Clients of broking house Liberum Capital can see upside too as they have just stumped up £10.1m in a placing at the equivalent of 4.5p per existing share to back the company’s new investment strategy. SPARK’s current shareholders have an opportunity to get a slice of the action too as they are entitled to buy new shares on the equivalent of a one-for-six basis at the same price which will raise a maximum of £3.1m, although it could be less as the open offer is not underwritten.
A one-for-200 share consolidation takes place at close of business on Thursday, 6 August which means that the new shares will actually be issued at a price of 900p on the following day. Please note that the ex-entitlement date for the open offer is 8am on Wednesday, 22 July, so only shareholders who held the shares before this date can participate. There is also an excess application facility whereby qualifying shareholders can apply for additional new shares in the open offer over and above their pro-rata entitlements. The new open offer shares will be admitted to trading at 8am on Friday, 7 August.
New investment policy
The reason for the capital raise is to bolster SPARK’s cash resources so that the company can pursue a public equity investment strategy by applying private equity techniques to investing in public markets. There are currently over 1,200 constituents of the FTSE SmallCap and Alternative Investment Market indices many of whom have limited analyst coverage and often have limited access to growth capital too. It’s the main reason I specialise in this segment of the market given the potential for uncovering value opportunities that are being largely overlooked by the wider market.
So to capitalise on these investment opportunities, SPARK is appointing Gresham House (GHE: 275p), a small cap investing company with a market capitalisation of £26m, to be its new investment adviser and to replace its existing manager, Spark Venture Management Holdings. Although Gresham House currently invests in a mixture of property assets and quoted and unquoted securities, its’ directors intend to develop the company as a specialist asset management group.
SPARK will focus mainly on cash generative companies where there is scope for management engagement in order to identify and implement either strategic, management or operational changes. The ultimate aim is to create shareholder value in the investee companies and to generate improved equity returns. The key investments being considered by SPARK’s new investment board must have potential to generate a 15 per cent internal rate of return over the medium to long term, principally through capital appreciation.
The company intends to invest the majority of its capital in a concentrated portfolio of between 10 to 15 smaller UK and European publicly traded companies, normally with market capitalisations of less than £250m. The typical holding period is expected to be between three to five years. In addition, the company may also invest in privately held companies, primarily through equity and equity-related instruments, and also in preferred equity, convertible and non-convertible debt instruments. It will seek to acquire influential block stakes (typically between 10 per cent and 25 per cent) for cash or share consideration.
The upside for shareholders will be the prospect of dividends, share buybacks and capital returns as SPARK’s board intend to distribute 50 per cent of profits on realisations. And because the company has £150m of accumulated tax losses then it’s not going to pay corporation tax on these gains for a very long time. Importantly, there are risk management policies in place to limit exposure to any one company to no more than 15 per cent of SPARK’s portfolio and total bank borrowing to no more than 20 per cent of gross assets. This is only sensible to mitigate investment risk.
New investment committee
It’s therefore critical that SPARK’s investment committee is up to the job. On this score, I believe it is as the committee will be chaired by Tony Dalwood who established SVG Investment Managers and launched Strategic Equity Capital.
The members of the committee are Bruce Carnegie-Brown, a former managing partner at 3i QPE; Rupert Robinson, the former chief executive of Schroders Private Bank and head of private clients at Rothschild Asset Management; Graham Bird, a former fund manager and head of strategic investment at SVG Investment Managers; and Thomas Teichman, a stalwart of the venture capital industry with over 30 years experience. Mr Teichman was responsible for SPARK’s top performing investments in Kobalt Music, the world’s largest independent music publisher; online retailing market place notonthehighstreet.com; and mergers and acquisitions website, Mergermarket.
Asset swaps
To get the ball rolling Gresham House is investing £5m in new SPARK shares and is also undertaking one of the three asset swaps which will see SPARK acquire £3.8m of new investments in three listed companies as part of the company’s public equity investment strategy.
Firstly, SPARK is acquiring 2.06m shares in Aim-traded SpaceandPeople (SAL: 71.25p) from Gresham House for a consideration of £1.4m and in exchange for 151,250 new SPARK shares to be issued post the aforementioned share consolidation. SpaceandPeople is a £14m market cap company that facilitates and manages promotional space for marketing campaigns and retailing in shopping centres and other high footfall locations, such as theme parks and railway stations. The shares are trading on 12.5 times fiscal 2015 earnings estimates after factoring in a 40 per cent-plus recovery in profits this year, according to analysts at Edison Investment Research.
Spark is also acquiring 5m Aim-traded shares in fund manager Miton Group (MGR: 26p), a company I recommended buying shares in at 23p only three months ago (‘Poised for a profitable recovery’, 7 April 2015). River & Mercantile Asset Management is the vendor and will receive 145,833 new SPARK shares worth £1.3m, or 3.6 per cent of the enlarged share capital post completion of the placing, open offer and asset swaps.
Finally, the company has agreed to acquire 3.49m shares in investment vehicle Castle Street Investments (CSI: 39.5p) for 31.5p a share, or £1.1m in total, from Majedie Asset Management in exchange for 123,192 new SPARK shares, or 3.1 per cent of its enlarged share capital. This holding is worth £1.4m at current market prices. Castle Street is a cash shell with a market capitalisation of £28.5m. Its directors believe the company will have net funds in excess of £21.5m, or 30.5p a share, by the year-end and are currently considering a combination of cash returns and/or finding an attractive investment opportunity to propose to its shareholders. It looks a low risk investment at this stage for SPARK given the substantial asset backing.
Pro-forma net assets
The bottom line is that once you factor in the share placing, assets swaps and a full-take up of the open offer, I reckon that SPARK will have 3.98m shares in issue post the share consolidation early next month and on which its new net asset value will be based.
At the end of March 2015, the company had a book value of £22.6m, so once you factor in the payment of a £2.3m incentive fee to its former investment manager (as I discussed in my article on Monday), and a £4m gain on its shareholding in Aim-traded technology company IMImobile (IMO: 165p) since the last balance sheet date, I reckon that SPARK’S pro-forma net assets are about £41.5m after accounting for operating costs for the past 17 weeks. This means that book value is about 1,042p per SPARK share post share consolidation, or 5.2p a share pre-consolidation.
In terms of the investment portfolio, I reckon SPARK’s pro-forma net cash will be around £20.6m, before transaction fees associated with the fundraise; the investment in Aim-traded IMImobile is worth £16.8m; and the holdings in the three asset swaps are worth £4.1m at their open market prices.
Interestingly, ToscaFund Asset Management has raised its stake in IMImobile from 21 per cent to 27.8 per cent since the start of June to give the activist investor a holding just below the 29.99 per cent key threshold at which a takeover bid would have to be launched. ToscaFund is the investor behind the takeovers this year of technology firms Daisy Group and Phoenix IT, so this stakebuilding is intriguing to say the least given IMImobile’s line of business. In fact, I would not rule out a bid approach for IMImobile either. But even without one I still see upside to SPARK’s shareholding in IMImobile as I discussed in Monday’s investment column.
So with new investors on board, and a cash rich balance sheet ready to be deployed on publicly listed small caps and private equity investments, I feel that SPARK’s shares really should not be trading on a 13.5 per cent discount to pro-forma book value. I remain a buyer and maintain this holding has potential to deliver a 25 per cent gain over the next six months, or even more if IMImobile becomes a takeover play.
On a bid-offer spread of 4.25p to 4.5p, I continue to rate SPARK's shares a buy.
Home improvements to drive Entu
Shares in Entu (ENTU: 115p), a UK supplier and installer of windows, doors, solar panels and other energy efficient products, have had a rollercoaster ride since listing on the Alternative Investment Market last autumn.
I was impressed enough with the business model at the time to recommend buying at a 5 per cent premium to the float price of 100p (‘Yielding to efficiency gains’, 10 November 2014), attracted in no small part by the prospect of a 8p a share dividend in the current financial year to end October 2015. The board have just declared an interim payout of 2.67p a share, having paid a special dividend of 1.5p a share in March, and have confirmed their intention to declare a final of 5.33p a share too. Of course the company has to fund the payout, the annual cost of which is £5.25m, or half the company’s pre-tax profits of £10.3m last financial year.
If Entu can grow its profits by 11 per cent to £11.5m as analyst Dr Tom McColm at house broker Zeus Capital and the board of the company believe, then dividend cover is over 1.7 times and really is not an issue.
Negative sentiment
But investors have been less focused on the attractive payout than on potential for an earnings miss which explains why the share price has been under pressure since the start of June. The negative sentiment stems from the European Court of Justice’s ruling seven weeks ago that the UK's 5 per cent rate of VAT on energy efficient products is in breach of EU law, raising the prospect of an increase in the VAT rate to 20 per cent. It’s therefore worth noting that Entu already applies the full 20 per cent rate of VAT to the vast majority of its home improvement products, so the impact of a rate change is not expected to be material even if the UK government implements it.
Furthermore, the company’s order book stood at an all-time high of £30m at the end of April and since then its home improvement division has won a £10m a year contract with a national DIY retailer. This part of the business has been performing strongly, so much so that it accounted for 60 per cent of Entu’s first half operating profit of £3.8m, having increased by 41 per cent to £2.38m on revenue of £40m in the six months to end April. There is every reason to believe that as the bumper order book is fulfilled that Entu’s home improvement business will make an even higher contribution in the second half.
First half profit shortfall
The performance of this business segment will be critical if the board is to hit Zeus Capital’s earnings forecasts. That’s because in the first half the company’s total operating profit declined from £5.5m to £3.8m due to a poor performance from its energy generation products, mainly solar panels, and lower margins earned from installing insulation.
However, the unusually high staff churn rate in Entu’s solar panel business, which contributed to a £1.25m profit reversal to turn in a loss of £250,000 on revenues of £8.1m, has proved only short-term. It was caused by a direct rival offering a significantly improved package to staff in the south of England, albeit it was clearly unsustainable as that competitor has since gone out of business. The other reason for the shortfall was due to lower solar panel sales resulting from tariff levels earned by customers when their energy generation is sold back to the national grid.
To counter these twin factors Entu has strengthened its sale and marketing teams. It’s paying off as the commercial side has recently won a £4.5m contract with a European procurement organisation for the delivery of solar panels for an initial 1,000 homes. The contract starts immediately and will contribute to profits this year. It also offers potential to cross sells products from other parts of Entu’s businesses.
Full-year estimates intact
Although investors have every right to be cautious in light of the shortfall in Entu’s insulation and solar panels businesses, it’s worth noting that with three months of the financial year to go the board still believe they will hit Zeus’ revenue estimate of £134m for the full-year, up from £119m for fiscal 2014, to generate pre-tax profits of £11.5m and EPS of 13.8p. It’s worth noting too that if Entu does achieve those profit estimates then a large proportion of the £6.7m of operating profit forecast to made in the second half will turn into cash. In fact, Mr McColm believes that Entu’s net funds will rise from £3m at the end of April to £7.7m by the end of October, and that’s after paying out £1.6m on the aforementioned interim dividend. In other words, net funds could be as high as 11.7p a share in three months time, or more than double the proposed final payout of 5.33p.
Or put it another way, with Entu’s shares trading on a bid-offer spread of 113p to 115p, above the 105p level at which I first recommended buying but well below the 145p share price at the time of my last update (‘Riding the news issues gravy train’, 15 April 2015), then the shares are currently being priced on 9 times last year’s cash adjusted earnings, and potentially only 7.5 times cash adjusted earnings for the 12 months to end October 2015.
If Entu hits market estimates, then its high yielding shares will surely re-rate sharply in my view. And that’s an execution risk I am more than comfortable taking on which is why I continue to rate the shares a decent income buy and maintain a fair value target price of 165p.
MORE FROM SIMON THOMPSON...
At the end of April, I published an article with all of the share recommendations I have made this year. Since then I have published articles on the following companies:
■ Marwyn Value Investors: Buy at 220p, target price 260p ('Exploiting a value play', 5 May 2015)
■ Pure Wafer: Buy at 113p, target 140p to 150p; Paragon: Run profits at 440p, but buy on a confirmed breakout above the 445p and new target of 500p; 600 Group: Buy at 16.5p, target 24p; Fairpoint: Buy at 127p, target 190p; AB Dynamics: Buy at 207p, target 230p ('Repeat buy signals', 11 May 2015)
■ Globo: Buy at 56p, target 69.5p; Greenko: Hold at 70p; Pittards: Buy at 128p ('Breakout looms for mobile wonder', 12 May 2015)
■ Macau Property Opportunities: Buy at 214p; Dragon-Ukrainian Properties & Development: Hold at 28p; Raven Russia: Hold at 53p ('Overseas property plays', 13 May 2015)
■ Trakm8: Run profits at 135p; Redde: Buy at 120.75p, target 140p; STM: Run profits at 45p, but conditional buy on close of 48p and new target of 60p ('Smashing target prices', 14 May 2015)
■ Bilby: Buy at 75p, target 100p ('Buy to build' growth play, 18 May 2015)
■ Bioquell: Buy at 148p, target 170p to 185p; Somero Enterprises: Buy at 140p, target 185p; KBC Advanced Technologies: Buy at 109.5p, target 165p; Inspired Capital: Hold at 14.25p ('Three value plays', 19 May 2015)
■ Renew Holdings: Buy at 315p, target range 350p to 375p; Manx Telecom: Buy at 198p, target 210p ('Renewing old acquaintances', 20 May 2015)
■ Marwyn Value Investors: Buy at 228p, target 260p; Charlemagne Capital: Hold at 13.5p; Bloomsbury Publishing: Hold at 178p ('Lights, camera, action', 21 May 2015)
■ Anite: Buy at 91.5p, target 110p ('Testing a breakout', 26 May 2015)
■ Character Group: Buy at 415p, target 525p ('Playtime', 1 Jun 2015)
■ Tristel: Run profits at 96p; Pure Wafer: Buy at 123p, target range 140p to 150p; Crystal Amber: Buy at 153p ('Hitting target prices', 2 Jun 2015)
■ B.P. Marsh &Partners: Buy at 150p, target range 170p to 180p; Moss Bros: Buy at 110p, target range 120p to 130p; SeaEnergy: Sell at 15p ('Exploiting a valuation anomaly', 3 Jun 2015)
■ Globo: Buy at 59p, target 69.5p; London & Associated Properties: Buy at 38.5p; Greenko: Hold at 44p ('Catalysts for share price moves', 4 Jun 2015)
■ Burford Capital: Buy at 148p, target 190p ('Legal eagles', 8 Jun 2015)
■ Market strategy ('Financial Market Watch', 9 Jun 2015)
■ Software Radio Technology: Buy at 29.5p, target 40p to 43p; Tristel: Run profits at 92p; Creston: Buy at 136p, target 150p; Sanderson: Buy at 69p, target range 80p to 85p ('Blue sky potential', 10 June 2015)
■ 1pm: Buy at 67p, target 80p; Vislink: Buy at 58p, target 70p ('Small-cap growth stocks', 11 Jun 2015)
■ Elegant Hotels: Buy at 105p, target 135p to 140p ('Checking into an elegant investment', 15 Jun 2015)
■ First Property: Run profits at 45p; AB Dynamics: Run profits at 225p and target 250p; Inspired Capital: Sit tight at 20p (Bargain shares updates', 16 Jun 2015)
■ Trakm8: Run profits at 159p, new target 180p; Anite: Sit tight at 126.75p; Trifast: Run profits at 129p, target 140p; Record: Buy at 37p ('Small cap wonders', 17 Jun 2015)
■ Inland: Run profits at 71p, target 80p; KBC Advanced Technologies: Buy at 110p, target 165p; Caretech: Buy at 237p, target 300p ('Riding an earnings upgrade cycle', 18 Jun 2015)
■ Ensor: Buy at 97p, minimum target 125p ('Building up for a takeover', 22 Jun 2015)
■ GLI Finance: Buy at 54p, target 80p; Pittards: Buy at 128p; Netplay TV: Buy at 9.5p ('A triple play of small cap picks', 23 Jun 2015)
■ Bilby: Run profits at 97p; Safestyle: Run profits at 220p; Epwin: Run profits at 134p ('Soaring small caps', 24 Jun 2015)
■ Faroe Petroleum: Buy at 86p, target 100p; Greenko: Hold at 65p; Communisis: Buy at 48p ('A slick investment', 25 Jun 2015)
■ Mountview Estates: Buy at 12,250p; Inland: Run profits at 71p, conservative price target ('Running bumper profits', 29 Jun 2015)
■ Redde: Run profits at 138p, target range 150p to 155p; Trakm8: Buy at 175p, target 200p; Cohort: Buy at 312p, target 365p; Burford Capital: Buy at 175p, target 190p; Flowtech Fluidpower: Buy at 135p, target 155p ('Riding earnings upgrade cycles', 7 Jul 2015)
■ Crystal Amber: Buy at 161p; Stanley Gibbons: Buy at 258p; Somero Enterprises: Buy at 150p, target 185p; Globo: Buy at 49p, target 69.5p ('A quartet of small-cap buys', 8 Jul 2015)
■ H&T: Buy at 200p; STM: Buy at 47p, target 60p; Stadium: Buy at 113p, target 140p ('Exploiting upgrades', 9 Jul 2015)
■ Cambria Automobiles: Buy at 57.5p, target 75p ('Driving a re-rating', 13 Jul 2015)
■ Walker Crips: Buy at 47p, target 60p; 600 Group: Buy at 18p, target 24p; Henry Boot: Buy at 235p, target 260p ('A trio of small cap value plays', 14 Jul 2015)
■ Bilby: Buy at 90p, target 120p; 32Red: Buy at 67.5p, ('Exploiting a valuation anomaly', 20 July 2015)target 90p; Marwyn Value Investors: Buy at 244p, target 275p (‘Acquisitions drive earnings upgrades’, 15 July 2015)
■ Vislink: Buy at 53p, target 70p ('Awarding success', 16 July 2015)
■ SPARK Ventures: Buy at 4.5p (‘Exploiting a valuation anomaly’, 20 July 2015)
■ W.H. Ireland: Run profits at 120p, target 140p; Safestyle: Run profits at 235p; Charlemagne Capital: Sell at 11p (‘Cash rich small-caps’, 21 July 2015)
■ Amino Technologies: Buy at 150p, targte 180p; Arbuthnot Banking: Buy at 1,530p; Globo|: Buy at 49p, target 69.5p ('Primed for major re-ratings', 22 July 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 £2.95 postage and packaging. Simon has published an article outlining the content: 'Secrets to successful stockpicking'
