Chairman and 21.5 per cent shareholder, Chris Winn, revealed that trading results in the first four months of the financial year to end September 2016 are 10 per cent ahead of the same period last year. Head of research Eric Burns at brokerage WH Ireland was previously forecasting revenue and adjusted profit growth of 7 per cent, so the company is trading well ahead of these estimates, leaving scope for earnings upgrades as the year progresses. That's a distinct possibility given that the total order book has risen by over a third to £3.2m since the end of September 2015 and sales order intake is 15 per cent ahead of the same period last year. This partly reflects new customer orders worth £1.5m, a figure that exceeds that for the whole of the last financial year.
Digital retail software sales growing strongly
Moreover, a number of "prospective new customers and customer opportunities are being developed (in the Digital Retail businesses) which are expected to come to fruition in the usually busier second half of the current year". Sanderson's last set of results revealed that One iota, a provider of mobile applications for retailers, was the main driver of the company's top-line growth and profits, and it's outperformance is undoubtedly a key factor in the latest trading update. One iota's MESH technology is a cloud-based technology that integrates existing back-office systems to optimise a retailer's applications.
For instance, One iota's product offering includes smart software that implements iPad-based solutions to help shop sales assistants maximise in-store sales and assist shoppers in buying out-of-stock products or those available in the retailer's other stores. The growth of One iota explains why the contribution from online sales, e-commerce and catalogue markets in Sanderson's higher-margin multichannel retail division continues to grow strongly: the division accounted for almost 80 per cent of Sanderson's total operating profit of £3.3m and two-thirds of revenue last financial year.
Another key take for me is that the company's enterprise software businesses have made a very strong start to the current year and have converted a number of previously delayed projects into firm orders. There has been particularly strong order intake from the food and drink, logistics and wholesale cash and carry sectors. That’s worth noting because if it wasn't for a lacklustre performance from the manufacturing segment last year, Sanderson's operating profits would have risen by far more than 16 per cent to £3.3m given the high double digit growth being generated from the retail digital businesses.
Upbeat guidance
I would also flag up that Sanderson's board usually take a cautious stance in their guidance. That's worth pointing out because "there is continued willingness (in our small and medium-sized customer base) to invest in IT products and solutions which deliver tangible business benefits." The key to all of Sanderson's software products is that they generate a tangible benefit to clients and one that can be easily quantified through return on investment. The fact that demand is so strong highlights the strength of the product offering.
Furthermore, with over half of the company's revenues recurring (pre-contracted for at least 12 months), and gross margins around 85 per cent, this means that the majority of the fixed cost base is covered. It also means that the business is highly cash generative as a greater proportion of incremental sales drops straight down to both profits and also boosts cashflow. This explains why the company ended last year with net funds of £4.6m even after paying out more than £1m in dividends and spending £1.9m on acquisitions. The dividend was raised by 16 per cent to 2.1p a share last year, and analysts predict a 10 per cent hike in the payout this year. I would not bet against it given that Sanderson had a cash pile worth 8.5p a share at the end of September 2015 and that’s likely to have grown since then given the robust first half trading performance.
Anomalously priced
In my view, the company offers a decent way of gaining exposure to a high growth digital retail technology business that's earning eye-catching profit margins and is successfully exploiting opportunities in both m-commerce and e-commerce. In fact, once you factor in the 8.5p a share net cash pile, the shares only trade on 12.7 times underlying EPS estimates of 5.6p for the 12 months to end September 2016, falling to 11.5 times the year after, according to analysts at equity research firm GECR. To put the rating into perspective, it represents a 45 to 50 per cent discount to small-cap software companies operating in the same universe, Tracsis (TRCS:500p) and Craneware (CRW:770p), both of which are valued on 20 and 22 times cash-adjusted earnings estimates (July 2017 and June 2017 period ends, respectively).
That's not just anomalous, but completely unwarranted for a company generating double-digit earnings growth with the risk to earnings is skewed to the upside. Indeed, there is a strong likelihood of analysts being forced to upgrade their earnings estimates at the time of the half-year results in June.
On a bid-offer spread of 77p to 80p, valuing the equity at £44m, I continue to rate Sanderson's shares a buy and maintain a minimum price target of 90p. Please note that I initiated coverage when the price was 33.5p ('A valuable stock check', 18 Jul 2011), and last reiterated that advice earlier this year when the share price was 75p ('Tech watch', 13 January 2016).
Please note that I have published two columns today, and one yesterday, all of which are listed below.
MORE FROM SIMON THOMPSON...
I have written articles on the following 80 companies since the start of this year:
■ Grainger: Buy at 243.5p, target 280p; Dart: Take profits at 580p; Crystal Amber: Hold at 159p; Redde: Take profits at 203p; Burford Capital: Run profits at 196.5p; Renew Holdings: Run profits at 404p; Plethora Solutions: Speculative buy at 4.5p ('Stock check', 5 Jan 2016)
■ Elegant Hotels: Buy at 118p, target price 130p to 135p ('Check in for a profitable stay', 6 Jan 2016)
■ Safestyle: Run profits at 272p ahead of pre-close statement on 25 Jan 2016 ('Clear cut gains', 6 Jan 2016)
■ Epwin: Run profits at 143p, new target 170p ('Epwin on the acquisition trail', 6 Jan 2016)
■ GLI Finance: Recovery buy at 37.5p ('GLI shelves fundraise and its chief executive', 6 Jan 2016)
■ LXB Retail Properties: Buy at 97.5p, new six-month target 120p; Urban&Civic: Buy at 286.5p, target 325p; Conygar: Buy at 172p, target 200p ('Hot property, 7 Jan 2015)
■ Somero Enterprises: Buy at 139p, target 185p; 1pm: Buy at 70p, target 82p; First Property: Run profits at 53p; Avation: Buy at 145p, target 200p ('Small-cap value plays', 11 Jan 2016)
■ 32Red: Run profits at 147p; Netplay TV: Buy at 7p ('Chipping in', 12 Jan 2016)
■ Cambria Automobiles: Buy at 87p, new target 95p; Vertu Motors: Buy at 76p, target range 85p to 90p ('Motoring ahead', 12 Jan 2016)
■ Global Energy Development: Hold at 24p ('Cash rich, but unloved', 12 Jan 2016)
■ KBC Advanced Technologies: Bank profits and sell in the market at 183p ('Tech watch, 13 Jan 2015)
■ Sanderson: Buy at 75p, target range 85p to 90p ('Tech watch, 13 Jan 2015)
■ Trakm8: Buy at 300p, new target 400p ('Tech watch, 13 Jan 2015)
■ Amino Technologies: Buy at 120p, new target range 155p to 160p ('Amino has the ammunition', 14 Jan 2015)
■ easyHotels: Buy at 89p, initial target 100p ('easyHotels ramps up expansion', 14 Jan 2015)
■ Stanley Gibbons: Hold at 58p ('Stanley Gibbons fundraise', 14 Jan 2015)
■ Miton: Buy at 28p, target 35p; Moss Bros: Buy at 97p, target 120p to 130p; Bioquell: Buy at 140p, minimum target 170p; UTV Media: Trading buy at 184p ('An awesome foursome', 18 Jan 2015)
■ Equity market strategy ('Bear Market signals', 25 Jan 2015)
■ STM: Buy at 47p, target 80p; Stadium: Trading buy at 103p; Fairpoint: Run profits at 150p, target range 200p to 220p ('Exploiting market anomalies', 1 Feb 2015)
■ Character: Buy at 505p, target 600p; 1pm: Buy at 67p, target 82p; and Entu: Hold at 68p ('A trio of small-cap plays', 2 Feb 2016)
■ Inland: Buy at 83p; Henry Boot: Buy at 220p, target 260p; FTSE 350 housebuilding sector: Trading buy ('Playing the housing market', 3 Feb 2016)
■ Flowtech Fluidpower: Buy at 109p ('Undervalued and ripe for a re-rating', 4 Feb 2016)
■ Safestyle: Run profits at 253p ('Awaiting news on a cash return', 4 Feb 2016)
■ Bowleven; Volvere; French Connection; Bioquell; Juridica; Mind + Machines; Oakley Capital; Gresham House; Gresham House Strategic; Walker Crips ('Bargain shares', 4 Feb 2016)
■ AB Dynamics; Inspired Capital; H&T; Netplay TV; Mountview Estates; Crystal Amber; Arbuthnot Banking; Record; Pittards; Stanley Gibbons ('How the 2015 Bargain share portfolio fared', 4 Feb 2016)
■ IS Solutions: Buy at 120p, target 150p ('Big data, big profits', 8 February 2016)
■ 32Red: Run profits at 133p, easyHotel: Run profits at 99p; Burford Capital: Run profits at 230p; Bilby: Buy at 136.5p ('Hitting record highs', 9 February 2016)
■ BP Marsh & Partners : Buy at 157p, new target 190p ('Primed for investment gains', 10 February 2016)
■ Gama Aviation: Hold at 270p ('Gama hits guidance', 10 February 2016)
■ Bloomsbury Publishing: Buy at 150p, target range 175p to 185p ('Book into a trading play', 11 February 2016)
■ PV Crystalox Solar: Speculative buy at 8.2p ('Lights brighten at PV Crystalox Solar', 11 February 2016)
■ Alpha Real Trust: Buy at 80p, target 105p ('High yield property play', 15 February 2016)
■ LMS Capital: Buy at 68p; Leaf Clean Energy: Await news on Invenergy; Eurovestech: Sell at 7p ('Investment company watch', 16 February 2016)
■ GLI Finance: Buy at 31p ('GLI Finance review offers potential for gains', 17 February 2016)
■ Trifast: Buy at 112p, target 140p ('Engineered for a higher rating', 17 February 2016)
■ 600 Group: Sell at 10p ('600 Group warns', 17 February 2016)
■ Marwyn Value Investors: Buy at 190p ('Undervalued, cash rich investment, 18 February 2016)
■ Henry Boot: Buy at 220p; Moss Bros: Buy at 102p, target range 120p to 130p; Creston: Sell at 103p; Minds + Machines: Buy at 8.5p ('Changing places', 22 February 2016)
■ CareTech: Buy at 245p, target price 300p ('Asset backed, lowly rated property play', 23 February 2016)
■ WH Ireland: Buy at 90p, medium-term target 120p ('WH Ireland hit by FCA fine', 23 February 2016)
■ Stanley Gibbons: Sell at 44p ('Stanley Gibbons rescue equity raise', 23 February 2016)
■ Gresham House: Buy at 325p ('Gresham House spruces up forestry deal', 24 February 2016)
■ Avation: Buy at 140p ('Aircraft deliveries mask Avation's lift off', 24 February 2016)
■ Tristel: Take profits at 125p ('Investors spooked by bugbuster's sales slowdown', 24 February 2016)
■ Town Centre Securities: Buy at 305p, target price 350p ('Property income play with capital upside', 25 February 2016)
■ Capital & Regional: Buy at 60.25p, target 66.5p to 70p ('Short-term trading buy', 29 February 2016)
■ Cambria Automobiles: Buy at 83p, target 95p; Vertu Motors: Buy at 71.75p, target 85p to 90p ('Lowly rated car dealers motoring back', 7 March 2016)
■ Sanderson: Buy at 80p, target 90p ('Tapping into cloud based profits', 8 March 2016)
■ H&T: Buy at 195p ('A golden opportunity', 8 March 2016)
■ 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
