Netplay TV's share price chart is ugly, but there is no getting away from the fact that the shares are massively oversold. The 14-day relative strength indicator is on the floor and is now reading 20. There is also a major support level just below the current price at around 13p, representing the break-out point I noted when I initiated coverage 18 months ago. I am not at all sure that support will be tested as the shares are so oversold a bounce looks imminent at the very least. Furthermore, from my lens at least, and although I have failed to call the intermediate top correctly, there is far more upside potential than downside risk on investment grounds.
Today's second-quarter trading update revealed a 38 per cent rise in new depositing players and a third increase in quarterly active depositing players. It was noteworthy that more than 50 per cent of all new customer registrations came from mobile or tablet, which highlights the importance of this channel in driving future growth. The trend here is obvious as 36 per cent of net revenue was derived from mobile and tablet in the second quarter this year, up from only 26 per cent at the same stage in 2013.
Admittedly, net revenue only rose 5 per cent to £7.4m in the latest three-month trading period, held back by the distraction for punters of the Fifa World Cup and a modest softening of marketing spend on Netplay TV's Supercasino brand on Channel 5. But now that the World Cup has ended, the directors believe that revenues will return to similar levels as seen at the beginning of the second quarter when Netplay reported strong trading.
It is also well worth noting that the business continues to grow its top-line which is important given that at the end of this year the UK government will be introducing a point of consumption (POC) tax. Netplay's board has already gone on record to say that if the new POC tax had been in place last year then this would have wiped £1.7m off profits. But the company is taking steps to mitigate the impact of the introduction of the new tax.
For instance, contractual offset agreements with suppliers, where revenue generated is linked to the amount payable to a supplier, have been amended so that the potential additional cost of the POC tax will reduce the amount payable to these suppliers. A consolidation of the company's UK and overseas operations into one location is being considered to take costs out of the business, too. NetPlay also looks well positioned to make market share gains in the inevitable consolidation within the industry as weaker players exit.
Unloved and undervalued
To put these factors into some perspective, last year Netplay reported revenues of £28.5m, cash profits of £5.2m, pre-tax profits of £4.9m and EPS of 1.6p. Post today's trading update, analyst Johnathan Barrett at brokerage N+1 Singer now expects current year revenues to rise to £31.6m, but cash profits to only edge up to £5.3m due to less efficient marketing returns as a result of increased competitor marketing ahead of the introduction of the POC tax. As a result pre-tax profits are forecast to be flat this year. And to fully incorporate the impact of the POC tax in next year's numbers, Mr Barrett predicts that both cash and pre-tax profits will be flat again in 2015 assuming revenues rise to £36.9m.
However, it's worth pointing out that this news is already fully factored into the current share price. That's because Netplay ended last year with £13.9m of net cash, or the equivalent of 4.7p a share. Moreover, with the benefit of robust cash generation net funds are expected to rise to £16.9m by the end of December this year, only £800,000 less than Mr Barrett had previously predicted. That sum equates to 5.7p a share. In other words, strip out net cash from the current share price and Netplay TV's shares are trading on a miserly six times this year's earnings estimates.
It's also clear that a company making cash profits of £5.3m in 2015 can easily pay last year's dividend of 0.5p a share, the cost of which is only £1.5m. It can also pay a raised payout of 0.6p a share this year as N+1 Singer forecast. On that basis, the shares offer a historic dividend yield of 3.3 per cent and a forward yield of 3.9 per cent. It's safe, too, because net cash currently accounts for a third of the company’s market capitalisation, and is set to rise to 40 per cent by the year end.
The undervaluation becomes even more pronounced on an enterprise value to cash profits basis. Deduct the likely year-end cash pile of £16.9m from Netplay's market capitalisation of £45m, and the company is trading on only five times cash profits. On any basis, Netplay shares offer value.
In the circumstances, and although the shares have fallen 9 per cent since my last update six weeks ago when the price was 16.75p ('Punting on a recovery', 3 June 2014), I feel that there is far more upside than downside to this lowly rated company on a medium-term basis. Ahead of the release of the interim results on 11 September, I would be looking to use the current weakness as a medium-term buying opportunity and one that offers almost 100 per cent upside to my fair value target price of 28p. On a bid-offer spread of 15p to 15.25p, I rate Netplay TV shares a buy.
■ Simon Thompson's new book Stock Picking for Profit can be purchased online at www.ypdbooks.com, or by telephoning YPDBooks on 01904 431 213 and is being sold through no other source. It is priced at £14.99, plus £2.75 postage and packaging. Simon has published an article outlining the content: 'Secrets to successful stock-picking'
