Small Cap Value Report (5 Aug) - PEN, NARS, TNO, CPP

Good morning! Pennant International (LON:PEN 89p) issues its interim results for the six months to 30 Jun 2013. These shares have risen a remarkable nine-fold in the last three years (see chart below). Pennant supplies flight simulators for training pilots, and other similar services. The figures this morning look very impressive - turnover is up 38% on last year's H1, and pre-tax profit has risen from £755k to £1,140k, a 51% increase.

EPS is 3.31p, so doubling that to annualise it, that's 6.6p. At 89p that puts the shares on a PER of 13.5, which doesn't look expensive for that rate of growth. The key question is whether the growth is sustainable, and although the outlook section contains very little specific information, it generally sounds good (my bolding of the key sentence):

 

 The order book provides good visibility through 2014 and beyond and during the period there has been significant on-going activity with a broad global spread of potential customers on a number of significant opportunities particularly in the defence and rail sectors.

In the defence sector these requirements range from basic training aids for ab-initio students to complex platform specific simulators, computer based training and virtual reality. In the rail sector there are major new opportunities relating to the provision of documentation and training for operators and maintainers of rail assets.

The pipeline is robust and active and the Group's good relationships with its customers and its strong balance sheet continue to provide a firm position from which to build and realise the opportunities arising.

 

 

Instead of all that waffle, I would have preferred a clear statement about where the company is versus market expectations for profits. Although it looks to be on track, as broker consensus is for 6.56p EPS this year, and that looks about right, as mentioned above.

The Balance Sheet is strong, with net cash of £1.2m, although I note that cashflow has been poor for this six months, with debtors ballooning to £5.8m. This is mentioned in the narrative, as being something they see unwinding in H2, so I shall be looking out for an improved cashflow & debtors picture with the full year results in early 2014.

I hold some shares in Pennant in my long-term portfolio, and will be sitting tight on them - whilst the shares are no longer in bargain basement territory, they deserve a premium rating given the excellent growth being delivered. I could see the PER rising to 15-20 without too much of a stretch, so that suggests 100-130p might be possible based on this year's earnings maybe?

 

 

 

 

 

Nationwide Accident Repair Services (LON:NARS 58.5p) has issued a profit warning this morning. H1 trading is expected to be turnover of c.£79m, and profit before tax of £1.4m. That's not good, since on checking last year's interims, they made profit of £3.0m on turnover of £92.3m, so it's quite a big miss.

The dividend is now under review, which was always an accident waiting to happen, as the 8.2% dividend yield indicated. Anything with a dividend yield of over about 6% usually has some sort of underlying problem in my opinion, so it can be dangerous to chase very high yields.

The shares have fallen 10.5% to 58.5p, which in my view is a fairly mild reaction, I think the shares should probably have fallen more, as a key support for the price (the big dividend yield) has now been kicked away. I don't like their Balance Sheet either, with a nasty pension deficit now showing. That would also inhibit the chances of a takeover bid being tabled by anyone, so it's difficult to see much upside on these shares. I might look at it again if they fall to 40p, but at this level they don't interest me.

 

 

 

 

According to the Scottish press today, shareholders in RSM Tenon (LON:TNO 1.65p) might be completely wiped out if an unsolicited approach by rivals Baker Tilly goes ahead. The last announcement from RSM Tenon struck me as sounding odd, and I did wonder if they had been pushed into putting up the for sale sign by their bank, and it sounds as if that is indeed the case. I hope no readers got caught on this one. If you did, then you need to stay behind for remedial lessons on reading Balance Sheets!

Investors have become too sanguine about highly indebted companies, as the Banks have been so lenient in recent years. However, now the economy is improving, expect more Banks to pull the rug out from underneath zombie companies. I think that is likely to drive an improvement in business for Begbies Traynor (LON:BEG 36p) at some point, but I don't know when. I'm mulling over whether to buy back into those shares?

Cash is king, so a net cash position is one of my top priorities for potential investment. A cash buffer gives companies time to sort out any serious problems, whereas highly indebted companies that get into trading difficulties are completely at the mercy of the bank manager, whose only priority is to prevent the bank losing money. At that stage, shareholders are largely irrelevant. 

 

 

 

 

 

I have to mention CPPGroup (LON:CPP 23p). This share is a great example of the dangers of shorting. I dabbled with shorting a few years ago, but found that it requires a very different set of skills to going long, and in particular it requires an ability to suffer stomach-churningly nasty losses, before eventually being proved right. Sometimes it takes years for over-priced shares to come back to earth, so shorting also requires patience.

Anyway, shorting is not for me, and I haven't shorted any shares for years now. CPP demonstrates the dangers inherent in taking short positions. Have a look at the 12 month chart below:

So there have been two massive short squeezes in the last year. The most recent one has seen the shares rocket from about 3p to 23p. This rise has happened because the company has been refinanced by its bank and other creditors. This is a very surprising outcome, as by any measure the company looked to be toast.

So anyone who had opened a short position of say £10k, thinking that it would bring them a risk-free profit when the company went bust, would now be sitting on a loss of almost £67k. Painful stuff. That's why I just don't risk shorting - as the losses are potentially unlimited. Whereas at least when you buy a share, you can only lose 100% of your money invested. With shorting you can lose many times your investment, as in the case of CPP.

 

 

 

 

I'll leave it there for today, as there's very little news in the small caps space today.

It will be interesting to see whether AIM stocks being allowed into ISAs from today will have much impact? Fresh money coming into AIM can only be positive for prices, so it's certainly a factor in supporting a bullish view for small caps.

Also, I see that the July services PMI data has been released today, and is very positive - the highest reading since 2006, so that reinforces my view that we are now firmly into an economic recovery, which should be good for earnings & hence share prices.

Regards, Paul.

(of the companies mentioned today, Paul has a long position in PEN, and no short positions)