Target price smashed
It was difficult not to be impressed with half year figures from Aim-traded Jarvis Securities (JIM: 335p).
To recap, I advised buying shares in the stockbroker and financial services outsource provider at 220p five months ago, targeting fair value of 260p ('A solid income buy', 25 February 2013). But an upbeat trading statement at the annual meeting in late March sent the price surging and I raised my fair value target to 285p. That price was hit in mid-May ('Target prices smashed', 15 May 2013) when yet another upbeat trading statement from Jarvis prompted analyst Nick Spoliar at broking house WH Ireland to substantially upgrade his earnings estimates. I then raised my fair value target to 310p, a price that was achieved in June when I revisited the investment case. This prompted another target price upgrade (to 330p) ahead of the aforementioned half-year results (‘Small-cap winners', 1 July 2013).
The good news is that the share price smashed through that level after Jarvis announced a 45 per cent surge in half-year pre-tax profits to a record £1.52m, driven by a 17 per cent rise in revenues to £3.5m. Pre-tax margins improved by 9 percentage points to a mightily impressive 44 per cent, and revenue per employee increased by 11 per cent to £183,000. Importantly, the customer base was up 13 per cent, taking the total to well over 65,000 retail clients. There is also a growing number of institutional clients.
Strong growth in corporate and retail businesses
On the corporate side, Jarvis provides outsourced and partnered financial administration services to a number of third-party organisations, including advisers, stockbrokers, banks and fund managers. The business tailors its administration processes by offering a bespoke service to meet the needs of each organisation and has built up a strong reputation for flexibility and cost-effectiveness. It is a growing business and in the past six months Jarvis has signed up Panmure Gordon, Daniel Stewart, Dartmoor Investment Trust and two of Chelverton's investment trusts as new institutional clients.
Cash under administration has averaged around £70m for the past couple of years and is normally placed on a short-term deposit of less than one year with triple-A-rated banks. But with rising demand for Jarvis' low-cost model continuing to drive the business, and the back-office outsourcing proposition with its attendant cost benefits performing well, cash under administration has risen 50 per cent to £108.7m in the past year alone.
The growth is unlikely to stop there, either, as chairman Andrew Grant notes that his company's share of the retail stock market still remains small, leaving plenty of potential growth opportunities for the future. He has a point as Jarvis operates in a highly regulated industry with significant costs on entry, which restrict the number of new entrants into the market. Moreover, the recently announced changes to the individual savings account (Isa) rules should be good news for the growing retail client base.
Isa rule changes significant for Jarvis
Jarvis offers two main products: ShareDeal-Active, a low-cost execution-only service for nominee and certified accounts, Isas, Peps and Sipps; and X-O, an online share trading service enabling clients to trade for a flat fee of £5.95 per trade, one of the lowest rates in the market. Boosted by the launch of X-O, retail client numbers have been growing strongly at an annual average rate of 13.8 per cent over the past five years, with very little advertising. The client base is up 15 per cent in the past 12 months, highlighting the strength of the company's proposition. These customers range from multimillionaires to day traders. Screen-based dealing accounts for half the business by volume. And this business is likely to get a boost shortly when the Isa eligibility rules change for Aim-traded stocks.
That is likely to give a boost to Jarvis's own share price, too, as its shares will shortly be Isa eligible, increasing the potential demand from income seekers attracted by the company's progressive dividend policy. As I pointed out previously, Jarvis has a stated policy of paying out two-thirds of its net earnings as a quarterly dividend. We have already banked the 3.5p first-quarter dividend in May and the company will be paying the same amount for the second quarter payout on 12 September (ex-dividend: 21 August). On the basis of full-year EPS of 21p, up from 16.6p in 2012, expect the full-year dividend to rise by 24 per cent from 11.25p in 2012 to 14p this year. If those earnings forecasts from WH Ireland are achieved, and my instinct is that they are likely to be exceeded, this implies a conservative prospective yield of 4.2 per cent and a forward PE ratio of 16.
However, it's worth noting that low-yielding cash on Jarvis's balance sheet has more than trebled in the past year to £8.8m, the equivalent of 82p a share. Strip this out and the shares are trading on a very attractive 11.8 times 2013 earnings estimates.
New target price
So, even though the company's share price has shot up 50 per cent since I initiated coverage five months ago, I can see potential for further share price upside given the obvious scope for further earnings upgrades in the second half. Trading on a bid-offer spread of 330p-335p, I continue to rate the shares a buy and have a new target price of 375p, marginally higher than WH Ireland's upgraded target price of 365p (up from 320p).
Given the success with this particular share pick, it may be of interest to know that I used a Dreman-derived stock screen to uncover the potential in Jarvis Securities five months ago. I have highlighted the specific criteria I used in the screen, and outlined both the screening and investment techniques I employed in a detailed case study of Jarvis Securities, in a dedicated chapter on contrarian investing in my new book, Stock Picking for Profit.
Beating forecasts
My decision to reiterate my buy advice on IQE (IQE: 25p) ahead of the first-half trading update has been justified (‘Awaiting a catalysts for a re-rating’, 11 July 2013). In fact, the shares traded as high as 28.5p on the day, well up on the 20.75p price ahead of the update, but have since fallen back on profit-taking.
Canaccord had been looking for half-year revenues of £61.5m, cash profits of £9m and net debt of around £40.8m, but in the event IQE reported revenues of £63m, cash profits 11 per cent higher at £10m and net debt 3 per cent lower at £39m. The company is a global supplier of advanced wafer products to the semiconductor industry and has been benefiting from very positive trends in the wireless market; in particular, increasing adoption of more sophisticated communication devices including 4G and LTE smartphones and tablets, and newly launched dual band wifi. In the six-month period, sales growth was primarily driven by the wireless division, which included contributions from the RFMD and Kopin acquisitions.
Interestingly, analysts at Canaccord see potential for upgrades post the half-year results in mid-September, given the heavier second-half bias to earnings this year due to the timing of product releases and ramp-up in the photonics and advanced solar technology markets. Currently, the brokerage is looking for adjusted EPS to rise 40 per cent to 2.1p based on a 62 per cent increase in both sales and cash profits to £142m and £26.6m, respectively. On this basis, the shares are trading on a lowly forward PE ratio of 11.5. And with the full cost benefits to come through from Kopin next year, Canaccord predict cash profits will rise by a further £10m to £36.6m on revenues of £160m, to produce EPS of 3.3p. If achieved, the prospective PE ratio drops to 7.
Ahead of likely earnings upgrades in six weeks' time, I continue to rate IQE shares a buy on a bid offer spread of 24.75p to 25p. My medium-term target price remains 40p.
Follow the insiders
I noted with interest half-year results from Greenko (GKO: 130p), the Indian developer, owner and operator of clean energy projects.
True, the shares have yet to make progress towards my 200p-a-share fair value target, having advised buying at 138.5p ('Buy signal flashing green', 18 Mar 2013) and reiterated the advice at 125p (‘Awaiting another spark for a re-rating, 9 May 2013). However, there is every reason to believe that they will. Chairman Keith Henry certainly thinks so as he has just bought 20,000 shares at 119p.
The operational performance of the company supports that purchase after Greenko's reported full-year results were well ahead of Arden Partners' expectations. Cash profits of €32.8m beat the broker's €30.7m estimate, reflecting "an additional €1.2m for the sale of an unused biomass project licence, a higher fair value adjustment with good underlying performance from the hydro assets".
To recap, my interest was sparked by a £100m investment in Greenko Mauritius by an affiliate of the Government of Singapore Investment Corporation (SIC), one of the world's leading sovereign wealth funds. The shares are convertible on a one-for-one basis into ordinary shares in Greenko, subject to final adjustment between 1 July 2015 and 30 June 2017.
Importantly, the funds will enable the company to ramp up the construction of its power portfolio and take advantage of the attractive power opportunities in India. Greenko has added six new run-of-river hydro projects totalling 425 megawatts (MW) to its active development pipeline. Two of these are additions to the existing hydro cluster in Himachal Pradesh and a further four projects will form a new regional cluster in Arunachal Pradesh, with site work expected to start in late 2013. With the £100m new funding in place, Greenko is targeting approximately 2,000MW of operating capacity in 2018, double the target for 2015. Currently, the company has 806MW operating, but is clearly making progress towards that 2,000MW target.
The wind project at Balavenkatpuram is due to complete by the end of the monsoon season, and the site has been expanded to 200MW. This highlights the benefits of Greenko's policy of developing sites with incremental expansion opportunities. The RK Maharashtra projects will add an additional 20MW. And it is the extra revenue and profit generated from this steep ramp-up in capacity that should drive a re-rating.
Robust earnings growth forecast
Analyst Adam Forsyth at Arden forecasts that revenues will more than double from €36m to €78.2m in the financial year to March 2014 to boost operating profits by 150 per cent to €40m, increasing to €128m and €78.4m the year after. On that basis, EPS rises from 5.4¢ to 6.75¢ in the 12 months to March 2014, increasing to 16.2¢ the year after. If Greenko can hit these targets over the next two financial years, then it is reasonable to assume that the share price will start to reflect the upside that the SIC clearly sees in the revenue-generating potential of the power generation assets.
Target prices
Mr Forsyth values Greenko at 266p a share and notes that "a strengthened board and strong newsflow should give investors more confidence", a view I completely agree with. So, ahead of the next trading update at the annual meeting, and priced on a bid-offer spread of 127p-130p - rising towards the top end of the 100p-140p trading range in which the shares have oscillated since December 2011 - I remain a firm buyer.
Please note that I have updated the investment case on another seven small-cap shares in an another online article today: Small-cap trading buys. and Deep value plays. My next article will appear online tomorrow morning.
