So coming from a position of relative strength, boards of many companies now have greater flexibility to tap both the debt and equity markets to make complimentary bolt-on acquisitions of smaller rivals. And that’s relevant to me right now because not one, but two of the companies on my watchlist have been the subject to merger & acquisition activity this week.
NCC snaps up Accumuli
Aim-traded Accumuli (ACM:30.5p), a leading independent specialist in IT security and risk management, has received a recommended cash and shares bid from cyber security rival NCC (NCC:205p). Shareholders are being offered 5.97p a share in cash and 0.1218 new NCC shares for each Accumuli share held, valuing the equity at 31p a share using NCC’s latest market price. That’s in the middle of my target price range 30p to 33p and around the level when I last updated the investment case (‘Small cap tech wonders’, 19 January 2015). It also represents a solid increase on the 23p recommended buy in price when I initiated coverage ('Profit from cyber warfare', 23 April 2014).
Moreover, the bid is likely to succeed because shareholders accounting for 57.7 per cent of Accumuli’s issued share capital have already indicated that they will vote in favour of the scheme of arrangement. The acquisition certainly makes commercial sense for NCC as it will help the group to expand its development teams, bid for projects where it needs to partner with an organisation such as Accumuli in a sole capacity, provides an opportunity to develop its core consulting business across a wider customer base, and engage with this enlarged client base on a regular rather than project by project basis.
There is commercial logic for Accumuli to be part of a much larger enterprise too given that the cyber security market is becoming increasingly competitive as it develops. As a consequence, customers are now looking for the type of round the clock operational security support and incident management offered by Accumuli in addition to NCC’s consulting capabilities. Consequently, Accumuli’s client base should reap the benefits from the extra services and broader geographic coverage that it will be able to offer as part of larger enterprise, giving it greater ability to grow its business than would otherwise be possible if it were to remain an independent company.
Importantly, the exit price seems fair at around 19 times Accumuli’s likely earnings for the fiscal year to end March 2015 based on NCC’s share price of 205p post the announcement. True, NCC shares are higher rated at 22 times earnings for the fiscal year to end May 2015, falling to around 17 times consensus for the following fiscal year, a valuation that is hardly cheap, but neither is the rating of Accumuli. The prospective dividend yields of 2 per cent on both shares are similar.
The bottom line is that with shares in Accumuli being priced on a bid-offer spread of 29p to 30.5p, it makes sense to take-up the NCC offer worth 31p a share given the unlikely possibility of a higher counter bid emerging.
Getech profit recovery and bolt-on deal
Aim-traded Getech (GTC:49p), a geoscience company specialising in the provision of data, studies and services to the oil, gas and mining exploration sectors, has announced the smart looking acquisition of ERCL, a Henley-based company employing 26 consultants operating in the specialist upstream oil and gas sector (www.ercl.com).
ERCL was formed at the start of last year following the merger of two businesses, Exploration Reservoir Consultants and SAER, and has a well respected board of directors all of whom have been working in the industry since 1971. Specifically, ERCL works closely with governments and national oil companies to provide strategic and advisory services, together with associated license round management, capacity building and training, data management and multi-client products. The business also provides geo-technical expertise to oil companies for exploration and development projects, and to service companies on a proprietary basis.
It’s a highly profitable business too as in the first year of operation, ERCL reported pre-tax profits of £1.2m on revenues of £3.8m, albeit this was boosted by exceptional contributions from work in Africa. The acquisition has been sensibly structured, funded by an initial cash consideration of £1.75m, the issue of £1m of Getech shares with a lock-in until 13 April 2016, and an earn-out of £1.55m based on ERCL’s profit performance over the next three years. And although Getech has just reported a £1.3m hike in its net cash position to £4.7m since last summer, the company has agreed a four-year loan of £1.1m with its bankers at a margin of 2.04 per cent over base rate and secured on the company’s Leeds office building. As a result, the upfront cash consideration is only £650,000. In addition, as the 2.17m new shares issued to ERCL’s vendors only represents 7 per cent of Getech’s issued share capital of 30.3m shares, then the acquisition will be significantly earnings enhancing.
Factoring in the contribution from ERCL in the current financial year to end July 2015, analyst Eric Burns at house broker WH Ireland has upgraded Getech’s full-year pre-tax profit forecast by £100,000 to £2.3m on revenues of £9.3m to produce EPS of 5.9p, a 7 per cent upgrade. This looks a sensible forecast to me and one that also factors in the contribution from a $5m (£3.3m) contract with Angolan National Oil Company, Sonangol, announced in September 2014 and the largest in Getech's history. The majority of the revenue from that contract will be earned in the current fiscal year. Furthermore, after factoring in a full 12-months' contribution from ERCL in the financial year to July 2016, Mr Burns predicts Getech should be able to lift revenues by £2.7m to £12m to drive pre-tax profits up by £700,000 to £3m. On this basis, expect EPS of 6.9p, a hefty 21 per cent upgrade.
Strong recovery
The upgrades aside, Getech is also in strong recovery mode: this week’s financial results showed pre-tax profits more than trebled to £700,000 on a 16 per cent rise in revenues to £3.6m in the six months to end January 2015. Given that current trading is inline with analyst estimates for the full-year, then this means Getech is well on course to double its second half pre-tax profits to £1.6m.
In other words, Getech is a rare breed: a company exposed to the oil and gas industry that is enjoying earnings upgrades. And since ERCL is complimentary to Getech’s existing businesses, then there should be cross selling opportunities across the enlarged client base. True, there is the ongoing impact of the declining oil price on capital spending plans in the upstream sector, and the cyclical reassessment of discretionary spending plans by oil and gas companies, both of which contributed to Getech’s profit shortfall in 2014. But these factors are now being more than offset by the increasing interest in its product suite from national oil companies and from data sales in the US (where exploration spending is high).
It’s an attractive mix and one that supports my decision to initiate coverage when the price was 45p (‘Exploit a share price break-out’, 10 February 2015). In fact, the investment case is stronger now as post the ERCL acquisition, Getech will have net funds of around £2.45m which is only £700,000 less than in July last year, but is acquiring a business that is expected to generate £700,000 of annual pre-tax profits in its first full-year under ownership. Rated on less than six times fiscal 2016 earnings estimates net of pro-forma cash of 9p a share, Getech shares rate a strong buy with a target price of 67p, or 9 times cash adjusted earnings.
A smart operator
Shares in Aim-traded Faroe Petroleum (FPM: 79.5p), an independent oil and gas company primarily focused on exploration and production (E&P) opportunities in Norway and the UK, gushed up as anticipated after the price signalled a chart break-out above the 71.5p level (‘A slick operator’, 6 February 2015). Although the initial surge failed to hit my target price of 94p - the price peaked out at 84.5p - I feel that there is scope for another stab at this resistance level as the share price retraces the steep decline from last May’s highs in a more supportive oil price environment.
There have been a number of positive developments to suggest investors are being overly cautious in valuing the shares at a discount to book value of 91p. Firstly, Faroe has a cash rich balance sheet, having ended last year with net funds of £69.6m after factoring in the £23m drawn down from a reserve based lending facility of £160m. The company also has a £130m exploration finance facility.
Secondly, Faroe’s board issued guidance in this week’s financial results that based on average prices of $60 a barrel for oil and 45p a therm for gas, the company aims to run a cash-neutral budget in 2015. Bearing this in mind, and reflecting an effective hedging programme, and the inherent tax offset mechanism in Norway whereby the company can reclaim 78 per cent of its exploration expenditure, Faroe’s projected 2015 cash balance is not overly sensitive to commodity price levels below the aforementioned levels.
That’s because 58 per cent of Faroe’s current fiscal year post-tax production is hedged out at $89 a barrel and 50p a therm for gas. The current spot UK wholesale price is around 46p a therm for gas and $56 a barrel for Brent crude. That’s not far off the levels at which the company’s exploration budget (£26m post-tax for 2015), and development budget (£17m in 2015) will be cash neutral given that Faroe expects average operational expenditure to be around $30 a barrel this year. The company averaged net accounting production of 6,500 barrels a day in 2014, the cashflow from which is recycled back into what has proved to be a highly successful exploration programme.
In other words, the company is in a very strong position to deliver on its low-cost, high impact exploration programme by drilling four wells including two follow up wells on its Pil oil discovery in the Norwegian Sea where Faroe has a 25 per cent interest and VNG is the operator. Faroe is also in a strong position to capitalise on value-enhancing production acquisitions by exploiting the financial weakness of less well capitalised rivals who have been impacted by the sharp fall-off in the oil price since last summer.
It’s worth pointing out that one of the positives to emerge from the collapsing oil price for the E&P sector are signs of lower costs associated with the drilling of wells, developments and operations of producing fields. Governments have also taken action to boost the industry. In last week’s Budget, Chancellor of the Exchequer George Osborne introduced an investment allowance for North Sea operators and reduced the supplementary tax charge from 32 per cent to 20 per cent.
In the circumstances, I feel that another attempt at a run up to the 94p resistance price level is a distinct possibility and rate Faroe shares a trading buy on a bid-offer spread of 79p to 79.5p.
MORE FROM SIMON THOMPSON...
Please note that since the start of March I have written articles on a total of 44 companies, all of which are available on my IC homepage... and are detailed in chronological order below with the relevant web links for ease of reference.
■ Non-Standard Finance: Buy at 103p ('A non-standard investment', 2 Mar 2015)
■ WH Ireland: Buy at 92p, target 140p ('A non-standard investment', 2 Mar 2015)
■ Software Radio Technology: Buy at 31.25p, target range 40p to 43p ('On the radar', 3 Mar 2015)
■ Vislink: Buy at 48.5p, target 60p ('Tapping into e-commerce profits', 4 Mar 2015)
■ Sanderson: Buy at 68p, target 80p to 85p ('Tapping into e-commerce profits', 4 Mar 2015)
■ Town Centre Securities: Run profits at 292p ('To bank profits or not?', 5 Mar 2015)
■ Sutton Harbour: Buy at 36.5p ('To bank profits or not?', 5 Mar 2015)
■ Housebuilders: Run profits on Persimmon, Bellway, Barratt Developments, Taylor Wimpey, Berkeley Group. Bank profits on Crest Nicholson, Bovis Homes, Galliford Try and Redrow. Buy Inland at 64p) ('Housebuilders: trading gains', 9 Mar 2015)
■ Walker Crips: Buy at 47p; Henry Boot: Buy at 232p; H&T: Buy at 179.5p; Nationwide Accident Repair Services: Buy at 85p; Communisis: Buy at 56p; Global Energy Development: Speculative buy at 44p ('Six-shooter of small-cap buys', 10 Mar 2015)
■ Stadium: Run profits at 123p; Pure Wafer: Hold at 42p ('Electrifying shares', 11 Mar 2015)
■ CareTech: Buy at 230p, target 300p ('Time to take care', 16 Mar 2015)
■ LMS Capital: Buy at 77.5p; Globo: Run profits at 55.5p; Trifast: Buy at 99p, target 140p ('Exploiting currency moves', 17 Mar 2015)
■KBC Advanced Technologies: Buy at 87p, target 165p; K3 Business Technology : Buy at 227p, target 275p; Fairpoint: Buy at 123p, target 190p ('Blow out results', 18 Mar 2015)
■ Charlemagne Capital: Buy at 10.75p; Bloomsbury Publishing: Hold at 155p ('Below the radar', 19 Mar 2015)
■ Redde: Buy at 108p, target 125p ('In the fast lane', 23 March 2015)
■ Pittards: Buy at 137p; Crystal Amber: Buy at 152p; Record: Buy at 35p; Arbuthnot Banking: Buy at 1,420p; Inspired Capital: Buy at 17p; Stanley Gibbons: Buy at 257p (‘Bargain shares updates 2015’, 23 March 2015)
■ Simon Thompson's 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 stockpicking'
