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Undervalued small-caps

A trio of small-caps have handsomely outperformed their benchmarks, and offer strong reasons why they should continue to do so.
August 24, 2020

Aim-traded Venture Life (VLG:92p), a developer, manufacturer and distributor of products for the self-care market, has released another bullish trading update ahead of next month’s interim results. The company also announced this morning that its leading mouthwash, Dentyl, will be involved in a UK clinical trial in partnership with Cardiff University to investigate the use of over-the-counter mouthwashes. The aim is to help reduce the viral load and transmission of COVID-19 in the mouth. A previous review concluded that Cethylpyridinium Chloride, the main ingredient in Venture Life's mouthwash, may be effective in this respect.

In the first half, Venture's revenue soared by 80 per cent to £16.9m, the split being 65 per cent organic growth and 15 per cent from the acquisition of PharmaSource, a distributor of a range of medical device products (for fungal nail infections, wart removal and women's health). That’s already looking a shrewd purchase as house broker Cenkos Securities estimates that PharmaSource contributed £1.4m to sales, representing 43 per cent growth year on year.

Earlier this year, Venture announced its largest ever contract award, an exclusive 15-year agreement worth €168m (£147m) with its existing Chinese distribution partner. This is the minimum amount the partner needs to purchase to retain exclusive distribution rights in China, Macau and Hong Kong for Venture’s Dentyl brand (including mouthwashes, toothpastes, tooth whiteners and fresh breath beads) and some other products. Venture has already received orders from the distribution partner worth well over half the annual commitment after demand surged on the back of a new marketing initiative funded by the partner.

In addition, Venture extended its relationship with Alliance Pharma (APH) by being appointed as second manufacturer of Alliance’s Kelo-Cote products, and completed a further 11 long-term development and manufacturing agreements. The group also launched eight new products for its newly created DISINPLUS hand sanitiser brand. It’s doing well as Asda has already ordered 1m units.

Ahead of the interim results, analyst Chris Donnellan at Cenkos expects 2020 cash profits to double to £6m on 50 per cent higher revenue of £30.3m, a result that would drive pre-tax profit 167 per cent higher to £3.6m and deliver adjusted earnings per share (EPS) of 5.11p, up from 2.04p in 2019. This highlights the positive operational gearing of the business as a higher proportion of incremental gross margin earned on rising sales drops through to operating profit given Venture’s relatively fixed cost base. It’s worth noting that Mr Donnellan views his forecasts as “conservative”.

On this basis, the shares are rated on a 2020 cash-adjusted forward price/earnings (PE) ratio of 16, hardly expensive for a group that has decent prospects of delivering double-digit earnings growth next year, too, with the risk to forecasts skewed to the upside. Furthemore, Venture has access to a low-cost Italian debt facility and is expected to end this year with net cash of £3m (3.6p a share), so there is scope for earnings enhancing mergers & acquisitions activity to drive further upgrades.

The raft of positive news flow explains why Venture’s shares have doubled in value since I outlined the investment case, at 45p, in my May 2019 Alpha Report, during which time the FTSE Aim All-Share Total Return (TR) index has posted a pedestrian 1.6 per cent gain. The share price is now within pennies of my previously upgraded 95p target price (‘Four small-cap situations offering outperformance’, 15 June 2020), but I wouldn’t advise banking gains.

In fact, factoring in the likelihood of further profit upgrades – analysts have raised their earnings estimates three times since March – and the undeniably bullish trading outlook, I am raising my fair value target to 115p. Chart watchers will note that the shares are on the cusp of registering a bullish triple top break-out on a close above 90p. On a bid-offer spread of 89p to 92p, they rate a buy.

 

Checkit a Covid-19 technology winner

Technology group Checkit (CKT:43p) has reported a resilient trading update ahead of interim results expected on Wednesday, 16 September.

Following last autumn’s disposal of Bulgin, a world-class designer and maker of hermetically-sealed circular connectors, and the return of £81m to shareholders (through a two-for-three tender offer at 65p), the group is now focused on two core activities: high-end service-based temperature monitoring for healthcare and life sciences, and data-related building energy management systems; and a proprietary work management ‘software as a service’ (SaaS) business which replaces paper-based systems with a centralised, interactive cloud-based way of managing the multitude of tasks that staff carry out daily.

On a normalised basis, first half recurring revenue increased by 23 per cent to £2.3m, more than offsetting a 6 per cent decline (to £4.1m) in lower margin non-recurring installation and project based revenue. The headline numbers will show a doubling of revenue to £6.4m overall, but the normalised figures are a better guide as they iron out the impact of acquisitions. New installations and conversion of existing annual calibration and maintenance contracts in the healthcare sector into subscription-based income has been driving up recurring revenue. The segment now accounts for 36 per cent of overall turnover, up from 31 per cent in the same period last year.

The trend is likely to continue as Checkit targets revenue generation from high quality national and multi-national customers, better pricing on new contracts, and a greater focus on the healthcare sector where there is strong underlying demand for remote and reliable monitoring. It’s not just in the healthcare sector that Checkit’s cloud-based workflow management and automated monitoring systems should benefit from increasing adoption in working practices due to Covid-19. The product suite also includes a market leading wireless temperature sensor for the hot shelves used to keep ready-to-go food warm and safe.

Importantly, cash management is strong: net cash of £13.4m is only slightly down from £14.3m in late January. It should get a further boost when Checkit’s non-core Elektron Eye Technology business, a developer of portable analysers for detection of age-related macular degeneration, is sold.

Checkit’s shares are being offered in the market around the 44p entry point in my November 2018 Alpha Report, and if you followed that advice you have a free ride as the tender offer proceeds completely covered your initial outlay. The 29 per cent gain on the holding not only compares well with the flat performance from the FTSE Aim All-Share TR index, but is better on a risk-adjusted basis, too.

Interestingly, from a technical perspective, a close above the February 2020 high of 43.88p would complete a reverse head and shoulder pattern. There is little in the way of technical resistance to last autumn’s pre-tender offer highs around 60p. This is also my sum-of-the-parts valuation based on net cash of £13.4m (21.6p a share), £15m (24.2p) investment in the SaaS business, and £8.8m (14.2p) paid for temperature monitoring and building energy management systems business Next Control Systems in May 2019. As Checkit’s move towards cash profitability gains momentum, expect a narrowing of the share price discount to my sum-of-the-parts valuation.

On a bid-offer spread of 40p to 43p, Checkit’s shares are worth buying.

 

Exploit Metal Tiger’s hidden value

Metal Tiger (MTR:22p), an Aim-traded investment company primarily focused on undervalued natural resource opportunities, has issued a raft of announcements since my last update (‘Six small-cap buys’, 22 June 2020). The share price reacted positively, rising from 22.5p to a high of 27.5p last month, or 133 per cent above the 11.8p entry point in my 2020 Bargain Shares Portfolio. The subsequent pull-back is a repeat buying opportunity for multiple reasons.

Firstly, Metal Tiger is on course to make a windfall gain on its 7.29 per cent shareholding in Pan Asia Metals, a South East Asian metals exploration and development company focused on lithium and tungsten. The unlisted holding of 7.6m shares is in the books for A$830,000, or A$0.11 a share. However, Pan Asia planned IPO on the Australian Stock Exchange next month has been priced at A$0.20 a share, implying Metal Tiger is on course to make a £400,000 unrealised gain on the £443,000 carrying value of the investment. The company has also committed to invest A$0.5m by purchasing a further 2.5m new shares in the IPO.

Secondly, there has been positive drilling results at the T3 Copper-Silver copper exploration and development project in the Kalahari Copper Belt, Botswana that is operated by Sandfire Resources (Aus:SFR). Metal Tiger holds 6.29m shares worth A$31m (£17m) in the Australian Stock Exchange-listed mining and exploration group and has an uncapped (with no buyout provision) 2 per cent Net Smelter Royalty over 8,000km2 of prospective ground, held by Tshukudu Exploration.

Sandfire has embarked on a substantial exploration programme with the initial focus on the T3 Expansion Project. Drilling high-priority targets within a 25km radius of T3, Sandfire has enjoyed considerable early success with the emerging A4 Dome discovery located 8km west of the T3 Project, where it has discovered significant wide intercepts of shallow, high-grade vein-hosted copper-silver mineralisation. This is important as we can now expect a maiden mineral resource estimate for A4 next month, and one that is likely to “substantially increase the value of our Royalty”, says Metal Tiger’s chief executive Michael McNeilly. This is simply not priced in.

Thirdly, Southern Gold (Aus:SAU), an Australian Stock Exchange listed resource company, has released positive drilling results at its Aphae gold project in South Korea. Metal Tiger invested A$2.2m at A$0.10 a share for a 17.1 per cent stake earlier this year, and successfully so. The investment is already showing a 55 per cent paper gain after drilling revealed several high to moderate grade gold/silver intersections including broad near surface gold mineralisation. Southern Gold plans to implement a follow up drilling programme and ground magnetic survey to target extensions that are likely to reveal large project scale prospectivity. The gold price has surged by a third this year, so Metal Tiger’s investment has been incredibly well timed.

The same is true of the £570,000 initial investment in Trident Resources (TRR:25.5p), a newly listed Aim-traded company that aims to establish a diversified mining royalty stream by constructing a portfolio with a bias towards production or near-production assets. The holding has increased by a quarter in value since Trident’s IPO in June.

But the star performer has been Aim-traded Greatland Gold (GGP: 13p), a resource company that is developing the Havieron gold-copper discovery in the Paterson region of Western Australia under a farm-in agreement with a wholly owned subsidiary of Newcrest Mining (ASX: NCM). Shares in Greatland have surged 626 per cent this year, placing a value of £1.1m on Metal Tiger’s holding of 8.1m warrants which have an exercise price of 2.5p. The holding was in the books for £45,000 in the 2019 accounts.

The point is that unrealised gains on Trident, Southern Gold, Pan Asia Metals, Greatland and Aurelius Minerals (TSX:AUL), a Canada-based gold mineral exploration company, add £2.35m (1.55p) to Metal Tiger’s last reported net asset value (NAV) of £26.9m (17.5p a share). Add to that the Sandfire Net Smelter Royalty, and I reckon Metal Tiger’s market capitalisation of £33m is only a modest premium to spot net asset value.

Furthermore, Australian Stock Exchange-listed Cobre Pty (Aus: CBEXX), a company in which Metal Tiger holds a 18.79 per cent stake worth A$4m (£2.2m), is acquiring 51 per cent of the Kalahari Metals Project in the Kalahari Copper Belt, Botswana. Metal Tiger's 62.17 per cent interest (carrying value £3.2m) in the project will reduce to 49 per cent in exchange for A$1m shares in Cobre. Importantly, it brings another funding partner on board ahead of drilling news at Kalahari’s Kitlanya East Project. Specifically, the drilling programme is testing stratigraphic, structural and geophysical prospectivity for hosting copper-silver mineralisation analogous to the nearby Sandfire T3 and A4 deposits that are located 3km and 8km, respectively, to the north.

The bottom line is that next month’s interim results are likely to make for a cracking read. Metal Tiger is also looking to dual list its shares on the Australian Stock Exchange, thus widening its investor pool and re-rating potential. On a bid-offer spread of 21p to 22p, well below my 30p a share fair value target, the shares rate a buy.

 

■ Simon Thompson's latest book Successful Stock Picking Strategies and his previous book Stock Picking for Profit can be purchased online at www.ypdbooks.com, or by telephoning YPDBooks on 01904 431 213 to place an order. The books are being sold through no other source and are priced at £16.95 each plus postage and packaging of £3.25 [UK].

Special offer: Both books can be purchased for the special price of £25 plus discounted postage and packaging of only £3.95. The books include case studies of Simon Thompson’s market beating Bargain Share Portfolio companies outlining the investment characteristics that made them successful investments. Simon also highlights many other investment approaches and stock screens he uses to identify small-cap companies with investment potential, too. Details of the content of both books can be viewed on www.ypdbooks.com.

Simon Thompson was named 2019 Small Cap Journalist of the year at the 2019 Small Cap Awards.