AdEPT Telecom; (Update for today's acquisition) well managed small cap, good growth, debt down, good cash flow. Too cheap?

My review of yesterday's interim results:

AdEPT Telecom (Market capitalisation; £26.5m, 120p and 3.5% of JIC Portfolio): interim results for the six months ended 30th September show a 11.3% jump in revenue to £11.3m, a 12.7% increase in EBITDA to £2.4m, a 13.9% increase in adjusted pre-tax profits to £2.2m and a 12.2% increase in adjusted earnings per share to 8.38p. It generated £2.2m of free cash flow, up 29.1% from 2013,  and reduced net debt by £0.7m to £3.2m despite spending £2.1m on acquisitions; £1.8m for Bluecherry Telecom, (which added £0.6m revenue and £0.15m profit), and £0.3m deferred consideration for Bluebell Telecom and £0.3m on dividends. Overall gearing was reduced to 29% from 38%. Lastly it increased the interim dividend by 50% and looks to be on course to pay its broker's target of 4.5p for the full year. On the outlook and dividend it says “this has been an excellent 6 months with improved results in all key areas. We continue to be highly cash generative and there is considerable scope for a progressive dividend policy whilst continuing to identify and integrate earnings-enhancing acquisitions."

Revenue split is now 26.3% from calls, down from 31.2% in 2013, which has seen pricing pressure in recent years due to lower volumes and regulatory changes. It is however still a decent margin area requiring no cap-ex and the regulatory environment for the next three years is expected to be more benign. Lines account for 46.9%, up from 45.6%, and whereas lines traditionally just carried calls they are now increasingly used for broadband, IP-CCTV, Alarms, PDQ machines and Faxes. Lastly network solutions, a higher margin, added value part of the business, accounted for 26.8% of revenue, up from 23.2% driven by demand for next generation services.

It has had great success on the new business front especially in the public sector where in October, the ESPO Framework was extended for two years under which it is the sole approved supplier of calls, lines, broadband, fibre broadband, super-fast internet access and SIP to the Public Sector and registered charities nationwide. In July the JANET framework was extended for four years where it is one of a small number of companies approved to sell data connectivity to UK Colleges and Universities. They must be doing something right to gain extensions to both these framework agreements. The importance of these frameworks can be seen in its new business wins in the first half alone; Norwich City Council, Kings Lynn and West Norfolk, Wrexham County Council, Cheshire West and Chester, Swansea City and County, Mid Devon District Council and Northern Ireland Courts and Tribunals Service. In the last 18 months it has won more than 20 new Council contracts. The typical savings it achieves for local government is 34% per annum. The public sector has grown from 9.8% of total revenue a year ago to 13.3% in September.

AdEPT Telecom continues to be very efficient at what it does. It operates out of one office in Tunbridge Wells and only acquires businesses, or books of business, which meet strict criteria; they have to be able to transfer the new clients seamlessly onto their operating systems so that it achieves a high margin conversion to its cash flow. As well as acquisitions which tend to be in the small business area it has a team focused on organic growth; winning larger premier business customers and leveraging the framework agreements to win public sector clients. It has a 50:50 revenue split between its 1000+ premier customers spending in excess of £5000 per annum and small business where it has 19,000 accounts managed via its call centre in Tunbridge.

Conclusion; a super set of results from AdEPT with growth across the board. In what is a competitive industry it is extremely well managed, focused on growing the top line profitably by emphasising client service and cost savings whilst demonstrating great control of its own costs and discipline in the way it allocates capital. I guess this should not be surprising given that around 40% of AdEPT is owned by the directors, including 5.4% by Ian Fishwick, founder and Chief Executive. I have been patient with this one because I was convinced by the strategy and the ability of management to implement it successfully, allied to which the stock just seemed too cheap, especially on price to cash flow. I think these results will be the catalyst to get the share price moving; a prospective dividend yield of 3.8% to March 2015, rising to 4.6% March 2016 and then 5.4% to March 2017, according to Northland Capital's research, looks attractive to me, as does a price to free cash flow of around 8.5x. I have a 3.5% holding in the JIC Portfolio which is probably high enough given its market capitalisation is only £26m but I think my patience is now going to be rewarded. Very Happy Holder!

Link to very good results presentation HERE