The start of 2022 was a busy period on the SCVR. Going back through the updates, one of the standouts was K3 Capital - yet the shares have fallen by about 14% to 287.9p since the 7th of February.
Here’s what the c£200m market cap group said in its half year update in early February:
The Board is confident that the outlook for the remainder of the financial year, and beyond, is positive and is pleased to report a strong start to H2 FY22, with December delivering £6m of revenue and £1.7m EBITDA during a traditionally quieter festive period. We continue to evaluate complementary acquisition targets which could be additive to overall product offering and allow further diversification of Group revenues.
It’s a tough market for small caps right now and the shares have been marked down on an essentially upbeat update, so I’m keen to take a deeper look.
I think there’s a sweet spot where good money can be made by backing competent management to execute on a clearly defined strategy over the medium term, particularly when the company’s stock is modestly valued.
Such opportunities can lead to the kind of compounding returns that contribute disproportionately to total portfolio performance. Somebody tweeted this quote from Chuck Acre recently, which sums it up quite nicely.
… We think hard about the ingredients required for a business to compound in value over the course of many years. We believe these include: 1) an ability to generate above average returns on shareholders’ capital, 2) opportunities to deploy additional capital at above average returns, and 3) a management team with the skill and judgment to sustain the process of compounding over a long period of time in the face of competition.
This focus on business, management, reinvestment doesn’t sound complicated but what is hard is finding these companies, correctly defining them as astute capital allocators with strong growth potential, and then sticking with them for a number of years.
K3 Capital could have at least some of these ingredients because it has:
- An established management team aligned with shareholders, pursuing a consistent growth strategy,
- High returns on capital over time (albeit currently along a declining trend), and
- Good organic and inorganic growth opportunities going forward.
Meanwhile the valuation - an important criterion missed in the Acre quote - hardly seems demanding. It’s possible that the market…
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