Small Cap Value Report (12 Aug) - DLC, SIV, RNWH, AUK, PHD

Good morning! Let's start with interim results from a company I've always liked, Delcam (LON:DLC 1610p). They are a British CAM (computer-aided manufacture) software company. For the six months to 30 Jun 2013, turnover rose 9% to £25.0m. Pre-tax profit rose 35% to £2.8m, , and basic EPS rose 18% to 30.8p. An unusually low tax charge in last year's first half is the reason that EPS rose less in percentage terms this year compared with the larger rise in pre-tax profit.

There seems to be an H2 bias to trading, and they emphasise that Q4 is important to their full year results. So given that H1 saw basic EPS grow from 26.2p to 30.8p, being a 4.6p increase, then it would be reasonable to assume the full year result is likely to be around 10p higher, on top of last year's vasic EPS of 58.2p, that means I reckon the full year 2013 should be around 68p per share. So broker consensus of 64.2p is looking a little pessimistic.

However, at 1610p the shares have already factored in a lot of future growth, and I make that 23.7 times the higher figure of 68p EPS which looks likely for this year. You would really need to be very confident that growth will continue to be strong to pay up that kind of multiple. I can't get anywhere near to that sort of multiple, and personally I would only pay about 15-16 times earnings at a stretch if I was convinced that nothing could go wrong. So whilst shareholders have done extremely well to date, they need to be clear that the company is now priced to perfection, so if anything does go wrong, the shares would probably halve overnight, because the more highly rated a company is, the bigger the percentage fall when something does go wrong.

The outlook is "very positive", and they confirm full year expectations. Also there is a very high R&D spend, which is always a good sign in my view. New products include software for controlling robots in manufacturing. Sounds intriguing.

The Balance Sheet is strong, with £11.2m in net cash, although most of that has come from up-front payments from customers. Investors differ in how to treat deferred income, but for me, it has to be offset against cash when calculating the enterprise value.

So my conclusion is, Delcam is a smashing company, but the shares are too expensive for me at this stage.

 

 

 

 

ST Ives (LON:SIV 165.5p) issues a positive trading statement this morning, saying that full year results (y/e 2 Aug 2013) are set to be in line with market expectations. Broker consensus forecast is for 16.2p EPS for the year, so at 165.5p these shares look good value still, at first glance, with a PER of 10.2. It looks like a strong turnaround, compared with lacklustre performance in the last few years.

The dividend yield also looks good at St Ives, being 3.8% yield based on the 6.3p forecast payout. I haven't checked the Balance Sheet for the latest net debt or whether there is a pension deficit, but providing those issues are OK, then these shares might be worth a look.

The key issues are, what has driven the turnaround, and is it sustainable?

 

 

 

 

Shares in Renew Holdings (LON:RNWH 120p) have put on a good spurt in the last month, and today it announces what seems to be a sensibly-priced acquisition. The deal is to buy a company called Lewis Civil Engineering Ltd, for £7.9m in cash (being financed by existing cash, and an overdraft from HSBC). It should bolt on turnover of about £25m, and operating profit of about £1.2m, which looks a sensible deal.

Renew was one of the shares flagged up on my Blog, where I keep a list of companies that look good value, for further research. There have been plenty of good winners in that list so far this year, and only one serious mistake. So even allowing for the fact that we're in a bull market, it reinforces my belief that a value-based approach of not overpaying for good solid companies only, should out-perform in the long run.

This value approach should also out-perform in market downturns, since by contrast it tends to be the richly priced fad stocks that are massacred in market corrections, especially where lots of short term traders are bunched together in highly geared Spread Bet positions, which create sudden plunges in share price when the SB companies begin forced closures of client positions, which then triggers further price falls, in a vicious circle.

These risks are particularly prevalent after a long period of strong performance in the market, as we have seen. As Warren Buffett told us, we should be fearful when others are complacent, and vice versa. So now is a time to be worrying about risks & possibly taking some money off the table from stocks that have risen a lot, in my opinion.

 

 

 

 

Shareholders in Aukett Fitzroy Robinson (LON:AUK 5p) will be popping the champagne corks today, after a remarkable 60% rise in share price, triggered by a positive trading statement. It is a design consultancy, so should benefit from an improving economy. Today's statement says that profits for y/e 30 Sep 2013 "will be comfortably higher than previous expectations".

Existing forecasts are for 0.2p EPS, so the jump in price today to almost 5p is looking pricey based on just this year's profits, so the market is now anticipating further increases in profit. I've not looked at this company before, as the market cap is so small (currently about £7m after today's price increase), but it's a good example of the spectacular gains you can make from tiny companies which are off the radar. Although there are also massive risks in this space - the main one being that the company will de-List, which instantly halves the share price usually, and of course big problems with liquidity in the shares, and horrible bid/offer spreads.

Selectively though, I might start looking at some sub-£10m market cap companies, if anything interesting crops up on my radar. Am not sure about writing about them here though, as even one or two small buys could move the price, and you then get into the grey area where people start accusing you of front-running, if you write about a share you already hold, and all that sort of nonsense. Not worth the hassle to be honest, so I'll probably stick to >£10m market caps most of the time in these reports.

 

 

 

 

Next I've been looking at Proactis Holdings (LON:PHD 24p). It's a small software company whose products are for spending control & eProcurement, which is an obvious growth area that I'd be receptive towards investing in. Shares in Proactis popped up on my radar because of a positive trading statement today, which has triggered an 11% rise in share price to 24p. This values the company at about £7.5m.

Their trading update today relates to the year ended 31 Jul 2013, and indicates that turnover is expected to be £8.0m, with adjusted EBITDA of £1.3m, and adjusted profit before tax of £0.6m. Which sounds great in the context of a £7.5m market cap.

However, as is often the case with software companies, EBITDA is simply not a reliable measure of profitability, since they capitalise ongoing overheads, of which £537k in development costs was capitalised in just the first half. So that's a highly material figure for the full year, annualising it gets to almost £1.1m of capitalised costs, which wipes out almost all of that EBITDA.

So to my mind, the underlying trading picture is probably nearer breakeven. Also, they have not really delivered any growth, since turnover has been stuck at around the £6-8m range since 2008. So on closer inspection, I've gone off this one & won't be investing. If they could show some decent growth, and some real profits, then I'd be happy to look at it again.

 

 

 

That's it for today, see you same time tomorrow!

Regards, Paul.

(of the companies mentioned today, Paul has no long or short positions)