Not only is the business heavily exposed to the US market - the region accounted for 75 per cent of Somero's revenue of $29.8m (£23.7m) in the first half of this year - but trading activity is being buoyed by a combination of new product launches and a healthy non-residential construction market, both of which are supporting demand for replacement equipment, technology upgrades and fleet additions. Somero's sales in North America shot up by 35 per cent in the six months to the end of June 2016 and there is no sign of momentum waning given the company's healthy order backlog. For good measure Europe, China and Australia, which account for around a fifth of Somero's sales, all posted double-digit growth, too.
But it's the prospect of a major fiscal boost, and ramp-up in infrastructure spending by the newly elected Republican administration, that's likely to attract further investor interest, and with good reason. That's because the company is bang on course to deliver a 15 per cent increase in full-year adjusted pre-tax profit to $20.3m on revenue up 9 per cent to $76.5m in the 12 months to the end of December 2016, as analyst David Buxton at broker finnCap predicts. Cash generation is very healthy, and so is the state of the company's balance sheet, so much so that Mr Buxton anticipates a 20 per cent hike in year-end net funds to $15.2m, a sum worth almost 22p a share at current exchange rates. This means that Somero's shares are rated on 9,.5 times cash-adjusted post tax earnings estimates for 2016, hardly an exacting valuation for a company that's predicted to grow EPS by over 8 per cent to 24.6¢ (19.5p at current exchange rates) in 2017 based on a reasonable 6 per cent increase in revenue.
Moreover, if activity in the construction industry gets a lift from a debt-funded Republican investment programme next year, and president elect Donald Trump has expressed deep disappointment at the level of infrastructure spending during his campaign, then I feel those 2017 earnings forecasts could have even more upside. Mr Trump's plans involve granting $137bn of tax credits to construction companies in order to leverage $1 trillion of investment targeted at "fixing our inner cities and rebuilding highways, bridges, tunnels, airports, schools, and hospitals". This could prove a boon for the construction industry, and the non-residential segment which Somero has a hefty exposure to.
There is a decent income stream for shareholders, too: analysts expect the payout per share to be raised by 10 per cent to 7.6¢ in 2016, rising to 8.1 cents in 2017, implying prospective dividend yields of 3.1 per cent and 3.3 per cent, respectively.
So, having initiated coverage at 140p ('On solid foundations', 22 Apr 2015), and reiterated that advice at 172p at the time of the half-year results ('On the upgrade', 7 Sep 2016), I am raising my target price from 200p to 230p, or the equivalent of 10.6 times cash-adjusted earnings estimates for 2017. Strong buy.
Trifast for more gains
Somero is not the only company on my watchlist benefiting from a positive currency effect on its overseas earnings. The same is true of Trifast (TRI:180p), a small-cap manufacturer and distributor of industrial fastenings, which has operations in 17 countries across Europe, Asia and North America, and generates around 70 per cent of its operating profit outside the UK.
The plunge in the value of sterling this year has created a positive tailwind and one that led analysts to upgrade their full-year pre-tax profit estimates by £500,000 to £17.7m following Trifast's pre-close trading update last month ('Manufacturing currency gains', 5 Oct 2016). Furthermore, they have been forced to upgrade estimates again after the release of top-of-the-range first-half profit and now expect the company to deliver a 15 per cent rise in pre-tax profit and EPS to £18.5m and 11.6p, respectively, in the 12 months to the end of March 2017. I would point out that the currency tailwind is only one of several drivers behind the latest upgrade as Trifast's acquisition of Kuhlmann, a distributor of predominantly customised industrial fasteners focused mainly on the domestic German market is trading ahead of expectations. Kuhlmann also provides Trifast the lever to gain entry into the domestic German automotive sector.
It's not the only bolt-on acquisition doing well as Trifast's 2014 purchase of VIC, an Italian maker and distributor of fastening systems predominantly for the white goods industry, has enhanced the manufacturing content within its earnings stream and has been a key driver behind the improved financial returns. Manufacturing now accounts for more than a third of Trifast's revenue, and is much higher margin than distribution which has helped drive up operating margins in Europe from 12.1 per cent to 15.9 per cent in the latest six-month trading period. Prospects look well underpinned as there has been an uptick in manufacturing activity in the region, and Trifast continues to grow sales to multinational OEM (original equipment manufacturer) customers, of which 50 account for 60 per cent of its total sales.
In the circumstances, it's hardly surprising that Trifast's shares have hit an all-time high, and are now up 240 per cent since I first recommended buying at 53p in my 2013 Bargain Shares Portfolio. A progressive dividend policy has been positive for sentiment, too: the board has paid out 6.7p a share of dividends since I initiated coverage, and analysts are pencilling in a 10 per cent hike in the current financial year to 3.1p a share. On that basis, the shares are rated on 15.5 times earnings estimates, and offer a prospective dividend yield of 1.7 per cent. That's a reasonable rating, but I wouldn't rule out further upgrades given the trading backdrop and management's tendency to 'under promise and over deliver'. Run your bumper gains.
Tapping into Asian demand
Mind + Machines (MMX:11.25p), a service provider in the domain name industry and one focused on the new top-level domain (gTLD) space, has issued a bullish portfolio update. A key take for me is that .vip registrations in China have risen above the 500,000 mark, having only launched in May this year, and importantly without the need to resort to 'freemium' sales. This augurs well for renewal rates next year.
To support the ongoing development in China, a branch office will shortly be opening in Xiamen, a recognised hub for the Chinese domain industry, in addition to the company's presence in Beijing. The importance of the Asian market should not be underestimated. Having had no exposure in the country at the start of this year, China-based revenue is on course to account for at least 45 per cent of the total this year. It's not gone unnoticed as Mind + Machines has attracted a major investment by Goldstream Capital Management, a company owned by Hony Capital, a leading Chinese private equity company. Goldstream invested £5.5m to acquire 42m shares at 13p each.
In the US, the transfer of its .boston geographic TLD has now completed the ICANN processes allowing the company, the Boston Globe and the city of Boston to start planning for a 2017 launch. Geographic TLDs form an important segment of Mind + Machines' portfolio of 29 TLDs, which includes: .london; .miami; and .bayern. The company is recognised as a leading registry in this arena.
And growing interest in this segment of the domain industry has led to a move into profitability after the board streamlined Mind + Machines into a pure-play registry business, and cut overheads by 28 per cent in the first half of this year. So, with revenue doubling to $7.4m in the six-month period, the company turned in cash profit of almost $2m. The point being that the upside from the income potential from the portfolio is still not being fully factored in with the equity only valued at £77m. In fact, after accounting for the recent tender offer at 13p a share, and the issue of equity to Goldstream, Mind + Machines still has net cash and trade receivables of around $23.3m, or 2.65p a share, and owns a conservatively valued portfolio of 29 TLDs which are in the books for $40.3m, or 4.6p a share. In other words, the shares are rated on a modest 55 per cent premium to the balance sheet value of cash and the gTLD portfolio.
So, having first recommended buying the shares at 8p in February (2016 Bargain Shares Portfolio), and subsequently advised tendering 13 per cent of your holdings at 13p and running your 62 per cent paper profits ('Bargain Shares updates', 21 Sep 2016), I now feel they are worth buying again at 11.25p after the recent pullback. Buy.
Bowleven's shares trading in line with cash
Shares in Bowleven (BLVN:24p) are 27 per cent ahead of the recommended buy-in price in my 2016 Bargain Shares Portfolio, and still offer decent upside potential in my view given the debt-free company had net cash of $99m (£79m) on its balance sheet at the end of October, a sum worth 24.25p a share. This means that Bowleven's Etinde Permit off the coast of Cameroon, in which it has a 20 per cent non-operated interest, having completed a farm-out deal with Lukoil and New Age at the start of 2015, and the 100 per cent equity interest in the much smaller Bomono project, offshore Cameroon, are being attributed no value whatsoever in the share price. These two developments have a combined value in excess of $200m in the company's balance sheet.
Clearly, there is some uncertainty as to whether oil and gas prices can recover to levels at which these projects become commercially viable: Ethinde has been valued using a long-term oil price of $65 a barrel for a project that has gross 2C contingent reserves of 290m barrels of oil equivalent; and Bomono's valuation reflects a gas price of $7 per million cubic standard feet of gas. Also, the operator of Ethinde, New Age, is frustratingly holding back on the appraisal drilling campaign until it has reached agreement on the development concept with the Cameroon government. But with Bowleven's interest in Ethinde, which accounts for 40p a share of its 90p a share net asset value, being attributed nil value in the share price, and Bowleven having a $40m carry on the appraisal wells in any case, then any upside from this investment is in the price for free.
I would also flag up that the directors are looking to deploy some of the huge cash pile on purchasing a business or asset that provides enough free cash flow to cover its general and administration expenses, albeit progress on this front has been slow. In the meantime, the company has repurchased 2.4m shares pursuant of a $10m (£7.9m) hugely accretive share buyback programme and has the authority to repurchase up to 14.99 per cent of the shares in issue. It makes sense to do so given the shares are rated 73 per cent below book value.
Ultimately, the direction of the oil price will be key in determining Bowleven's share price, and I am still of the opinion that the macro risk points to the upside. So, having last recommended buying the shares at 25.5p ahead of last week's results ('Bargain Shares: small-cap updates', 3 Oct 2016), I maintain my positive stance. Buy.
