Small Cap Value Report (10 Feb 2014) - CAP, IKA, LTC

10th Feb '14 by Paul Scott

12 comments 14863 reads

Good morning! Radio 4 has given me the first chuckle of the day - a piece about flooding involved Evan Davis interviewing a rather posh lady who explained that introducing beavers upstream can solve flooding problems downstream, as they build dams that slow down, and make the land hold 40 times as much water, thus saving other areas from flooding. Evan Davis replied that presumably if beavers could do it, then so could man? The bemused posh lady retorted "Well yes, but we don't have to pay the beavers any wages. They do it for nothing!" Priceless, in both senses! Anyway, on to serious matters, a couple of blue sky companies report developments;

Clean Air Power (LON:CAP)

Announces a funded development agreement with a global truck manufacturer to develop a dual-fuel engine for the South East Asian market. By "funded" I presume they must mean that the truck manufacturer is bearing all the costs, which is clearly a positive thing. Low emissions seem a key element of this project, which will run for an initial six month concept stage. There are no financial details given, so it's not possible to assess its impact. Although entry into a new market in Asia sounds positive.

The share price here has been weak recently, on no newsflow. So it could just be punters getting bored and selling up to chase other story stocks, which often happens in between newsflow & press share tips with this type of company. Or it could be informed selling by people who know that the company is not progressing well? We just don't know at this stage. This is the trouble with blue sky type companies - it's really just guesswork, and you can't tell whether it's going to work out or not, only time will tell.

On a general level, I've found that the more research people do on blue sky companies, and the more they (supposedly) understand the technology, all it does is make them less inclined to sell the shares once things start going wrong. The bulletin board expert on the company will still be clinging on to forlorn hope (and their shares) long after everyone else has realised that it's going nowhere, or is taking too long. Been there, done that! So I think it pays to…

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SevenPillars

10th Feb '14

The warning that should go out to anyone interested in IIika right now is starring people in the face on the chart. A massive blue sky story spike up in the share price, 20p a few weeks ago up to 80ish and then down to below 60 on a bit of a sell off, back up to around 67p today. Just look at Clean Air Power. Last July to August, CAP had a massive ramp up from 7p to 14p and then the no news sell off came, including one day last week when there was an almost 20% spike down in the price to 6p that had little or no justification to it at all. That's a nasty downward trend for anyone caught up in it when it was being talked up at 14p.

This is one of the big problems in buying into a "blue sky" or "story" stock whatever phase they may be at. There is a tendency on good news for an awful lot of ramping to go on and investors get tempted in because they fear they may get left behind on what is a great story or great technology. Zanaga Iron Ore was another one recently. Fantastic mining story stock with a "world class" project that went up from around 15p to 30p on the Glencore story only to fall back to around 16-17p today when there is no news and those who rode it up take their quick profits leaving the investors holding the baby and hoping that the story still has life. Zanaga was over 200p not so long back, so if the project never comes off there is a chance that investors will be wiped out.

All of the above companies have something going for them, but investors need to be aware of the pitfalls of buying into short term price action strength, as more often than not a relentless sell off follows such spikes. Sometimes not only DYOR but also waiting for the inevitable is necessary (the sell off doesn't always come and sometimes momentum takes things up much higher, but sods law being what it is you will pick the one that reverses).

Paul Scott

Hi SevenPillars,

Absolutely, I agree, which is why I peppered my comments with numerous wealth warnings!

With blue sky stocks I find there are three types of investors - firstly those who trade the big moves (ramping on bulletin boards, and then selling into big spikes). Secondly, those who get sucked into buying after big moves, and thirdly those who take a long term view and buy at a price they think is reasonable and wait to see what happens.

I put myself in the third category, although I'm also happy to top-slice positions after very big moves upwards.

The key thing is to keep focussed on the market cap, and the likelihood of commercial success (difficult to measure, but you can make various estimates, upside case, downside case, etc). To my mind, a good story with large potential markets, at a reasonably advanced stage, with a market cap of under £30m, is worth considering. Once the market is above about £30m, especially if it's a lot above, then you have to be much more sceptical, as the shares are not likely to go up appreciably without something concrete in terms of revenue growth.

The other vital thing is cash holding, and cash burn. Ideally a blue sky company should be fully funded, with no need to raise more cash. However, if it does need to raise more cash, then that will dilute the upside, and if it burns a lot of cash & repeatedly raises cash, then the upside can melt away almost completely - .e.g. look at the many micro caps that have hundreds of millions, or billions of shares in issue - that's because they had to keep raising cash at lower & lower share prices, as holders got diluted down to close to zero.

Every now and then though, investors find something that can be a multi-bagger, and that's why it's an exciting area to look at in a bull market. Ilika is a credible stock in my view, with commercially viable projects that are being partly funded by major multinationals. So it's worth a look. Also the people are academics, not spivs. They're much more commercially focussed than most academics too. It's high risk, but at about £30m market cap, worth a look in my view (I hold).

Zanaga - yes the share price movements have been extreme, but the project is highly credible, as it's huge, and being jointly developed with Glencore. The share price is not a good indicator of likely success, as people just get bored & move on, in between newsflow. Also remember it has a significant cash balance, so even if the Congo project doesn't happen, there will still be a shell with cash and world class management, so another project will be found no doubt & the whole process starts again.

Having said all the above, I do think it makes a lot of sense to top-slice blue sky positions into big price spikes, as you then have locked in gains, and have cash available to buy on the dips. The other thing to consider is the timing of newsflow. Zanaga should be reporting on the Feasibility Study fairly soon (late March or April), so that has to be taken into account.

It's not for the feint-hearted by any means, but in a bull market I think there is mileage in looking for the odd bit of speculative stuff to sprinkle on the top of an otherwise boring, steady portfolio! It's a waste of time in a bear market of course, as everyone is too cynical & gloomy about future prospects, which is what these shares rely on, as you can't value them on profits, as there aren't any.

Regards, Paul.

Gostevie

Hi Paul,

Thanks as always for these superb daily reports.

One quick question for any readers who may know the answer. I was under the impression that final dividends were proposed by the Directors but were always subject to approval by the shareholders at the AGM before being paid.

Today however, I see that Catlin (LON:CGL) has announced a final dividend along with its results, with the wording suggesting that it is a 'done deal', especially with the XD date being as soon as next week, and payment in March.

http://www.investegate.co.uk/catlin-group-limited/cgl/dividend-declaration/201402100900026594Z/?fe=1&utm_source=FE%20Investegate%20Alerts&utm_medium=Email&utm_content=Announcement%20Alert%20Mail&utm_campaign=Catlin%20Group%20Limited%20Alert

No mention at all of the usual "subject to shareholders' approval" and a date for the AGM hasn't even been announced yet.

Am I getting the wrong end of the stick here (most likely!) or might it be something to do with them being registered in Bermuda rather than in the UK. Just curious really.

Many thanks,

Steve

Damian Cannon

Hi Paul,

Latchways (LON:LTC) is an interesting case as it really does have a bomb-proof balance sheet with all liabilities (current and non-current) covered not just by the current assets but by the cash in the bank (6,481 compared to 10,373). Remarkable really.

However this is a big drop in profits (operational gearing in reverse) and it leaves the dividend of around 40p being a lot less covered (if the EPS is around 50p) than is the norm for the company.

I do wonder if this IMS is the canary in the coalmine for a lot of construction related companies though given that they state "Less positively, our traditional commercial construction-facing business has been subdued over the winter in the UK and Europe.". Perhaps the poor European weather, and general economic malaise, is going to make a number of profit forecasts look foolish in this sector?

Damian

Ramridge

Hi Paul. Re. IKA. As you and a number of contributors have underlined, breakthroughs are exciting but you have to keep your feet on the ground and not get carried away. In the case of IKA, the news of developing lighter, more powerful batteries was first put out on 18 Nov 2011, yes, more than 2 years back. The price duly spiked over 30%. and then fell back gradually.Then again further news was put out in December 2012, that their collaboration with Toyota was being extended and that again led to a spike. The latest news in Dec/ Jan this year has further rocketed the shares. The point is that breakthroughs and disruptive technologies do not happen in a flash. Normally there is a lot of pain in terms of research & development costs, blind alleys, scaling up barriers and long lead-time-to-market before they become commercially viable. The quest to find the holy grail of lighter, more powerful batteries by an order of magnitude is work in progress with a number of companies across the world. IKA is in the race and may well become the 'winner'. As an investor, I will buy a small stake when the price comes down after the hype, as a long term holding with a clear expectation that it is a 1/100 gamble.

cig

On Ilika (LON:IKA), it does look somewhat interesting but trying to kick the tires I remain unconvinced:

- Material science takes ages, will the current wave of investors be ready to wait until 2020-2025? I have the impression that most recent investors are looking for a quickie and not a long term relationship.

- It's not obvious they have something so unique that it can't be reproduced by another team of materiel scientists.

- The odds of success are pretty low given there are hundreds of battery tech startups around, including quite a few in the narrow sector of solid state lithium ion from a superficial google. If there's a major breakthrough there will only be one winner. If there's no clear winner those with valuable incremental improvements will each get only get a slice of the (arguably large) market.

- I don't like the style of the their news releases. It seems low on hard facts and peppered with muppet-triggering phrases. Case in point with today's update: one of the contracts part of their £1m/year revenue has been renewed, but it is too small to tell the amount. Is that news? The "world's first solid state battery" release title is technically a lie and requires a lots of qualifiers to be true. Has anybody met the management? Are they genuine slimeballs or is it just a case of over-enthusiastic PR?

- Who are the warrant holders? What it they simply dump the shares?

dhh1

cig,

I think the "world first" they claim is the method of producing the solid state batteries, not the batteries themselves.

Hi Cig,

Yes, I've met the management, and seen their facility in Southampton. Your depiction of them is wildly inaccurate!

It's a serious & sensible team of scientists & commercial management, who seem to be on the cusp on commercialising their materials & their unique method of creating new materials. It's the imminent nature of licensing deals that has whet my appetite. If it was just blue sky, then forget it - as others have pointed out (and indeed I did in the main article above, which was pointing out all the problems with blue sky investing, rather than talking anything up!), blue sky companies usually take much longer (if at all) to commercialise their ideas, and usually several fundraisings late too. So it's a problematic area.

That's why I look for imminent commercial sales. CAP are already making sales, so it's now just a question of whether they can scale up sales. If they can, then it will be a multi-bagger. If they can't, then it will be another Torotrak, just chugging along year after year, promising the world, and getting effectively nowhere in commercial reality. Then eventually finding something else to develop instead, and keeping everyone in jobs.

Ilika is supposedly only months away from signing commercial licensing deals with major multinational companies, so that again makes it interested because things should happen with a reasonable timescale. There are never any guarantees, but my view is that a group of academics such as Ilika are less likely to lie to me than a group of general bods who happen to want to develop some new product.
I do completely take the point about the price looking unattractive now though, given the spike up in share price, and that the same pattern has happened before. You pays your money (or not!) and takes your choice.

Cheers, Paul.

William Partridge

A very sensible and balanced view Paul. This moved post some very positive company statements rather than a spike from a bulletin induced board tip!

jonesj

I saw many trucks running in SE Asia with a rack of natural gas cylinders behind the cab last month.

http://gnvmagazine.com/eng/noticia-hino_motor_thailand_launched_the_fl1j_ngv_truck-1372

Clean Air Power would have to declare a USP for me to invest. Preferably a technological advantage backed up by watertight & valuable patents.
They claim to have "patented the use of CAN for duel fuel applications". Does this patent have the necessary "inventive step", considering CAN is the standard method of communicating between ECUs on nearly every car on the road ?

kenobi

12th Feb '14

The stockopedia page is showing a divi for cap of 9.5% surely some kind of mistake or you would have mentioned the stonking yield associated with this stock ? Sounds like the kind of growing company that wouldn't normally pay a divi at all, is that right ?

18th Feb '14

News today that Clean Air Power has won a "major order".

http://www.stockmarketwire.com/article/4758024/Clean-Air-Power-wins-major-order.html

Small Cap Value Report (10 Feb 2014) - CAP, IKA, LTC

Clean Air Power (LON:CAP)

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Paul Scott

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