Gamma Communications' cash generation is undervalued

Gamma Communications' (GAMA) software lets companies switch their voice calls from traditional telephone lines onto internet lines.

This allows businesses to integrate communications, for example making calls between telephones and Microsoft Teams. Gamma's software is a cloud product, meaning the business is asset-light, with strong cash generation.

In the year to December, revenue increased 8 per cent, with both Europe and the UK growing at around the same pace. A strength of Gamma is its cash generation, with cash from operations rising by 25 per cent to £124mn. This was an exceptional year and was due in part to the timing of some payments, but its cash conversion rate is consistently around 100 per cent.

Gamma is not growing rapidly. There was an expectation that when BT shuts down its phone lines in 2025 there would be a large shift over to the PhoneLine+ product it created for small businesses. PhoneLine+ net adds did grow from 1,000 to 12,000, however Gamma has over 1mn customers so this isn’t that many. Management told the Investors’ Chronicle that PhoneLine+ growth will be steady rather than rapid, as some other phone providers are keeping their traditional phone lines open for now.  

Broker Peel Hunt believes Gamma will continue to benefit from operational leverage. Its asset-light software model means as Gamma grows it will become more efficient at turning revenue into cash. Peel Hunt is forecasting that Gamma's adjusted earnings per share will rise to 88.5p in 2025, giving a 2025 price/earnings ratio of just 15.

This is cheap compared with its software peers. When you consider the strength of Gamma's balance sheet, it becomes one of the best valued companies in the sector. Buy.

Last IC View: Buy, 1,083p, 5 Sep 2023