Small Cap Value Report - Weekend Of 22-23 Oct 2016 - SOLI, UTW, AFN, TSTL

22nd Oct '16 by Paul Scott

15 comments 12842 reads

Good afternoon!

It's been such a hectic week, charging around going to meetings & investor lunches, etc, that I missed a few company updates. So to clear my conscience, thought I would write a bonus report this weekend, to catch up.

Solid State (LON:SOLI)

Share price: 457p
No. shares: 8.5m
Market cap: £38.8m

Trading update - nothing to worry about here, it's an in line with expectations market update;

The Group expects to announce results for the half year;

ahead of the equivalent period in 2015, and
consistent with market expectations for the year as a whole, and
a strong debt free balance sheet.

The Group had an order backlog at 30 September 2016 of £14.8m, comprising £12.7m of underlying revenue and £2.1m of Creasefield revenue, acquired in June 2016, (30 September 2015: £14.2m - excluding discontinued SEMS division Ministry of Justice revenue of £3.5m).

The £12.7m underlying order backlog seems to be down against the equivalent £14.2m last year.

Note that the agreement with the MoJ over the cancelled contract, has all been settled now, which resulted in SOLI gaining an undisclosed cash amount.

The group has made some small acquisitions, which are going well;

The Board is pleased to announce that both acquisitions made in the 2015/2016 financial year are substantially integrated, performing well in their own markets and demonstrating synergy benefits with the other divisions in the Group.

Valuation - broker consensus EPS forecast seems to have settled down, after some large reductions in the last 12 months, due to the MoJ contract ceasing;

Based on the current share price of 457p, that equates to a PER of 10.8 - that seems reasonably good value, in a generally quite pricey market right now.

Balance sheet - I've checked back to the last published accounts, and note that SOLI has a reassuringly strong balance sheet, which moved into a net cash position after the MoJ settlement.

So no concerns there at all, it's a soundly financed business.

Dividends - there's a well-covered (about 3.5 times) yield of about 2.6%.

My opinion - overall I think it looks priced about right. This type of business isn't an exciting growth stock, it's a fairly dull contract manufacturer & distributor. So to my mind that means a PER of about 10 is probably right. Every now and then there's likely to be…

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rhomboid1

22nd Oct '16

Hi Paul

I hold Solid State (LON:SOLI) in some size , the reason I bought was the MoJ settlement that created a net cash position. I think what you may have missed is just what a strong business model they have , they say "Solid State PLC (AIM: SOLI) is a high value-add manufacturer and specialist design-in distributor to the electronics industry. It has particular expertise in computing technologies, electronic components, secure communications and batteries."

The results from these niche areas are quite special imho , over 5 yrs turnover CAGR is 15.8% , EPS is growing at 26% and ROCE is c.30%

I cannot see anything else out there with more attractive metrics, the Stockopedia bots agree as it appears on 8 screens, only a couple of cyclical housebuilder shares do better than that.

I like it a lot and bought a lot ....yer pays yer money etc

Paul Scott

Hi Rhomboid1,

Interesting, but my impression is that Solid State (LON:SOLI) has bought in a lot of the growth, by making lots of small acquisitions. So I'm not sure how relevant or reliable the growth statistics are.

It would be interesting to strip out the acquisitions, and see what the organic growth has been.

Also, the last reported accounts are anomalous (i.e. an artificial spike up in profit), which the company describes like this;

Revenue for the year was £44.10m, an increase of 21% (2015: £36.56m). Profit before tax of £4.20m (2015: £3.01m) includes a one-off profit as a result of the settlement of the MoJ contract. These results provide an anomalous comparison to the prior year, and will equally provide an anomalous comparison this time next year when we announce our results for the 2016/2017 year.

Don't get me wrong, I don't dislike SOLI. It looks OK - but nothing special, in my view.

The trouble with this type of company, is that every now and then you wake up to read a horrid RNS, saying some problem has arisen with a contract, and you've lost 30% of your money. The chart illustrates the point - some gut-wrenching moves down. For this reason, I think stocks like this probably shouldn't be rated any higher than a PER of about say 12. This is a bit below that, so it could have maybe 10-20% upside from here? That's OK, but not enough to motivate me to want to buy any.

Will it benefit from weaker sterling do you think?

Regards, Paul.

Hi Paul

You're right that Solid State (LON:SOLI) has grown significantly through bolt on acquisition, usually this is a recipe for trouble as normally there is associated debt. Here there is net cash. What they do is try and embed themselves more thoroughly ( by bolting on associated businesses) into the supply chain for larger mission critical products that are in large part exported , only 6m or so of 44m of turnover last year is directly exported but the majority of their customers are exporting the majority of their output so there is an indirect but important exposure to a lower £

Consistently achieving ROCE of 20 to 30% is rare and to my mind worth paying up for,as an illustration Renishaw who Solid State (LON:SOLI) supply achieves a lower ROCE & lower growth and sit on a PE of 25.

Additionally as Solid State (LON:SOLI) grow they are becoming more diversified and less exposed to the kind of earnings shock you allude to so I can see major upside over time,.

Cheers

FREng

rhombold

Have you analysed the Earnings Manipulation Risk (Beneish M-Score) for Solid State (LON:SOLI) to see whether the risk factors are a reason for concern?

Hi FREng

Yes I've looked at it , the MoJ settlement created the confusion.

Cheers

Thanks. Does SOLI's business overlap with Concurrent Technologies (LON:CNC) ?

I'm not familiar with Concurrent Technologies (LON:CNC) but they look to be in a rather different space and more PCB type stuff using Intel chips, so much less bespoke and higher volume but lower margin with less IP leverage

Wol

24th Oct '16

Paul
Many thanks for the bonus report. Almost as good as a special dividend. And extra thanks for revisiting Tristel and giving such a clear explanation of the difference between the reported profits and the adjusted profits. "management seem to have basically nabbed all the increase in profit for themselves". I wish some other journalists could be as clear. Is there any way of knowing whether all increased profits will disappear in this way or whether this is the type of bonus that gets triggered once every three to five years, in which case any increase in profits next year should flow through to the reported as well as the adjusted EPS.
If you know the film "This is Spinal Tap" (and if you don't then you should, it's a classic) there is an interesting parallel here with what the Financial Times calls Hollywood Accounting. Harry Shearer who played the role of bass player Derek Smalls in the film is suing the rights owners. His contract entitled him to a share of the 40% of the net profits of this very successful film. So far he has received less than $200 for merchandising income and soundtrack rights. Too many company directors seem to have learned the secrets of Hollywood Accounting leaving shareholders with whatever is left.
Julian

IvyEileen

I gave up as a subscriber to ADVFN as it became a thorough nuisance. You pay a high figure for screen information on shares, their prices etc but your viewing is interrupted by pop-ups and every time you change a page more pop-ups intrude, so you have to remove them in order to read what you want to look at. It takes time and is irritating. However, when you complain, ADVFN invite you to pay for a pop-up blocker service. So you are invited to pay again in order to be able to read what you have already paid for ! And I know of other subscribers who have complained of the same irritation and received the same reply.

Hot Socks

rhomboid1- any idea what lay behind the extraordinary spikes in the share price of Solid State in 2015? Also, why is their forecast profit falling so much (according to Stockopeadia) over the next two years when forecast revenue is flat? cheers.

Hot Socks

Hi Hot Socks

The excitement was their involvement in a Home Office tagging scheme;

http://www.investegate.co.uk/solid-state-plc--soli-/rns/finalised-contract-award-with-moj-for-approx--34m/201408050700152288O/

The subsequent plunge was when the contract got into trouble and was then canned. Solid State (LON:SOLI) were not to blame and got a hefty cash payment from the MoJ which dropped into this years p&l and obviously won't be present next year. I'm not sure how much credence to give analysts reports as I suspect they predate the recent acquisition.

Cheers

AnonymousUser252054

Hearing that the MoJ paid £4m NOT to use Solid State tagging equipment is very depressing, especially as it came so soon after signing the contract.

As for Utilitywise (LON:UTW), they've surged over 20% in less than a week, (being tipped by IC never hurts). The results were impressive, terrific organic growth and margins and a nice quick profit (15% in my case). Paul's accounting concerns (both previously stated and now) are duly noted. The idea that something may be fishy with the cash and bank debt numbers rattles me a bit, combined with the FO leaving. But, all things considered, I'd probably buy back in on a dip, and will kick myself if I never get the chance.

I'm guessing you've never been involved in public sector procurement then...it seriously is another world. For Solid State (LON:SOLI) to emerge with a chunk of cash is testament to the fact that the fault lies elsewhere, thank goodness it's only taxpayer cash

Funnily enough rhomboid I am involved in public sector procurement, at the local level, and for the MoJ, (my role is the lowest of the low, though, just submitting orders and maintaining records for the audits). Although I don't make the decisions I hate spending taxpayer's money and always advise against purchases if we can possibly do without and try to get the best deal when we do have to spend. We've significantly underspent our allocation for several years so we mostly have a shared mindset. I really hate hearing when at a national level money has been squandered, and when procurement decisions that affect us all seem to be on such very poor terms and no-one at regional level seems particularly interested when I flag concerns. I'm sure Solid State are entitled to fair recompense, but to me it's just our money down the drain.

hah..that'll teach me to make assumptions!

Seriously I'm not aware of the detail as the company haven't RNSd it (as it's covered in an NDA) but my instinct says that if there were problems with Solid State (LON:SOLI) product they'd have received nothing.

I'm just happy that the negative sentiment around the issue drove the share price down to a great entry point for me.

The wider point over public sector procurement is that your approach is not shared by all, I remember one public sector customer in a past life ringing me in a panic as he'd transposed 2 numbers on an internal document and he wanted me to invoice at a substantially higher level to cover his mistake. I said it'd look very strange but I'd happily take the extra margin . It transpired he had other plans and he suggested that we'd be unlucky in the next sealed bid round.

Small Cap Value Report - weekend of 22-23 Oct 2016 - SOLI, UTW, AFN, TSTL

Solid State (LON:SOLI)

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Paul Scott

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