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Simon Thompson highlights a cyber security software company set for an earnings boost
March 8, 2021
  • Acquisition of Webselense massively earnings accretive.
  • Debt funding could be repaid from free cash flow by end of 2022.
  • Analysts push through 60 and 85 per cent EPS upgrades for 2021 and 2022.

It certainly paid to buy shares in cyber security software provider  Kape Technologies (KAPE: 245p) ahead of this month’s annual results.

Not only had the figures been well flagged – full-year cash profit of $39m was well ahead of guidance ($35m-$38m) with margins surging from 22 to 32 per cent on the back of the transformational acquisition of Colorado-based Private Internet Access – but the risk to 2021 earnings remained heavily skewed to the upside, a factor not reflected in an enterprise value to cash profit multiple of 13 times (‘Profit from the small-cap bull market’, 25 January 2021).

Even after Kape’s share price soared 27 per cent following its US$149m earnings accretive acquisition of Webselense, an independent digital platform that provides 8.5m users with unbiased insight driven content focused on cyber security and privacy trends that attracts software vendors (McAfee, NortonLifeLock, Dashlane and Kape), the valuation is not stretched by any means.

Like Kape, Webselense is fast growing and hugely profitable: cash profit trebled to US$30.7m on 91 per cent higher revenue of US$64.5m in 2020, with both financial metrics increasing more than 10-fold in the past three years. Its owners will receive 12.1m Kape shares worth US$32.5m in part consideration to give them a 5.44 per cent stake in the software group. That’s important as Kape will benefit from their extensive expertise in growing the business. Kape part funded the US$116m cash element from its own cash resources and an US$85m bridging loan provided by its majority shareholder which will be refinanced in due course.

The point is that after factoring in Webselense’s contribution, Kape’s directors are guiding investors to expect proforma 2021 cash profit of US$78m to US$81m on a margin of 38 per cent. Prior to the acquisition, Kape was expected to deliver 2021 cash profit of US$41.5m, so profit estimates have doubled. However, the share count only rises 5.8 per cent, so even after factoring in higher interest costs, earnings per share (EPS) will soar.

Simon Thompson's 2017 Bargain shares portfolio performance
Company nameTIDMOpening offer price on 03.02.17 (p)Bid price on 08.03.21 (p) or exit price (see notes)DividendsTotal return (%)
BATM Advanced Communications (see note seven)BVC19.2594.40426.5
Kape Technologies (formerly Crossrider)KAPE47.92423.55412.6
Chariot Oil & Gas (see note one)CHAR8.2910.350295.0
Avingtrans AVG2002801145.5
Cenkos Securities (see note two)CNKS88.4251069.530.6
Manchester & London Investment Trust (see note three)MNL291.653773.028.4
H&T HAT289.7529132.411.6
Management Consulting Group (see note five)MMC6.18360-3.0
Bowleven (see note four)BLVN28.95.515-6.1
Tiso Blackstar Group (see note six)TBG5520.40.54-61.8
Average    117.9
FTSE All-Share Total Return  64857386 13.9
FTSE AIM All-Share Total Return 9771335 36.6
Notes:      
1. Simon Thompson advised selling two-thirds of the Chariot Oil & Gas holding at 17.5p on 3 April 2017 ('Bargain shares on a tear', 3 April 2017). Simon subsequently advised participating in the one-for-8 open offer at 13p a share ('On the earnings beat', 5 Mar 2018) and buying back the shares sold at 4p ('Chariot's North African adventure', 17 April 2019). Total return reflects these transactions.
2. Simon Thompson advised selling the Cenkos Securities holding at 106p on 3 April 2017 and the 106p price quoted in the above table is the exit price on the holding ('A profitable earnings beat', 3 Apr 2017). Please note that Simon has since included the shares in his 2020 Bargain Shares Portfolio and  rates the shares a buy ('Ben Graham recovery plays', 5 October 2020).
3. Manchester and London Investment Trust paid total dividends of 3p a share on 2 May 2017. Simon Thompson then advised selling half of the holding at 366.25p on 26 June 2017 ('Top slicing and running profits', 26 June 2017), and selling the remaining half at 377p ('Bargain shares second chance', 17 August 2017). The 377p price quoted in the table is the final exit price.
4. Simon Thompson advised banking profits on half your holdings in Bowleven at 33.75p (‘Hitting pay dirt', 9 Apr 2018). The company subsequently paid out a special dividend of 15p a share on 8 February 2019 and the balance of the holding was sold at 5.5p ('Taking stock and profits', 9 December 2019).
5. Simon Thompson advised to sell Management Consulting's shares at 6p in February 2018 (‘How the 2017 Bargain share portfolio fared’, 2 February 2018). The price quoted in the table is the 6p exit price.
6. Tiso Blackstar transferred its UK listing to the Johanesburg Stock Exchange. The shares were then delisted on 23 November 2020 when shareholders received an exit cash payment of R415 per share on cancellation of their shares.
7. Simon Thompson advised banking profits on half your holdings in BATM shares at 49.9p ('Bargain Shares: Exploiting pricing anomalies and top-slicing', 3 December 2018) and subsequently bought back the shares at 43.5p ('BATM armed for a re-rating', 11 July 2019). 
Source: London Stock Exchange.

To put this into perspective, analysts at Progressive Equity Research raised their 2021 cash profit estimate by 80 per cent to US$74.5m on revenue of US$200m, an outcome that will see 2020 pre-tax profit of US$34.4m surge to US$64.6m in 2021. On this basis, expect EPS to rise 60 per cent to 25.4¢ (18.4p).

The 85 per cent EPS upgrade to 32.5¢ (23.5p) for 2022 is even greater as Kape will benefit from a full 12-month contribution from Webselense, as well as ongoing organic growth across all its businesses. Moreover, because free cash flow is set to surge by more than half to US$31.3m in 2021, and could almost treble to US$81m in 2022, Kape is set to pay down all debt by the end of 2022.

On this basis, the shares are trading on PE ratios of 13 and 10, respectively, for 2021 and 2022. However, enterprise value to cash profit multiple is a better measure – 2021 multiple of 11 times drops to 8.5 times in 2022 –  as it takes into account the transfer of debt holders’ economic interest in Kape to shareholders as debt is reduced.

Kape’s share price is up 412 per cent since I advised buying, at 47.9p, in my 2017 Bargain Shares portfolio, and the re-rating is far from over. In fact, I am raising my target price from 275p to 325p given the scale of the earnings upgrades. For good measure the shares have registered a major chart break-out, too. 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].

Promotion: Subject to stock availability, both books can be purchased for the promotional price of £25 with free postage and packaging.

They 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. Details of the content can be viewed on www.ypdbooks.com.