Yesterday's announcement that the $5bn Jarden Corporation was making a bid for ICAP Securities Exchange tiddler Sprue Aegis wouldn't have threatened many headlines, but hidden within this story and the share price breakout are plenty of pearls that investors can learn from.
Sprue Aegis is the kind of company that the City neglects to its regret but that private investors are so able to take advantage of. On average only £15,000 of Sprue's shares have traded each day over the last few months. Clearly institutional fund managers can't trade companies like this without the share price soaring so they tend to completely ignore them unless they can pick up a big line of stock in a placing. It's for this reason that one can so often find hidden gems amongst the smallest companies on the market.
Sprue has certainly been a hidden gem in recent years but what the Jarden Corporation knows that the City doesn't is that Sprue has built up an impressive track record of innovation, execution and excellence in its tiny niche - clearly they think it worth bidding up for.
What's in the silly name?
Sprue Aegis is a fairly young company with a fascinating story beginning in 1998. The founders had decided on their business model before they even decided what products to make. They wished to build plastic electronics devices in a global market without strong brands where the user experience was poor. But it was only when they spotted a broken fire alarm hanging from a ceiling that the proverbial lightbulb switched on.
15 years later and Sprue is the UK market leader in home safety products (smoke and carbon monoxide alarms), with exclusive supplier status to Tesco and B&Q and exclusive rights to distribute many of minority shareholder Jarden Corporations products too. Meanwhile increasing domestic safety legislation across Europe provides a growing market for the company to sell into.
I'm not going to go into the details of the story here as there are some excellent write ups about Sprue Aegis already on the web. Glasshalfull has promoted the investment case extensively on the Motley Fool and on ADVFN, while all credit should go to David Stredder for bringing the company to many private investor's awareness at his Mello meetings.
Beyond the 'story'...
As many will know from my speech & presentation at Master Investor, I am not the kind of investor who gets too swayed by stories. Stories separate fools from their capital endlessly - what matters most are the fundamentals of a business. As the father of value investing, Benjamin Graham, stated so clearly - "in the short run the market is a voting machine, but in the long run it's a weighing machine" - placing capital in companies with strong fundamentals at attractive prices is the way to investment success and it's this ethic that drives the ongoing development of our feature set at Stockopedia.
Those paying attention lately around Stockopedia will have noticed we've launched a set of StockRank for every company in the market. Sprue Aegis before the bid yesterday was the second highest ranked company in the entire UK stock market out of more than 2000 stocks based on our proprietary 'Composite StockRank' which equally weights four contributing factors - QualityRank, ValueRank, GrowthRank and MomentumRank.
It is not easy at all to rank highly on these lists. The QualityRank favours the kind of profile that Warren Buffett might prefer - those displaying very high margins, profitability, cash flow and earnings quality. The GrowthRank favours companies with exceptional historic and forecast earnings growth. While the ValueRank and MomentumRank obviously highlight companies that are cheap and with fast moving share prices. Finding companies ranking highly across the board using the CompositeRank is another way to find hidden gems in the stock market - just as for Sprue Aegis which was ranking 99/100 before the bid and most importantly 93/100 on the QualityRank.
As I discussed in a previous post - Warren Buffett became exceptionally wealthy by focusing on buying cheap, safe, high quality stocks. Being so small, Sprue Aegis could always be at the mercy of competitive threats should a big competitor enter the domain, but given the company's powerful position in its niche and the fact that the market for these products isn't that big you have to wonder why any big competitor would bother. Indeed for a competitor - it's much easier to just buy companies like Sprue outright than attempt to recreate them using hired hands which is why they tend to end up as buyout candidates. Not that the board of Sprue Aegis has budged at all - they responded to the bid by saying - "Due to illiquidity and the tightly-held nature of the shareholder base, the Company's share price as quoted on the ISDX does not reflect fair value and is therefore irrelevant" and that they "are unable to recommend that Sprue Aegis shareholders accept the Offer"
The point of this article is not to highlight Sprue Aegis in particular but to illustrate several things about the way the stock market works.
- Firstly, the market in small caps and especially micro cap stocks is terribly inefficient as institutional money can't unlock the value. It's a hunting ground for frontier minded private investors and private corporate buyers.
- Secondly, the stock market always eventually unlocks the value in cheap, growing, quality companies but often over timeframes can be rather inconvenient - the patient are rewarded.
- Thirdly, there are several ways to find these hidden gems in the market - you can diligently read bulletin boards or go to company events and hope to stumble upon a good story and/or you can use a robust systematic approach such as we promote at Stockopedia to filter the market quickly down to these kind of candidate stocks.
For those that don't have the time to endlessly read bulletin boards or those that want to cut through the crap that is so often posted by over-enthusiastic shareholders online, the analysis tools at Stockopedia are, as Prospect Magazine described them yesterday, "a godsend". Sprue Aegis, to me, is another example of the kind of stock that David Stevenson wrote about in his recent article in FT Money.
"How might an ordinary investor, who does his or her own stockpicking, unearth a gem like Dart? Most likely using web-based, online systems such as those developed by Stockopedia."
For the full list of top ranked stocks you can browse the Share Directory or fork this screen here - we'll be adding these ranks to Stock Reports soon. Alternatively, the FT's choice the Screen of Screens provides another way to find hidden gems. Just remember to DYOR !
Filed Under: Stock Picks,