Pure Wafer price surge
I have always taken the view that if a company is profitable and its share price is trading on a substantial discount to a sum-of-the-parts valuation, then the risk:reward is favourable for long-term gains in the event of the right catalyst emerging to trigger the requisite investor interest. It can be a long waiting game sometimes, but over the years I have seen deep value shares re-rated again and again, which is why I persevere with selecting shares on the basis of their balance sheet strength.
That's the very reason why I was comfortable recommending holding on to shares in Aim-traded Pure Wafer (PUR: 113p), a leading global provider of high-quality silicon wafer reclaim services to some of the world's largest semiconductor makers and foundries, after the company had announced that it was fully insured for financial losses following a major fire at its Swansea facility (‘Engineering growth’, 5 February 2015).
Other investors eventually cottoned on to the valuation anomaly and Pure Wafer’s share price steadily rose from 42p at the time of that article to just shy of 60p when the company announced 10 days ago that it had agreed a full cash settlement with its insurers. It is one that will lead to a cash return “significantly higher than the share price at the time of the announcement (59.59p), but unlikely to be higher than 125p a share". To put this sum into some perspective, a payout of 125p a share is three times the level the share price was trading at little over three months ago when I maintained my positive stance. It is also 15 per cent higher than the current share price, too. I had originally initiated coverage when Pure Wafer’s share price was 72.5p ('Time to chip in', 10 October 2013), and it subsequently hit a high of 101p at the start of last year. This means everyone following my advice over the past 18 months should be heavily in profit.
The reason for the cash return is because the company has decided not to reinstate the fire-ravaged Swansea facility, due to the fact that business from a number of customers has been lost permanently to rivals, but it will continue with operations at its plant in Prescott, Arizona. This is a sensible decision in my view, albeit it will mean redundancies for the staff in Wales, so there is a human cost here. The company is bound by a confidentiality clause with its insurers, so the actual size of the payout from the insurance claim has not been disclosed to the market. But the fact that the board is even mentioning a cash return figure as high as 125p a share, or £35m, after accounting for settling liabilities on the Swansea facility, is worth noting.
It’s also worth pointing out, as I have done in my previous articles, that the Arizona facility accounted for 61 per cent of Pure Wafer’s cash profits, or around $4m (£2.6m) in the financial year to end-June 2014. Also, the company has a cash-rich balance sheet, ending that period with net funds of £1m. So even if we conservatively value the US business on a miserly four times annual cash profits, then this unit alone is worth £10.4m, or 38p per Pure Wafer share. Moreover, even though the company’s share price has soared to 110p, there is a fair chance that the total cash return will be of at least this magnitude, meaning that the Arizona business is in the price for free.
In the circumstances, I rate Pure Wafer's shares a buy on a bid-offer spread of 110p-113p and have an initial target price of 140p-150p, assuming a conservative cash payout of between 100p and 110p a share and a value for the retained US business of 40p a share. The cash payout could easily be more. So ahead of a further announcement from Pure Wafer in mid-June following a consultation with its UK staff, I rate the shares a strong buy.
Paragon repeat buy signal imminent
Shares in the UK’s largest buy-to-let mortgage lender Paragon (PAG: 440p) are on the verge of signalling a major triple-top breakout on their point-and-figure chart. A share price close above 445p would be confirmation of this as it would take out the intraday highs of 444.4p, which capped previous rallies in both February and April. It would also realistically provide the platform for a rally up to the 500p level and beyond, especially as the technical indicators are positive.
For instance, the 14-day relative strength indicator (RSI) has a reading of 60 so is not overbought; and both the 20-day and 50-day exponential moving averages are around the 427p level, so the current price is not overextended above its important short-term trendlines. The moving average convergence divergence momentum oscillator (MACD) appears to have bottomed out and is on the verge of making a positive crossover too.
Importantly, the fundamental case for investing in the shares is sound, especially as the re-election of a Conservative government, and one which supports the private sector housing market, is good for the buy-to-let housing market as landlords can now plan without facing the threat of government interference in their affairs.
So although the shares have risen by 28 per cent since I initiated coverage when the price was 347p six months ago (‘Riding the buy-to-let boom’, 27 October 2014), and have smashed my initial target price of 400p, I feel that a forward PE ratio of 13 for the fiscal year to end-September 2015 is still attractive for a company delivering double-digit earnings growth, as is a prospective dividend yield of 2.2 per cent based on a hike in the payout from 9p to 10p a share.
My advice here is simple: existing holders should run their bumper profits, and new investors should buy on a confirmed breakout above the 445p resistance level. In the event of that chart breakout, my new target price is 500p.
600 Group boss exits
600 Group (SIXH: 16.5p), the Aim-traded machine tools and laser marking company, has announced that chief executive Nigel Rogers has resigned from his position, having led the company for the past three years. During this time, 600 Group successfully carried out the disposal of operations in Poland and South Africa, sold surplus property in the UK and has seen a turnaround in its core machine tools, precision engineering components and laser marking businesses in the UK and the US. Non-executive chairman Paul Dupree will become executive chairman with immediate effect.
It’s an interesting change in senior management and one worth noting. That’s because Mr Dupree is a senior member of private equity firm Haddeo Partners, a 25.4 per cent shareholder in 600 Group. I understand the rationale for his appointment is to accelerate the company’s growth rate by taking a more hands-on approach to the business and, in so doing, to enhance the investment return for Haddeo. 600 Group is moving in the right direction; the pre-close trading update accompanying news of Mr Rogers’ resignation revealed 600 Group reported revenue growth of about 5 per cent in the financial year to 31 March 2015, or 3 per cent on a like-for-like basis, excluding the impact of the acquisition in February of US-based laser marking company TYKMA.
Guidance is for a 20 per cent increase in pre-tax profits (including the effects of pension credits, amortisation and the costs attributable to the acquisition and associated fundraising) to £3m (£2.48m in 2014). But after adjusting for these items, underlying pre-tax profits rose by a more modest 5 per cent to £2.1m in the 12-month period to produce EPS of 2p. Clearly, Mr Dupree and Haddeo believe they can achieve a better operational performance. I am inclined to give them the benefit of the doubt, especially as the integration of TYKMA, purchased for an initial consideration of £3m, with 600 Group’s subsidiary Electrox Laser has been progressing well.
Moreover, after factoring in the contribution from TYKMA, analysts at brokerage FinnCap forecast that underlying profits will rise from £2.1m to £3m in the current financial year to end-March 2016. TYKMA reported operating profits of around £477,000 on revenues of £5.5m in 2014, so finnCap’s estimate that revenues will rise from £44.5m to £53m in fiscal 2016 to produce those aforementioned profits look sensible to me. On this basis, adjusted EPS rises by a quarter to 2.5p and the forward PE ratio falls to 6.5.
So, although the departure of Mr Rogers has undoubtedly subdued investor sentiment in the short term, I feel that the upside from the acquisition of TYKMA, coupled with the new impetus being injected into the company from Mr Dupree, should be enough to spark the share price re-rating I have been looking for. Offering almost 50 per cent share price upside to my target price of 24p – finnCap’s maintained target price is 27p – I rate 600 Group’s shares a medium-term buy on a bid-offer spread of 15.5p-16.5p.
Please note that I last updated my view three months ago when the price was 16.5p (‘Upgrades to drive re-ratings’, 17 February 2015), having initiated coverage at 19p just over a year ago ('Tooled up for a strong recovery', 14 April 2014).
Making a fair point
Fairpoint (FRP: 127p), a leading provider of consumer professional services including debt solutions and legal services, has posted an upbeat trading update at its annual meeting ahead of its half-year pre-close trading statement in July.
Last summer's acquisitions of Simpson Millar LLP Solicitors, a consumer legal services business, and Fosters & Partners, a Bristol-based law practice specialising in all aspects of family law, are both performing well and the board is on the lookout for additional complimentary deals in this space to expand the business segment. The legal services unit accounted for half of group revenues and contributed pre-tax profits of £1.6m in the second half of last year, so is now generating more profit than Fairpoint's diminishing IVA services business, which continues to encounter tough market conditions. That’s not going to change any time soon, which makes the board’s decision a few years ago to diversify its revenue streams away from IVA services - acquisitions have also boosted the company's debt management plan (DMP) operation - has proved wise in hindsight. It also means that we can expect another year of growth.
Indeed, analysts predict that Fairpoint's pre-tax profits and EPS will increase by mid-single-digits to £10m and 18p, respectively, in 2015 to underpin a similar percentage rise in the comfortably covered dividend to 6.8p a share. On this basis, the shares are rated on a prospective PE ratio of only 7.5 and offer a forward dividend yield of 5.4 per cent. A price-to-book value ratio of 1.2 times is hardly exacting, either.
Interestingly, Fairpoint’s share price is close to generating both a swing and point-and-figure buy signal on a price move though the 130p level. In the event, this would open the door for a rally to last autumn’s highs around 142p and beyond to the six-year high of 164p from late April 2014. I feel my long-term target price of 190p is not unreasonable, implying a rating of 10.5 times this year's expected earnings. So with the technical set-up favourable, and a further trading update in July likely to be equally positive, not to mention scope for earnings-enhancing acquisitions in the months ahead to garner further investor interest, I continue to rate Fairpoint’s shares a buy on a bid-offer spread of 124p-127p.
Please note that I first advised buying Fairpoint’s shares at 98.25p in my 2013 Bargain Shares Portfolio and last updated the investment case post the fiscal 2014 results when the price was 123p (‘Blow out results’, 18 March 2015).
AB Dynamics bumper results
Shares in AB Dynamics (ABDP: 207p), a designer, manufacturer and supplier of advanced testing systems and measurement products to the global automotive industry, have been motoring this year and hit a high of 207p post results for the six-month period to 28 February 2015. This not only justifies my decision to include the shares in my 2015 Bargain Shares portfolio at 173p three months ago, but the price move is fully supported by strong fundamentals too.
In the latest six-month trading period, the company’s revenues increased by 13 per cent to £7.6m to lift pre-tax profit by 30 per cent to £1.5m. And with net funds much higher than I expected at £7m, up from £4.6m a year earlier, the board has rewarded shareholders with a 10 per cent dividend hike to 1.1p a share. Analysts are pencilling in a 12 per cent hike in the full-year payout to 2.8p a share, rising to 3.1p a share in fiscal 2016, so there is a progressive dividend, too, and one underpinned by a growing cash pile now worth 42p a share.
Prospects for the rest of the year and beyond are positive, too, underpinned by the ongoing heavy investment in research and development by international carmakers to develop new cars in a timely and efficient way while also adhering to stringent safety regulations. The company’s lab testing and track testing products enable car manufacturers to develop and design vehicles that are safe and pleasing to drive by factoring in precise dynamic measurements. In fact, demand is so high that AB Dynamics is building a new high-tech manufacturing and office facility which will be completed in the latter part of 2016 and is being part-funded by a grant of up to £2.3m from the UK government’s Regional Growth Fund.
So with the trading backdrop positive, and the board confident of hitting full-year EPS estimates of around 13p, I feel that an earnings beat could be on the cards. That makes a cash-adjusted PE ratio of 13 attractive and I continue to rate the shares a buy on a bid-offer spread of 204p-207p. My target price is 230p.
Please note that I published an article with all the share recommendations I have made this year at the end of last month.
■ 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'
