It's fair to say that the market backdrop for small-cap investing has proved incredibly benign for the past six months, which is one reason why so many of the shares I have recommended buying have produced eye-catching gains. In fact, yet more companies I follow have been hitting my target prices, prompting many of you to request my latest view. It's timely too as I have just embarked on a three-week vacation so this will be my last column until Tuesday 23 May.
Profiting from student digs
Shares in Watkin Jones (WJG:176p), a construction company specialising in purpose-built student accommodation, have now passed through my upgraded 170p target price, having risen by 21 per cent since my last buy recommendation five weeks ago ('Five small-cap buys', 29 Mar 2017). It's a business I know well, having advised buying around the 103p mark when the company joined Aim just over a year ago ('A profitable education', 3 Apr 2016).
Recent trading highlights why investors have re-rated the shares. In the year to date, the company has sold five student accommodation developments, representing 2,347 beds in total and a gross development value of £192m. This means that all the developments planned to be completed by September 2017 and five of those planned for the following financial year have been forward sold. Moreover, a further six developments totalling more than 1,705 beds are under offer and in legal negotiations which, when concluded, will see all the developments planned to be completed by September 2018 forward sold. Progress on the pipeline further out is equally impressive. Watkin Jones is also making good headway in the private rented sector, having completed a 322-bed scheme in Leeds and secured a 132-unit development site in Sutton. It is currently working on a number of planning applications and other site acquisition opportunities.
The point being that since joining the junior market the pipeline has been significantly de-risked, so much so that analyst expectations of a 7 per cent increase in earnings per share to 13.3p in the 12 months to the end of September 2017, rising to 14.5p in the 2017-18 financial year, look in the bag. It also means that the free cash flow is likely to be around £40m this year, which more than twice covers the cash cost of a forecast payout per share of 6.3p, based on estimates from analysts Mark Hughes and Hannah Crowe at research firm Equity Development.
On this basis, Watkin Jones' shares are rated on a forward PE ratio of 12 for the 2017-18 financial year, or just 10.5 times after you factor in a cash pile that is expected to almost double to £60m by September 2017, a sum worth 23.5p a share. That's still not a punchy rating and I feel that there is scope for the shares to re-rate nearer to a cash-adjusted forward PE ratio of 12, suggesting another 10 per cent share price upside to around 195p.
So, ahead of the half-year results on Thursday 1 June 2017, I would run your healthy profits on what has been a cracking investment. Run profits.
Amino has the ammunition
Aim-traded shares in Amino Technologies (AMO:215p), the Cambridge-based provider of digital entertainment solutions for internet protocol (IP) TV, internet TV and in-home multimedia distribution, hit my 220p target price last week, having risen by a further 15 per cent after the company issued its third earnings beat in less than a year ('In the ascent', 20 Feb 2017). For good measure you have also banked the final dividend of 4.65p a share. Longer-term holders are doing well too as the holding is showing a 183 per cent gain since I first advised buying at 83p ('Set up for a buying opportunity', 10 Jun 2013), including total dividends per share of 19.65p.
It's easy to understand investors' enthusiasm as the company has a solid sales backlog and pipeline, both of which have prompted analysts at broker N+1 Singer to upgrade their EPS forecasts by 9 per cent for this year and next, to 13.9p and 14.4p, respectively, post Amino's full-year results in February. Free cash flow more than trebled to £8.2m - far better than analysts had expected - and supported a 10 per cent hike in the payout to 6.05p a share, the fifth successive year it has risen. Guidance is for at least the same again this year, implying Amino's shares offer a prospective dividend yield of 3 per cent.
True, the shares are now rated on 15 times forward earnings and have hit N+1 Singer's target of 215p, and FinnCap's 220p target price too, but it's worth flagging up that N+1 Singer describes its forecasts as "conservative", so the half-year pre-close trading update in early June has potential for earnings surprises. Moreover, as the media and telecoms industry moves towards IP as the key enabler for all media and services to be delivered from the cloud to any device, anytime and anywhere to ensure consumers enjoy an 'on demand' service, then demand for Amino's technology can only increase.
That said, it makes sense to bank some profit on valuation grounds, so I would recommend top-slicing your holdings and running the balance for free ahead of the forthcoming trading update.
Trifast for record profits
One company that is accustomed to underpromising and overdelivering is Trifast (TRI:222p), a small-cap manufacturer and distributor of industrial fastenings with operations in 17 countries across Europe, Asia and North America. A pre-close trading statement released ahead of results on Tuesday 13 June pointed towards another record-breaking financial year and results ahead of the board's previous guidance, thus justifying my call to remain a buyer of the shares, at 204p, ahead of the trading update ('Engineering re-ratings', 6 Mar 2017).
The company generates around 70 per cent of its operating profit outside the UK, so last year's devaluation of sterling is providing a currency tailwind on its international earnings, so much so that second-half profits for the year just ended have been boosted by £1.4m, and that follows a £1m first-half currency gain. Importantly, there has been good organic growth from all geographies, including a further improvement in UK demand fuelled by the automotive and distributor markets, while its Asian operations have been benefiting from export-led growth for Trifast's large multinational original equipment manufacturers customers.
Another key take is that the combination of impressive cash generation and working capital management meant that net borrowings almost halved to £8.2m over the course of the financial year to the end of March 2017 - far better than analysts had expected - which suggests gearing levels well below 10 per cent. This gives the board ample firepower to make further well-timed acquisitions, having shrewdly acquired VIC, an Italian maker and distributor of fastening systems predominantly for the white goods industry, a few years ago, and more recently Kuhlmann, a distributor of customised industrial fasteners focused mainly on the German market and one that is providing Trifast with exposure to the country's automotive sector.
Further corporate activity is probably going to be needed for the share price to rise a further 10 per cent or so and hit Peel Hunt's top-of-the-range target price of 250p. That's because even after factoring in another round of earnings upgrades, which point to a 23 per cent hike in EPS for the 12 months to the end of March 2017, Trifast's shares are now trading on 18 times likely earnings and offer a 1.4 per cent prospective dividend yield. Also, a landslide Conservative victory at the forthcoming general election is likely to underpin a continuation of the rally in sterling that has seen the currency rise by 8 per cent from its autumn lows against both the euro and the US dollar, and dampen the currency tailwind on Trifast's overseas earnings.
So, having first recommended buying Trifast's shares at 53p in my 2013 Bargain Shares Portfolio, and banked 6.7p a share of dividends since then, I feel it's prudent to top-slice half your holdings to bank some of the 332 per cent gain and run profits on the balance.
Paper gains for Accrol
The recovery in sterling in recent weeks is good news for Aim-traded Accrol (ACRL:151p), the Blackburn-based maker of toilet rolls, kitchen rolls and facial tissues. That's because although Accrol's management team was shrewd enough to take out hedging arrangements before the EU referendum, and continues to actively manage its foreign-exchange risk, the company outsources the supply of paper reels in order to benefit from the lower cost advantages of overseas manufacturers compared with UK peers. It makes sense to do so because there is a global oversupply of both pulp and industrial paper reels as additional capacity is set to flood the market until 2019.
The potential for lower input costs on sterling gains aside, I expect the company to report a continuation of its strong organic growth when it releases its pre-close full-year trading statement in the coming weeks. Sales have grown at a compound annual growth rate of 16 per cent over the past four years, driven by the company's exposure to the discount retailers - and private-label products, in particular, where it has a 50 per cent share of the tissue market. So, with UK inflation ticking up again, it's only reasonable to expect more cash-strapped consumers to substitute higher-cost branded products with lower-cost private-label ones from discounters in an attempt to balance weekly shopping budgets.
Accrol's shares are in bargain territory, too, rated on less than 10 times Equity Development's EPS estimates of 15.6p, and offering a 4 per cent prospective dividend yield. So it's not surprising that the share price, which pulled back after hitting my conservative target price range of 155p-160p, is rallying strongly. Needless to say, having advised buying around the 100p listing price when Accrol floated on Aim last summer ('Clean up with Accrol', 6 Jun 2016), and reiterated that advice at 139.5p ('A quartet of Aim-traded buys', 9 Jan 2017), I remain a buyer. In fact, I am upgrading my target price to 180p ahead of what I expect to be a positive trading update. Buy.
Epwin on the march
Aim-traded shares in Epwin (EPWN:123p), a manufacturer of extrusions, mouldings and fabricated low-maintenance building products, have a decent chance of hitting the 140p target price I outlined when I last rated them a buy at 106p ('Exploiting undervalued special situations', 6 Feb 2017). True, the price has proved volatile since I initiated coverage at 103p when the company joined the junior market ('Moulded for gains', 29 Jul 2014), but longer-term holders are still well in the money and have banked total dividends per share of 12.8p, excluding last year's final payout of 4.4p which goes ex-dividend on 11 May.
Admittedly, trading conditions in the repair, maintenance and improvement (RMI) market remain challenging and it was the contribution from earnings-accretive acquisitions that produced the 23 per cent or so hike in reported pre-tax profit and EPS to £23m and 13.95p, respectively, and supported a modest rise in the payout per share to 6.6p. However, that was the purpose of listing the shares in the first place. There is potential for further bolt-on deals to keep the top and bottom lines moving, given that closing net debt of £20.6m equates to less than two-thirds of cash profit.
That is likely to be needed as cost pressures are pointing to a flat profit performance this year as the company will find it difficult to push through the input price rises it's facing on PVC polymer and window hardware. That said, with Epwin's shares rated on just 8.6 times earnings, representing a 33 per cent discount to peers, and offering a 5.3 per cent dividend yield, this is priced in. Indeed, I feel that it would take a material deterioration in end markets to derail the business and that seems highly unlikely. Buy.
MORE FROM SIMON THOMPSON...
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