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Five top small-cap growth shares

After another 12 months of outperformance, the Small Cap Zweig screen has produced an 111 per cent total return since I began running it three years ago compared with 33 per cent from the market. We highlight five of the 17 shares from the latest screen
September 15, 2015

The approach to stock picking espoused by Martin Zweig was to target out-and-out growth stocks. Not only did he like to see companies that were growing earnings strongly, he also wanted companies that showed both very strong historic and recent growth rates. This approach has produced some impressive results since I started monitoring a strategy based on Zweig's methods in August 2012.

On a cumulative basis, the Small Cap Zweig screen has produced an 111 per cent total return since I began running it compared with 33.4 per cent from a combination of the FTSE Small Cap and FTSE Aim All-Share - the indices from which the stocks are picked (see graph). Factoring in a 2 per cent charge to account for dealing costs and spreads, the total return over the three years stands at 107 per cent.

 

  

The screen has also performed impressively when looked at on a buy-and-hold basis rather than on a cumulative basis, which assumes switching between screens each time a new one is published. Of special note is the buy-and-hold performance of the 2012 screen, which only showed relatively modest outperformance of the index in its first year (27.8 per cent versus 24.0 per cent) but has gone on to do very well (see table).

 

BUY-AND-HOLD PERFORMANCE

From Aug/SepZweigFTSE Small Cap/AimOut/underperformance
201283%35%36%
2013109%7.7%94%
201411%1.5%9.4%

Source: Thomson Datastream

 

The performance of last year's stocks was decent compared with the indices from which they were drawn. However, the aggressive growth focus of the screen did make for some extreme performances from individual stocks (see table).

 

2014 PERFORMANCE

NameTIDMTotal Return (17 Sep 2014 - 7 Sep 2015)
International Biotech. TrustIBT69.8%
Mountview EstatesMTVW53.4%
S&USUS42.1%
Solid StateSOLI36.6%
Brooks MacDonaldBRK27.0%
ConnectCNCT20.8%
Walker GreenbankWGB16.3%
Churchill ChinaCHH10.0%
PorvairPVAR7.0%
PortmeirionPMP1.3%
M WinkworthWINK-0.4%
IDOXIDOX-0.8%
BrainJuicerBJU-6.9%
Pan African ResourcesPAF-46.1%
GableGAH-64.6%
Average-11.0%
FTSE Small Cap -6.1%
FTSE Aim All-Share--3.0%
FTSE Small Cap/Aim-1.5%

Source: Thomson Datastream

 

With recent markets jitters in mind, along with a much anticipated interest-rate decision from the Fed due between the time of writing and publication of this article, it is worth considering other aspects of Mr Zweig's approach to markets aside from his stock-picking criteria. Mr Zweig placed a lot of importance on taking a broad view of the economy and markets to determine when to invest. Key principles Mr Zweig paid attention to in this regard were market momentum coupled with monetary policy, with a particular emphasis on whether or not the Fed was tightening or loosening the monetary reins.

Mr Zweig also regarded overvalued stocks as being a contributory factor in determining the extent of market falls, although, in his opinion, overvaluation was not a likely cause of market falls in itself. While Mr Zweig created detailed models around the 'macro' factors he watched, there are clearly grounds to think the markets in their current state would not look their most welcoming from a Zweig perspective.

However, this column takes a more of a come-rain-or-shine approach to screening, and to date the Zweig screen has produced impressive results. The screening criteria is as follows:

■ A five-year EPS compound annual growth rate (CAGR) of 15 per cent or more;

■ A five-year revenue CAGR of at least half the five-year EPS CAGR;

■ EPS growth in last year of 15 per cent or more;

■ EPS growth in last half year of 15 per cent or more;

■ EPS growth in each of the last three years and at least four of the last five years;

■ EPS growth in each of the last two half-year periods;

■ Net debt to cash profits of 2.5 times or less;

■ A PE ratio above the lowest 10 per cent of all stocks and below the highest 20 per cent.

No stock passed all the screen's tests, so I have also included in the screen results stocks from the FTSE Small Cap and Aim All-Share that passed all but one of the tests, as I had to last year. In total, 17 shares make the grade. I've provided write-ups of five of them below based on the stocks with some particularly noteworthy characteristics, such as low forecast PE ratio and high dividend yield. Fundamentals relating to these stocks along with the other 12 qualifying shares (two of which are investment trusts) appear in the accompanying table.

 

TOP SMALL CAP GROWTH SHARES

Globo - Low PEG

Mobile enterprise-software company Globo (GBO) is something of an earnings growth phenomenon, and the Zweig screen is all about earnings. However, the trouble with Globo, as reflected in recent share price volatility, is that it is not such a phenomenon when it comes to cash generation. Specifically, the company's balance sheet carries a lot of receivables, which represents income that has been recorded on the profit and loss account but where cash payment is still outstanding.

The market's nerves have also been ruffled by news that the company is going to the high-yield bond market to raise $150m (£97.5m) to fund a planned acquisition spree, despite reporting net cash of €47m at the half-year stage. Management says the need to go to the bond market represents the scale of its ambitions and that short-sellers will turn tail once they see the game-changing nature of the deals it will do. However, in the meantime, the shares have been falling precipitously and the stakes of some major shareholders have been decreasing, including Standard Life's position, which has reduced from over 8 per cent in late June to less than 5 per cent now.

If Globo can restore faith in its business and demonstrate that its operations can produce cash flows to match its earnings, then the shares have substantial re-rating potential. For the time being, though, the situation looks less rosy than the picture given solely by earnings momentum. The test failed by Globo is the one Mr Zweig used to eliminate suspiciously cheap shares based on an excessively low PE ratio.

Last IC view: Buy, 52p, 1 May 2015

 

Pennant International - High Yield

Training, information services and software group Pennant (PEN) is not a company that courts much market attention. Indeed, its results can be a major share price moving event given their habit of reawakening investors to the merits of Pennant's diverse operations, which range from graphic design to producing training simulators. From this perspective, it is worth noting that the company should be releasing half-year numbers at any time. Last year the interims were published on 8 September.

Pennant reported encouraging trading at the time of its full-year results in March with good progress being made across its three main divisions. The group also benefited from an upward property revaluation and a favourable tax ruling on its research and development spending. Broker WH Ireland is pencilling in solid growth, with EPS expected to be up 12 per cent this year to 9.6p and 8 per cent in 2016 to 10.2p. That is predicted to underpin a 3.1p dividend this year, rising to 3.3p next year - equivalent to a prospective yield of 4.4 per cent, rising to 4.6 per cent.

Last IC view: None

 

Robert Walters - Genuine Value

While shares in specialist recruiter Robert Walters (RWA) may look expensive on their current earnings multiple, the attraction of the stock all comes down to the company's earnings growth potential at the current point in the cycle. Indeed, the recruiter is seeing a shortage of professionals as a key feature across the markets it serves, which is allowing its consultants to push up the fees they charge for finding the right people. This is resulting in rapidly increasing profitability.

The company is also recruiting new staff to capitalise on strong demand for its services and plans to increase the headcount by 10 per cent this year. New consultants tend to take a while to find their feet and start generating significant amounts of business, but the group still expects net fee income (NFI) per consultant to climb this year. Walters is incredibly cyclical and changes in the job market can come with little warning, but conditions currently look very promising.

Last IC view: Buy, 452p, 2 Aug 2015

 

Alumasc - Low forecast PE

Building products group Alumasc (ALU) is benefiting from the healthy state of the construction market. However, this is only part of the story behind the group's strong recent share price performance (as well as having a low PE ratio it boasts the strongest momentum out of all the Zweig share picks). The group spent the last year selling off most of its struggling engineering operations to focus on its building products operations. The disposals have moved Alumasc to a net cash position and injected vigour into the remaining business.

Investment in new staff and new products has helped drive sales and the group reported a 10 per cent increase in revenue for the year to the end of June. More investment is planned, including the consolidation of the group's water management business into a single site and an increase in the operation's production capacity. The lowly rating commanded by the shares seems rather at odds with the improving outlook. The shares offer a decent dividend yield to boot.

Last IC view: Buy, 171p, 4 Sep 2015

 

Sprue Aegis - three-month share price momentum

Home-safety equipment supplier Sprue Aegis (SPRP) has been benefiting from regulation in France and Germany, which is driving a surge in demand for its products. France, in particular, was responsible for a doubling of first-half revenue and trebling of operating profit. The company's net cash pile has also surged from £12m to £29m at the half-year stage. The audited results are due mid-month.

The strong demand from France is expected to wane following the passing of a legal deadline for installing smoke alarms, but prospects should remain strong in Germany. The company also stands to benefit from its investment in product innovation. Production of a mains-powered smoke alarm has been delayed, but when launched the new product should boost UK sales. Meanwhile, the company also continues to develop internet connected alarms, which could be the next big thing.

Last IC view: Hold, 298p, 28 Apr 2015

NameTIDMMkt capPriceFwd NTM PEDYPEGGV ratioP/ BVFwd EPS grth FY+1Fwd EPS grth FY+23-mth momNet cash/ debt (-)
Alumasc  LSE: ALU£61m171p93.5%1.790.793.823.8%8.8%19.1%£1m
Anpario AIM: ANP£72m333p221.4%3.862.922.92-2.1%13.3%-4.3%£7m
Avon Rubber LSE: AVON£271m906p200.6%2.141.278.328.3%14.7%8.7%£7m
BP Marsh & Partners AIM: BPM£40m137p-2.0%--0.63---6.2%£2m
Biotech Growth Trust LSE: BIOG£472m759p----0.91---5.3%-£48m
Brainjuicer  AIM: BJU£51m398p171.1%1.480.776.5213.0%10.7%-4.1%£5m
First Derivatives AIM: FDP£314m1,335p271.0%0.581.223.0952.3%8.5%-1.7%-£16m
Globo AIM: GBO£135m36p4-0.260.170.9821.8%13.6%-41.4%€40m
Int'l Biotech.Trust LSE: IBT£215m535p----0.94---3.3%-£5m
Pennant Int'lAIM: PEN£20m71p74.1%-9.122.09-11.4%5.7%-2.8%£1m
Photo-Me Int'lLSE: PHTM£537m144p213.5%2.891.245.183.9%9.2%6.2%£58m
Plexus  AIM: POS£152m170p270.6%1.141.064.108.9%39.6%-16.3%-£4m
Robert Walters LSE: RWA£301m410p221.5%1.160.583.9135.3%11.4%1.1%£15m
S&U LSE: SUS£297m2,500p172.6%2.44-3.65-1.8%15.4%11.6%-£54m
Solid State AIM: SOLI£68m808p151.5%0.720.665.4066.4%0.0%-6.7%-£2m
Sprue Aegis AIM: SPRP£143m313p142.6%--5.1415.7%-21.7%14.7%£16m
VPLSE: VP.£286m732p142.3%2.071.332.548.5%6.1%-3.1%-£68m

Source: S&P Capital IQ