via Midas that it will be good;

Proactis’s financial year ended on Friday and a trading statement should be out this week or next with the full results due in the autumn. Analysts expect a 66 per cent increase in sales to £17million and a more than doubling of pre-tax profit from £1.1million to £2.9million. Encouragingly, Proactis pays a dividend, expected to rise from 1.1p last year to 1.2p this.

Midas verdict: Proactis is a fast-growing business and the management is determined to make a success of it. At 83½p, the shares should go far. Buy.

Incidentally, in my view it's irresponsible and totally wrong for newspapers to be giving "buy" or "sell" advice. They should encourage readers to research the company themselves, not give financial advice, on what is often the flimsiest of research. Apparently there's an exemption in the regulations, to allow journalists to give buy or sell advice to their readers - something I deplore, and in my view the regulations should be changed to stop this.

Anyway, it all sounds potentially interesting, so I'll report back when the trading update is published. The shares are horribly illiquid, so the wide bid/offer spread may (rightly) put off many investors - so it's not the sort of thing for short term traders.

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Fairpoint (LON:FRP)

Share price: 136.5p (up 3% today)
No. shares: 43.8m
Market cap: £59.8m

(at the time of writing I hold a long position in this share)

There are two announcements from this consumer debt restructuring and legal services group:

Trading statement - it's in line with expectations, and (as expected, due to an acquisition) materially ahead of last year;

Overall Group trading for the first half of 2015 has been materially ahead of the same period last year and is in line with the Board's expectations.  This reflects a strong contribution from the Group's consumer legal services business, which was established by acquisition at the end of the first half last year.

Its newly acquired legal firm, Simpson Millar LLP has performed well. This is very encouraging, as it shows that management are competent in making acquisitions - buying the right companies, and paying the right price. If you look at Simpson Millar's website here, it looks like what I would call a proper firm of solicitors - i.e. handling a broad range of issues, and is not just a spivvy, compensation claims type of legal outfit. That makes me more comfortable about the ethics of investing in the group.

The IVA division is continuing to decline (this was originally the whole business, but Fairpoint has diversified because this activity is now in decline), so no surprises there.

Net debt - this is particularly noteworthy, and is much lower than I had expected, giving them scope to make more acquisitions;

Group net debt as at 30 June 2015 was £5.2m (31 December 2014: £7.6m), reflecting strong cash generation from operating activities.

Colemans acquisition - no, they are not diversifying into mustard. This is another legal services business, which seems to focus on compensation claims for holidaymakers. So my ethical question mark is beginning to twitch again!

From what I can gather, it looks like another good deal. The initial consideration is £8.0m in cash, plus £1.0m in shares (priced at 132p, so 755,516 new shares being issued).

Earn-out - further consideration (50:50 in cash: shares) of up to £7.0m in total may be issued if performance criteria are achieved, so that keeps Colemans management motivated to drive profitability up to Jun 2017. Any potential earn-out shares are fixed at 132p, so the dilution is fixed, and would not become a problem in the event of Fairpoint's share price taking for any reason.

I like this point;

The Earn-out Consideration if payable is expected to be self-funding based on the challenging financial hurdles set.

Furthermore, Colemans looks to be a decently profitable business, and the acquisition price looks reasonable to me, so this confirms my comments above that Fairpoint management appear skilled at making good acquisitions;

In its financial year ended 30 April 2015 Colemans generated unaudited consolidated revenues of £19.0 million and unaudited pre-tax profits of £2.3 million. Fairpoint estimates that Colemans' consolidated EBITDA adjusted to account for agreed partner salaries and bonuses, would have totalled, under the Group's ownership, £2.5 million for the year ended 30 April 2015. On a pro forma basis, legal services is now expected to represent 62% of the Group's revenues.

My opinion - investing in compensation claims businesses is not usually my thing, as it's been a real minefield for investors, as legislation & regulation can changed, plus to be brutally honest it's an area which tends to attract spivs as management (not all, but plenty have been, historically). Backing spivs doesn't usually turn out to be wise, as an investor, in the long run - although spectacular gains have been made in the ramping up (literally!) phase with shares like Quindell.

Management at Fairpoint seem grounded and professional, based on presentations & conference calls I've seen & taken part in. So this share does sit within the limits of my personal investment world. Also you could argue that people who have suffered some sort of injury or loss, providing it's genuine, deserve compensation. So, if they are handling cases fairly (e.g. giving the client most of the proceeds, not syphoning off the lion's share in fees), compensation claims businesses could be seen positively.

This latest acquisition will clearly drive another upward revision in broker forecasts, and with 62% of the business now being legal services, there is the possibility of a re-rating for this share, as it will no longer be seen as a declining IVA business, as it was before.

Dividends - there's a cracking yield here too, of over 5%, which looks sustainable as divis have been steadily rising since starting in 2010.

StockRank - Stockopedia likes it too, with a StockRank of 91.

Overall - I like this one, and think there's potentially good upside on this share, up to perhaps 200p. Although bear in mind it may not pass your own sniff test - that's a decision each investor has to make for yourself. I think it's the right side of the line.

Historically the share has been lowly rated, but that could change over time perhaps, given that the business is growing, and profitability appears to be becoming more stable due to the change in activities.

Debtors/WIP - this is the key area which I will be focusing on when the enlarged Fairpoint reports figures in future, as this is where many compensation claims type businesses tripped or fell over in the past.

Ever-growing debtors, combined with aggressive revenue/profit recognition (and excessive growth into unwise areas such as industrial deafness claims) were the fundamental reason Quindell ran out of cash & had to dismember itself. Bizarrely, its acquirer (Slater & Gordon) then itself almost immediately ran into a crisis over "accounting errors" (haha!) over the treatment of WIP, causing its own share price to halve. Thinking back, Accident Exchange ran out of cash when it failed to persuade or force insurance companies to cough up. So this is very much the accounting area to home in on when assessing Fairpoint in future.

The one stand-out company in this space which has managed its debtors amazingly well, is Redde (LON:REDD).

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Netcall (LON:NET)

Share price: 50.4p (up 10% today)
No. shares: 137.0m
Market cap: £69.0m

Trading update - this reads positively, with the key part saying;

The Board anticipates a satisfactory outcome for the year and expects to report record turnover and adjusted EBITDA. It is also pleasing to report a rise in order inflow during the second half of the year which augurs well for the future.  

No mention is made of market expectations, but I suppose "satisfactory outcome" is a satisfactory substitute for "in line with expectations". The comment about rising order intake in H2 augurs well for the new year, 2015/16.

Other points;

• Net cash had increased to £13.7m (nearly 20% of the market cap)
• 1 in 3 NHS Trusts have licensed their appointment mgt system
• Shifting to a SaaS model
• "Well positioned" outlook statement

Failed takeover bid - just a reminder that competitor Eckoh (LON:ECK) tried to take over Netcall recently, but the deal was scuppered by a major shareholder. I reported on that here. Given that Netcall's shares are on a much lower (about half) PER than Eckoh's, I imagine that Netcall shareholders would indeed prefer holding their existing shares, rather than being paid off in inflated currency!

My opinion - this looks a nice little company, and worthy of further research. The valuation appears reasonable at first glance, for an interesting growth company.

I also like the fact that a competitor wanted to buy it, which gives good confirmation that the shares are reasonably-priced.

Overall then, it looks worthy of a deeper look, in my view.

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Toumaz (LON:TMZ)

Share price: 3.1p (down 14% today)
No. shares: 1,597.6m
Market cap: £49.5m

H1 trading update - the bullet points are as follows;

·      Revenues up 30% at £14.0m (H1 2014: £10.8m)

·      Gross profit up 40% to £6.3m (H1 2014: £4.5m)

·      EBITDA loss £5.5m (H1 2014: loss £5.6m)

·      R&D expenditure: £6.4m (H1 2014: £5.1m)

·      As at 30 June 2015, the cash balance was £5.5m (31 December 2015: £12.5 million)

The problem is immediately obvious - the company is almost out of cash! It burned through £7m in the 6m to 30 Jun 2015, but only had £5.5m cash left on that date, so barely enough to keep running for a few more months.

Therefore it seems certain that the company is likely to be raising more money, probably as we speak. It's raised a lot of money in the past, but how long investors will be prepared to pour money into this jam tomorrow company, is the big question?

It has two operations, one in digital radio, and the other (more interesting one) is a product which is for the medical sector, and is a clever sticking plaster, which measures patients' vital signs, and transmits them wirelessly to nurses. Trouble is, the turnover is negligible, and has dropped from £0.5m to £0.2m. Trials are ongoing, and subject to delays.

My opinion - with a delayed commerical rollout for the flagship medical product, and with the bank account nearly empty, I think the company looks to be in a precarious position. If investors don't play ball, then it's possible that the next fundraising could be at a deep discount.

Personally I wouldn't touch it unless they raise enough cash to cover at least two years' cash burn, and if the market cap reflects the speculative nature of the product (i.e. is very cheap). At the moment this share ticks neither of those boxes, so it's a definite no from me. This type of company really shouldn't be Listed at all - it's far too early stage. Companies should prove up the product, get sales rolling, and then List on the stock market.