Small Cap Value Report (4 Feb 2016) - DQE, SPL, AVN, ACSO

Good afternoon!

Let's start with a couple of Indian companies listed on AIM (brace yourselves!)

DQ Entertainment (LON:DQE)

Share price: 1.75p (down 60% today)
No. shares: 56.3m
Market cap: £1.0m

Update re General Meeting & Resignation of NOMAD - today's update is a catalogue of woes. It looks extremely likely that this joke share will probably de-list from AIM fairly soon. The usual way this happens these days is by NOMAD resignation. Allenby Capital has apparently served notice to resign on 22 Feb 2016. If no replacement NOMAD is found, then the shares will de-list on 23 Feb 2016.

There are further complications, in that Allenby has not been able to complete satisfactory due diligence on new Director appointments. Also, bond holders (who are owed $35m) would be able to claim immediate repayment (which the company says it is unable to do) in the event of the shares delisting, as delisting would constitute a default event.

To cap it all, legal action is being taken against the company to challenge the validity of the decisions taken at its last AGM. You couldn't make it up!

My opinion - this share has been covered in red flags since day 1, so why anyone in their right mind would hold shares in it, one can only guess at.

As usual, the big tell is Debtors. Whenever you see excessive debtors (which I would class as over a quarter of annual revenues from the income statement, as a general rule of thumb), then it means the company has probably inflated sales & profits, by booking revenues that won't actually be collected in as cash.

Over the past 3 years, I've written here about DQE a total of 9 times, and on 31 May 2013, my view couldn't have been more emphatic, "Debtors has now shot up to more than the year's turnover, so forget it - that's not a proper business!" - See more at: http://www.stockopedia.com/content/small-cap-repor..."

There's really no excuse for getting caught in such obvious joke shares. Anyone doing so isn't investing at all, they're just wildly, cluelessly, punting. The city has floated a wide array of rubbish shares on AIM which are designed to part you from your money, but it's really terribly easy to spot, and avoid them.

Above all, remember my golden rule of investing on AIM - if the company is essentially an overseas business, listed on AIM, then it's an automatic bargepole - because AIM's lax regulation, and no consequences for breaking the rules, has obviously become a magnet for con artists - willingly aided & abetted by city firms, non-execs, PRs, etc, which are happy to generate fees from them, and turn a blind eye to investors being fleeced. Either that, or we're expected to believe that all those fee earners are just desperately naive, and had no idea they were being taken in too. Hmmmm.

SKIL Ports & Logistics (LON:SPL)

Share price: 78.5p (up 14.5% today)
No. shares: 44.0m
Market cap: £34.5m

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

Website update - all rules are made to be broken in special cases, and this is one of the very rare situations where I'm prepared to believe that an Indian AIM company may be genuine. The company has been building a new port (barge unloading) in India, and the market remains very sceptical about it.

However, from making enquiries, I'm reasonably comfortable that the project is real. The company has published drone video footage on its website, showing the site under construction.

I suppose it's possible that this might have been created in a CGI studio, so what do readers think - does the video footage look real to you, or not?

I've held shares in this particular company for some time now, as it is either an extraordinarily elaborate hoax, or it's real, If it's real, then the upside from such a low valuation could be considerable. Management seem to have previously built large infrastructure projects in India. We'll have to wait & see what happens, but I remain cautiously optimistic, that this one might be genuine.

Avanti Communications (LON:AVN)

Share price: 124.75p (down 9.6% today)
No. shares: 147.4m
Market cap: £183.9m

Interim results - these figures look dreadful to me. For the avoidance of doubt, I currently hold no position (long or short) in this share, but looking at these numbers, it seems to me very clear, crystal clear in fact, that the bear case holds water.

As readers know, I always make up my own mind about every share, and always make sure I read up on the bear case, not just the bull case. The whole apparatus of the city is geared towards pushing share prices up, so it's always refreshing to read analysis from someone prepared to take the opposite, bearish, stance.

Sometimes such bearish analysis does not hold water, and I will strongly defend my long positions against a bear raid (as I did with both BOO & TRAK), but in most cases I've found that bears are usually correct, in the long run. So if high profile bears, with a track record of exposing poor companies, are all bearish, then I sit up and listen, as they could well be onto something. Listening to the bear case on TUNG saved me a packet, as I realised that Matt Earl's analysis was correct, and I closed my long at over 200p per share.

Back to Avanti Comms, here are the specific problems;

1. There's been no progress on the top line - revenues are flat against last year's H1, at $31m.

2. It is providing a service at below cost price! So note the gross loss of $10.2m. Although reversing the (non-cash) depreciation charge of $22.8m would give a pre-depreciation gross profit of $12.6m for the six months.

3. There seems to be seasonality such that H2 is stronger than H1. Assuming that pattern, then gross profit may again come out at around breakeven. However, there are then a load of additional costs to take into account - e.g. $18.4m operating expenses, and $17.6m finance expense in H1. That's $36m per half year, or $72m per full year, with no gross profit at all to support these costs - which can only therefore be funded from continued cash burn.

4. Why is the interest cost so high? This is because Avanti has a ton of debt - the balance sheet is a real mess - the $730m of historic costs which have been capitalised into fixed assets, are arguably of little value, if no return is actually being generated from them! So I would argue that a large write-off is necessary.

5. Debt - the company has financed itself with high yield bonds - junk bonds - yielding 10% interest for the holders. It's a massive amount too, at $627.4m. That would be fine if Avanti had assets which are generating an enormous return, but it doesn't! So how will the company pay the interest, let alone repay the capital?

Outlook - the company dangles the prospect of jam tomorrow;

Avanti's expectations for 50% growth in continuing revenue on a constant currency basis in the full 2016 financial year are supported by the substantial recent order wins, which will make a material contribution to revenue in the current half year and a very strong pipeline of opportunities that are in advanced stages of negotiation. As revenue builds, Avanti is expected to become significantly cash generative, due to a combination of the revenue growth and a largely fixed cash cost base.

My opinion - with 2 new satellites to be launched, and a strong pipeline, it looks likely that revenues will increase. However, in order to get anywhere near to being a viable business, revenues need to increase very substantially - i.e. multiples of the current run rate, just to service the debt interest, and operating costs.

Therefore anyone holding the equity has to be supremely confident that the company can indeed grow its cashflow very considerably, and enough to cope with the mountain of very expensive debt. The company says that it is hoping to refinance the debt in 2019 at lower rates - assuming it gets to 2019 without having wiped out equity holders with dilutive fundraisings to continue paying the interest bill on the bonds.

It seems to me that the bondholders are in the driving seat here, and you would have to be an extraordinary optimist to believe that the company can transform its fortunes enough to be able to survive in its current structure, let alone prosper. The very fact that the company had to use 10% bonds to finance its capex, suggests that other forms of more conventional funding were not forthcoming.

Therefore I am leaning heavily towards the bear case on this share. The equity looks completely worthless to me. However that view is subject to change, if sufficiently profitable growth is generated to make the company cash generative in future. EBITDA positive is no use at all of course, since it's the interest cost which is the killer here, so that cannot be ignored.

accesso Technology (LON:ACSO)

Share price: 903p (up 5.3% today)
No. shares: 22.0m
Market cap: £198.7m

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

Trading update - this sounds good;

The Board of accesso Technology Group plc (AIM: ACSO), the premier technology solutions provider to leisure, entertainment and cultural markets, is pleased to announce that it expects Group performance to be comfortably in line with expectations for the year ended 31 December 2015.  This strong performance has been achieved despite significant investment in the business relating to last summer's transformative agreement with Merlin Entertainments Group Ltd.

The Board is also pleased to report a strong start to 2016, where all accesso business lines are reporting good momentum.

Valuation - broker consensus is for $0.41 for 2015, so that's a PER of about 28p, therefore the PER at 903p comes out at 32.3 - gulp! A pretty warm valuation, for sure.

My opinion - I think Accesso can be classified as a super-stock - because it is exploiting a niche, with very little competition, and winning contracts globally with highly credible customers, and establishing recurring revenues which are very sticky.

What tipped it for me, was the announcement about winning all sites operated by Merlin. That's the sort of game-changing announcement that I look out for, and I explained why I was buying the shares at around 615p here on 30 Jul 2015. We're up nearly 47% in just over 6 months since then, and I'm sitting tight.

The downside risk is obviously that, priced to perfection, there's no safety margin for anything going wrong. So today's reassuring update certainly helps shore up confidence.