Strategic acquisitions

By way of background, SSW announced a transformational sales and marketing deal at the tail end of last year with the Eurobroadband joint venture (JV) established between Viasat, Inc. and Eutelsat Communications which is building a retail consumer broadband business across Europe. SSW is providing in-language/in-market sales, installation, billing, customer care and logistics services. The JV provides marketing support, satellite network capacity and customer premise equipment, thus enabling SSW to grow much faster and enter new markets too. Broadband service operations have already been launched in Poland, Norway, Spain, Sweden and Finland, and the JV now plans to roll-out its service into Germany and Italy.

This explains why SSW is making two strategic bolt-on acquisitions in both countries: Open Sky, a leading satellite broadband provider in Italy with 14,500 customers, and a business that made cash profits of €900,000 (£789,000) on revenues of €10.3m in 2017; and Sat Internet, a well-established provider of satellite broadband with 6,000 customers in Germany and Austria, and 500 customers in Portugal. Sat Internet reported cash profits of €700,000 on revenues of €4.8m in 2017. The maximum combined consideration of €13m (£11.4m) comprises €2m of new SSW shares, €9m of cash, and a capped earn-out of €2m. Around £1m of the £12m placing proceeds will cover transaction fees and placing costs, leaving £3m available to fund additional bolt-on acquisitions and for working capital. SSW has increased its debt facility with HSBC from £5m to £8.25m, part of which can be used to finance further deals.

Chief executive Andrew Walwyn believes Germany represents a large addressable market for alternative super-fast broadband providers such as SSW. He has a point as the country is the largest economy in the EU, has a high GDP and a large number of rural households with low broadband speeds (around 3.9m households have internet speeds of less than 4mbps). Unlike the UK, the German government has yet to adopt any form of subsidy scheme to promote alternative broadband connectivity, but has announced significant investment into broadband infrastructure in the years leading up to 2020, a proportion of which will filter down to alternative broadband technologies.

Italy offers strong growth prospects too as 3.6m households in the country have broadband speeds below 4mbps, and Open Sky has launched a new combo product combining hybrid satellite connections with wireless/ADSL failover. Moreover, with hubs now in Italy, Germany and Portugal, SWW is well placed to drive additional organic revenue and subscriber growth, and leverage off the JV’s roll-out across these countries. There should also be incremental cost benefits to be reaped from its increased scale and greater operational leverage.

Both acquisitions are expected to be earnings accretive in their first year, and make a positive free cash flow contribution too. In addition, they have boosted SSW’s subscriber base to 121,000 and add further weight to predictions that the company can grow subscriber numbers to 150,000 by 2020. Analysts have yet to release their new estimates, but I maintain that an enterprise value to cash profit multiple of 10 times for the 2018-19 financial year is reasonable, suggesting a further 30 per cent share price upside based on my financial models. Please note that the company intends changing its name to Bigblu Broadband and is proposing a 15-for-one share consolidation subject to shareholder approval at the annual meeting on 23 May.

So, having initiated coverage at 5.5p ('Blue-sky tech play', 21 Mar 2016), and last advised buying at 8.5p (‘Profit from corporate activity’, 26 Mar 2018), I maintain my positive stance and 11p target price. Buy.

Mind + Machines maiden profit and acquisition

Aim-traded Minds + Machines (MMX:7.7p), a service provider in the domain name industry focused on the new top-level domain (TLD) space, has delivered its maiden year of profitability, posting IFRS reported pre-tax profits of $3.8m on revenue of $12m after adjusting for partner payments, buoyed by a doubling of renewal revenues to $4.8m.

Excluding exceptional gains on TLD auctions, share based payments and the costs of a strategic review, the company delivered adjusted pre-tax profit of $3.1m and EPS of 0.4¢. Minds + Machines’ domains under management surged from 821,000 to 1.32m in 2017, so generating an annuity-style income stream, from a portfolio including TLDs: .london, .miami, .boston, and .vip; the latter proving a huge hit in China. A move into sustained profitability was the key reason why I included the shares, at 8p, in my 2016 Bargain Shares portfolio. I subsequently advised tendering 13 per cent of your holdings back to the company at 13p a share in September 2016 when a subsidiary of a leading Chinese private equity firm acquired a 6 per cent stake.

The figures themselves were completely overshadowed by news of the long awaited outcome of a strategic review which has resulted in Minds + Machines acquiring Florida-based ICM Registry, the owner of four high value, niche TLDs that have 100,000 registrations, generated net sales of $7.27m (of which 78 per cent was renewal based) and reported net income of $3.5m in 2017. Minds + Machines is paying $10m from its cash balances of $15.9m and issuing 225m new shares in stages to the vendors subject to 12-month lock-ins. Financially, it looks a sound deal and one that’s expected to be earnings accretive in the current year.

The issue I have is the nature of ICM’s four TLDs (.xxx, .sex. .adult and .porn) which doesn’t sit well with my moral compass, nor perhaps with that of other investors who sold out on the news. So, even though there is value on offer as I noted when I last advised buying the shares at 9p (‘Enlightening calls’, 5 Feb 2018), I am exiting the holding at the current bid price of 7.5p. This means that my 2016 Bargain Shares portfolio is now showing a 46.4 per cent total return, still well ahead of the 37.4 per cent return on a Deutsche Bank FTSE All-Share tracker.

Chariot hits a duster

Aim-traded Chariot Oil & Gas (CHAR:8.3p), an oil exploration company with activities in Morocco, Namibia and Brazil, has announced that drilling on the long awaited Rabat Deep-1 well offshore Morocco, in which it has a 10 per cent interest, has come up dry. The company had partnered with oil giants Woodside and Eni, recovering all back costs and securing a capped carry through drilling, but this is clearly a major disappointment. Analysts at broking house finnCap had been factoring in 12p a share in their previous risked net asset value (NAV) estimate of 39p for the prospect. Moreover, it’s hardly ideal news for de-risking other targets Chariot’s management has identified within its neighbouring Mohammedia and Kenitra permits in which the company holds a 75 per cent interest.

Attention is now focused on Prospect-S in Namibia (prospective resources of 459m barrels) which is due to spud in the fourth quarter this year. Chariot has a 65 per cent working interest and is seeking a farm-in partner for its Central Blocks in Namibia to lay-off some of its net cost exposure on Prospect S which broker Peel Hunt estimates at $15.6m. It’s an exploration hotspot with oil giants Total and ExxonMobil entering the region in recent months. On a risked basis, finnCap values Prospect S at 23p a share, or almost three times Chariot’s share price.

Not surprisingly Chariot’s share price slumped on the Moroccan drilling news to below the 13p price at which the company raised $21.1m in a placing and open offer a couple of months ago, primarily to fund drilling of a well at Prospect S in Namibia. However, with cash of $32m (£23.6m) in the bank equating to 6.5p a share, and a farm-in deal in the Central Blocks possible, then the chances of drilling success in Namibia is being very modestly valued by investors in Chariot’s current valuation.

I first advised buying Chariot’s shares at 8.29p in my 2017 Bargain Shares Portfolio, top-sliced two-thirds of the holding at 17.5p ('Bargain Shares on a tear', 3 April 2017), and last advised using some of those profits banked to take-up the one-for-eight open offer at 13p on the balance of your holding (‘On the earnings beat’, 5 Mar 2018). If you have been following my advice, you will still be sitting on a healthy 67 per cent profit on your investment even though Chariot’s share price has come back to my original entry point. The holding accounts for a fifth of the 32.4 per cent return on my 2017 Bargain Shares Portfolio (updated performance table available online), a decent outperformance against the 10.9 per cent return on a Deutsche Bank FTSE All-Share tracker.

So, ahead of drilling in Namibia, and a possible farm-in deal, I would run profits.

Kromek hits break-even on record sales

Sedgefield-based Kromek (KMK:24.3p), a radiation detection technology company focused on the medical, security and nuclear markets, has achieved cash profit break-even on record sales in the 12 months to end April 2018. Analysts Paul Hill and Andy Edmond at Equity Development believe that the company delivered second half revenues of about £7.7m, up from £4.8m in the first half and £8.9m for the whole of the 2017 financial year.

Kromek has developed a 'dirty bomb' detector that is 10 times faster at detecting gamma and neutron radiation, and at a tenth of the cost of conventional detectors. Having been awarded a high-volume production contract in early 2016 by the US Department of Defence, to date the company has shipped 10,000 of these detectors and recently won a $1.6m extension. The big hope is that the US government decides to roll out these detectors across more than 20 cities in the US with each contract worth north of $10m (£7.4m). Kromek’s ability to fund such large contracts is supported by a net fund position of £13.3m, accounting for almost half of its net tangible assets.

Importantly, Kromek is not a one-trick pony as its patented core cadmium zinc telluride (CZT)-based radiation detection technologies have been proving popular in medical imaging. For instance, only a few weeks ago, the company was awarded a £1.4m contract in partnership with Newcastle-upon-Tyne Hospitals NHS Foundation Trust to deliver a Low Dose Molecular Breast Imaging technology. Dr Arnab Basu, chief executive of Kromek, points out that "our innovative CZT-based SPECT detectors are capable of significantly lowering radiation doses, thereby offering cost savings for health services and, crucially, making enhanced detection and early diagnosis of breast cancer accessible on a much wider scale”. In the financial year just ended Kromek was also awarded a repeat contract, worth $5.38m, by one of its OEM customer to supply its CZT-based detector modules for a new medical diagnostics product, just one of several contract awards.

It’s also reassuring to know that “Kromek’s products continue to gain traction in all business segments”, guidance which suggests the ongoing growth will continue into the new financial year, thus supporting Equity Development’s revenue estimate of £16m and cash profit forecast of £1.4m for the 12 months to end April 2018.

So, having first advised buying Kromek’s shares at 25p ('Follow the smart money', 27 Feb 2017), after which the price rallied to 37p before profit taking took hold, and last rating them a buy at 23.75p at the start of this year (‘Value opportunities’, 8 Jan 2018), I continue to feel the contract momentum is not being accurately priced into a valuation of only three times forecast current year sales to enterprise value, and a price-to-book value of 1.5 times. I maintain my 34p target price and rate Kromek’s shares a buy.

■ Simon Thompson's new book Successful Stock Picking Strategies was published on 15 March and can be purchased online at www.ypdbooks.com, or by telephoning YPDBooks on 01904 431 213 to place an order. It is being sold through no other source and is priced at £16.95 plus £2.95 postage and packaging. 

Simon's second book Stock Picking for Profit has now been reprinted and is available to purchase online at www.ypdbooks.com for £16.95, plus £2.95 postage and packaging, or by telephoning YPDBooks on 01904 431 213 to place an order, reduced to £14.99 for all orders placed before 15 May.