Small Cap Value Report - Tuesday 11 October 2022 - BKS, IGP, IOM, QUIZ, RCH, SUR | Paul Scott

10th Oct '22 by Paul Scott

99 comments 8412 reads

Good morning from Paul & Graham!

Today's report is now finished, as we've covered 6 companies, and don't want to overwhelm you. However, we've not forgotten about several other items, which we'll cover tomorrow.

Agenda

Paul's Section:

Beeks Financial Cloud (LON:BKS) (I hold) - written up last night, I review the contract wins announcement (helpful but not massive), and more importantly, the FY 6/2022 results. This share is all about very rapid organic growth (revenues up 57%), mostly recurring. It's modestly profitable, but share option costs consume most of the underlying profits. Balance sheet is strong, after a £15m fundraise in April 2022. Outlook comments confirm confidence in achieving FY 6/2023 market expectations, although additional growth beyond that might take time to nail the contracts. Overall, I like it a lot for the potential, and think that the current valuation seems about right.

Intercede (LON:IGP) - also from yesterday, there's an interesting acquisition - a tiny business called Authlogics, which is said to have specialist IP which will enable IGP to increase its addressable market by tenfold, filling a gap in the product suite. Sounds very interesting! Also there's a positive-sounding trading update, with H1 in line with mgt exps, but well over half the full year forecast revenues are now in the bag, so looks like a beat against forecasts could be in the pipeline for FY 3/2023. Cash has continued rising, hitting £10m. All looks most encouraging. [I don't hold this share any more, by the way, but am keeping it on my watch list as something I'd like to return to].

Quiz (LON:QUIZ) - a smashing trading update from yesterday. This share looks incredibly cheap, largely backed by net cash, and trading encouragingly well, with its multi-channel glamorous but cheap product offering, which achieves high gross margins. Online is growing nicely, in fact all channels are, but growth has slowed in recent months, as I would expect. Broker forecasts have been raised several times. The shares look stunningly cheap to me, pity I wasn't able to hang on to mine. They tend to drift back down gradually, after spikes up in price, so probably no immediate rush to buy back in.

Graham's Section:

iomart (LON:IOM) (£161m) - a profit warning here as the current financial year is likely to come in “at the lower end of the Board’s…

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JCPr

11th Oct '22

The founder of Beeks Financial Cloud (LON:BKS) still has a substantial shareholding and I don't think he's benefitting directly from what you call jam-today management. I presume he's the highest paid director so we know what his salary is. Do you seriously think that with his combination of skills he couldn't walk into a much higher paid job tomorrow? Much more likely he is using options to recruit and retain key people who could also do the same.

Beeks's key strength is their moat around the technology they've developed and the doors that they managed to get their foot into. Doors that don't normally open easily. Cloud adoption has to be managed very carefully when you're moving systems whose failure could get you a slot on the evening news when things go wrong.

I hold.

Kouremenous

Re Beeks Financial Cloud (LON:BKS) my main concern is the need for another fundraise. In April 22 they raised £15m and 6 months later this is down to £7.9m. The probability of another fundraise within 6 to 12 months looks very high imo and given the state of the market (materially worse in past 6 months) this could well be at a significant discount. Throw in the huge share payments to management wiping out almost all the profits, gives me 2 major concerns. In a bull market the impressive revenue growth may well negate these factors but, sadly, we're not in a bull market..

OldSchool05

Morning Paul, would you be happy to report your views on the Annual Results from SCS (LON:SCS) please, announced this morning?

The clearly did pretty well in the year just ended, and have managed to clear down a lot of the order book which had built up at the end of FY21. They report EPS of 36 p, and announce a 2 p increase to the final dividend of 9 p today. I would say they have the capacity to maintain the dividend at around 13 p, leaving us with a 10% yield at present.

The new CEO reports subdued trading since 1/8/22 with order book intake down 14.4% on last year. I wonder what impact that will have on earnings in FY2023? They do appear to have some flexibility in cost base, especially around marketing and a strong balance sheet to help survival.

For those who are happy to look through the current markets, the company seems to have a number of interesting initiatives under way to improve customer experience (in store and digital) and invest in people at all levels.

Epitychia

Beeks Financial Cloud (LON:BKS) Beeks Financial. Has a stock rank of 27. Obviously, this is based on past numbers, but it is not commented on very often on why you would override this red flag.

Do leopards really change their spots so easily?

planetx

Sureserve

Nothing surprises in this market but Sureserve good update , spitting out cash , huge order book, great sector , profits in line , cash pile getting hammered .

Dropped 6% .

Shares look to be “on sale” and as Warren Buffet says “we love it when our shares go down in price so we can buy more .”

Not sure I “love it” but it’s a core holding and looks very compelling long term value at these levels .

Paul Scott

Well I think the StockRanks are generally very sceptical about smaller growth companies. Here is the StockRank for Beeks Financial Cloud (LON:BKS) (I hold) -

As you can see, the major factor is the very low value score of 6. That's fine, because it's not a value share, and as I comment in the article, it's difficult to value. Rapid growth companies usually look expensive during the growth period, but people are looking forwards to much stronger profits once it's say double or triple the current size. The big risk is if growth stalls, then valuations have a long way to fall.

Quality & momentum scores are middling.

So overall, the StockRank actually fits quite well with my view of the figures. Why over-ride it then, to directly respond to your question. The main reasons for me are -

Very rapid organic revenue growth,
Big market opportunity, globally, with proven products and big name clients increasingly trusting Beeks, which gives a large opportunity.
Reliable, recurring revenues, with little customer churn .

Set against that, the more negative aspects are that it required up-front expenditure on capex (although as pointed out in the main article, half the capex was one-offs - e.g. buying a freehold, and leases), so growth can be seen as quite cash-hungry initially. The big share options package is a negative too I think. Plus there's a risk that growth might slow due to macro conditions, but that's already factored in to more modest growth forecast.

So BKS is definitely not a value share at this stage, which is why the StockRank is low. I find the StockRank system a really good sense check. There needs to be a very good reason(s) for me to buy a share with a low StockRank, and I generally don't want too many of them in my portfolio.

Regards, Paul.

Yes, SCS (LON:SCS) is on my list, leave it with me!

Kouremenous35 minutes ago

I think you're being too cautious there. Net cash of £7.9m looks ample to me, and I'd say the risk of another fundraising is very small, not very high! That's fine though, people interpret numbers differently. The balance sheet overall is strikingly good now, so I don't see any risk of a fundraising actually - unless they want to raise cash for say a really big contract, to accelerate growth further.

The founder doesn't like dilution, and there hasn't been much, for this type of company (up from 49m to 65m shares in issue, in the 5 years that it's been listed, when revenues have grown from just £4m (FY 6/2017) to a current run rate of over £20m.

Remember also that it chose to spend £3m on a freehold property last year, so that wasn't cash burn, it was the purchase of a valuable asset, which it could borrow against (or even sell) if necessary.

Management has also indicated in the past that they might consider different contracts with clients, which involve some up-front cash, so I'll ask the CEO about this when I interview him on Thursday.

As regards share options - I agree, these look excessive, so I'll quiz him on that too. It's actually quite helpful when readers raise concerns, because it allows me to ask management difficult questions that you have raised! ;-) (rather than making me look hostile, if the questions come from me).

Good to have your input, thanks.

I’d be pretty certain the founder couldn’t “walk” into a much higher paid job yes .

Not to mention he would destroy his shareholder value and breach a non compete and his market value is higher at Beeks.

Point is in small caps we are at the mercy of management to play fast and loose and to enrich themselves and staff , That’s the point of the red flag raising .

Hi Camtab,

I am concerned that as investors we are observing all these companies reporting on the whole reasonable interims/full year numbers that were based in another time (that of low interest rates). I have noted in previous slumps analysts forecast on a straight line basis and I would caution myself and anyone out there trying to read too much into these numbers. Just my view.

Yes, I very much agree. It's vital to look at the broker consensus chart on every share, to make sure that broker forecasts have been reduced. In many cases, for small caps, they haven't been reduced yet, despite sectors being under pressure. That's where the profit warnings are likely to come from.

So I totally agree with you. For me, any new purchase would only make sense if the forecasts are already soft, and the company is likely to beat them (fairly easy to ascertain, as indeed we report on here when trading updates come out - a key question for me is always "how realistic are the broker forecasts"?)

Great point, thanks for reinforcing it.

Although the other aspect is that higher interest rates could only be temporary. As I suspected would be the case, the Bank of England has already had to resume QE, to stop Gilt yields going too high. The Fed seems hell-bent on causing a recession, to snuff out inflation that is largely due to supply shocks, not excessive demand. Hence the seeds have been sown for interest rates & treasury yields to be slashed again maybe next year, once action is needed to address a recession, and inflation should by then be falling (it's possibly already peaked in the US).

For these reasons, I could turn out to be very wrong, to just assume that interest rates are now normalising to historic levels. I think the world is addicted to, completely dependent on low interest rates & QE. Current policy of a rapid return to historic levels, strikes me as suicidal, hence likely to be reversed, after it's caused another financial crisis and a recession.

Cheerful thought for the day! ;-)

Yes, Sanderson Design (LON:SDG) is on the list!

Thnx

sady

Can you explain has recently rejected the 200MA twice.What does it really mean? Thank you

stuartb58

FW Thorpe (LON:TFW) I have been a holder in Thorpe for many years and have high regard for the management. Annual results today show good growth (both organic and some through acquisition) despite issues with component shortages. Bullet proof balance sheet and interesting future prospects from Ratio Electric and recently acquired SchalLED. Historically highly rated, but has fallen back with everything else I hold this year. Any views from Paul/Graham appreciated.

Thanks Ben! Re Escape Hunt (part of XP Factory (LON:XPF) ) I also had reservations about how repeatable the customers would be, for the reasons you indicate. But the CEO said each site has about 6 different rooms, so people come back to do the other rooms. Although you make a very good point, that skillset/strategy to escape is the same, then each room could be less enthralling than the first one. I've added that to my list of questions, so will push him on that point. Excellent question, many thanks for raising it :-)

Thanks planetx,

I was planning on asking the CEO about the big share options, which have consumed about 80% of the profit (as I said in the main report above). But given your outrage, I will press harder on this point, as if it's putting off investors, then mgt need to be told.

I'll ask the CEO to explain the rationale, and who the options are going to - there is a lot to be said for recruiting & retaining key people using share options, as you can lock them in for several years that way. The risk is, as you suggest, that top management use it as a way to line their own pockets, on top of vast salaries.

Although at BKS, the Directors are paid very low salaries. The CEO in particular will be looking for a major payday when the business is sold, with him owning 37%, that's going to be a whopper probably, so that's where the motivation comes from, not from options, I would suggest.

Thanks for your input, very helpful.

rjh7777777

Any opinions on Foresight group (LON:FSG) - seem to be performing very well and another positive update this morning.

Thanks welwichia, I see your post is in line with your user name!! ;-)

TheFloatingInvestor

So there appears to be a continued grind down in share prices since last Monday / Tuesday's mini bounce. I was holding out for a dead cat bounce, but that looks a way away, with the Fed and the BOE likely to continue to apply large interest rate hikes over the coming weeks.

My watch list gets bigger and my shares smaller as I head back into the relative safety of cash, as shares break through to new lows, with Sureserve (LON:SUR) being todays victim. The problem with these companies is, when they break through is its hard to know where they might end up, and a 2% percent loss can quickly turn into a 8-10% loss as the sells continue. From there another leg down could come with losses becoming unsustainable.

My gut feeling is we will have to wait until after Christmas for any small shoots of recovery as inflation appears to continue its relentless climb and unemployment both sides of the Atlantic remains stubbornly low, and coupled with an ugly escalation in the war in Ukraine, black clouds will continue to linger for some time.

Cash with all it's negative drawbacks does feel like a safe place to be in right now as the bear seems to be growing in strength.

rmillaree

BKS

"Beeks Financial. Has a stock rank of 27"

The stock ranks are only one tool - i suspect very few fast growing companies will generally show up well on the stock ranks - therefore they are not really an negative indication here as we would expect the best companies to have a poor rating. Obviously the number does its job if you dont want to pay "jam tomorow" prices today these are the kind of companies are nicely flaged up by the stockrank. To be fair to this company it looks like its already decently profitible on an underlying basis(i will admit not too great if all those profits handed out in shares) - and sales are growing ata great lick. In some respects the fgactbten number is not worse than 27 is probably a hint that there is something here potentially. I am pretty sure doug would not be impressed must admit (I miss Doug)

Small Cap Value Report - Tuesday 11 October 2022 - BKS, IGP, IOM, QUIZ, RCH, SUR

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Paul Scott

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