On the results beat

Cambridge-based Xaar (XAR:250p), a leader in the development of inkjet technology and maker of piezoelectric drop-on-demand industrial inkjet printheads, returned to operating profit in second half of 2021 for first time since 2018. The recovery is gathering momentum, hence why the share price is up 492 per cent since I included the shares in my 2020 Bargain Shares portfolio.

Xaar’s go-to-market approach explains the 14 per cent increase in printhead sales last year, the division accounting for two-thirds of group revenue of £59.32mn. The robust growth has been delivered by refocusing the business on the value chain and customers, and marketing the technical and competitive advantages of the group’s bulk piezo product range to them. Since I initiated coverage two years ago, the number of customers adopting Xaar’s technology has surged, so much so that there will be 15 new printers launched this year with Xaar’s printheads, up from only six in 2020.

It’s worth noting that Xaar is outperforming the market in ceramics and glass (C&G) with segmental revenue surging 38 per cent to £19mn, buoyed by an extended product portfolio and re-engagement of OEM customers. This is particularly the case in Asia and China, the region increasing revenue by 24 per cent to £12mn. Xaar once dominated the C&G sector, so having re-captured 10 per cent market share, there is plenty of scope to deliver double-digit top-line growth for many years to come.

Acquisitions are having an impact, too. Last summer, Xaar acquired Hemel Hempstead-based FFEI, an integrator and manufacturer of industrial digital inkjet systems and digital life science technology, to boost Xaar’s capability and accelerate customer adoption of its printheads. Earlier this month, the group acquired Megnajet, an industrial digital inkjet management and supply systems designer and manufacturer, to create a more integrated inkjet solution whereby customers can access more of the printing ecosystem (such as ink supply systems and the electronics) from Xaar. Both acquisitions should help customers reduce their development timescales and shorten their time to market.

Importantly, Xaar is managing supply chain issues well, having invested an additional £7mn in inventories (excluding £2mn from FFEI acquisition), while also improving operational efficiencies. Analysts at Panmure Gordon expect the gross margin to improve from 34 to 36 per cent this year while also upgrading their 2022-23 revenue estimates by 10-14 per cent to £73.4mn and £78.5mn. Improving margins on rising revenue is good news for profits with the broking house predicting earnings per share (EPS) of 1.4p in 2022 could grow to 5.4p in 2023 (a 15 per cent upgrade) and 8.5p in 2024. It’s also good news for free cash flow with Panmure forecasting £1.7mn in 2022, £4.9mn in 2023, and £7.6mn in 2024.

Xaar’s shares have exceeded the 230p target I outlined when I last suggested buying, at 191p (‘Bargain Shares: A roadmap for recovery, 19 September 2021), and look to be heading towards the upgraded targets of Panmure (285p) and Investec (300p). Buy. 

Note 1. Chenavari Capital Solutions made a compulsory capital redemption of 34.73 per cent of the share capital at 85.72p a share in March 2020, and subsequent compulsory capital redemption of 21.9 per cent of the share capital at 72.93p a share in July 2020. The total return takes into account the capital redemptions. The company delisted its shares from AIM on 30 September at a closing bid-price of 35p. Approximately 17.9 percent of each holding was then redeemed on 9 November 2020 at 65.26p per share, and a further 67 per cent at 44.7p in May 2021. The board plans to make further compulsory capital redemptions in due course.

Note 2. Metal Tiger shares consolidated on the basis of one share for every 10 shares previously held on 1 July 2020.

Source: London Stock Exchange

On a mission for a higher rating

• Annual revenue increases 17 per cent to £72.5mn
• Six-fold rise in pre-tax profit to £7.5mn and earnings per share (EPS) to 6.57p
• Dividend per share of 2.4p
• Acquisition obligations slashed to £3.3mn

The market perception of UK advertising and marketing specialist The Mission Group (TMG:62p) and the reality of how the group’s network of 17 agencies are trading are not aligned.

The operationally geared group not only quadrupled underlying operating profit to £8mn driven by 16 per cent organic revenue growth, but rebuilt operating margins to 11.1 per cent. Trading recovered strongly in the second half of 2021 as the UK economy roared ahead following the end of Covid-19 related lockdowns.

For instance, the UK housing market boom has boosted activity at property agency ThinkBDW (34 per cent revenue growth). Both Bellway and Redrow are major clients and the sector accounted for around 18 per cent of last year’s revenue, says chief executive James Clifton. Mission’s technology focused agencies (20 per cent of group revenue) performed well during the pandemic, and continue to do so. Exposure to the US certainly helps, as Mission has offices in both San Francisco and Seattle - Amazon Web Services is now a top-five client.

The fact that 47 per cent of the client base has been with the group for five years or more highlights a high degree of satisfaction. Importantly, new clients are being added to the roster including Reckitt Benckiser, Porsche, BMW/Mini, Fuji Xerox and even the Met Office. The collegiate approach adopted by the group continues to deliver results as Mission booked £2mn of cross-referred business in the reporting period, and that excludes deals that were signed off just after the year-end.

Leveraging technology expertise is a strong focus, both in terms of enhancing the group’s data and analytics capability and for supporting client and new business growth, too. The latest offering being the 'Mission Brand Bonding Index', an online platform using comprehensive data and a bespoke algorithm to benchmark global brands. It has become an important tool to showcase the group’s expertise.

Mission’s acquisition of London-based Soul, a customer engagement agency that works with psychologists to help businesses better understand what motivates and drives customer decision making, has enhanced the offering, too. It is proving popular with leading brands Genting, John Lewis Finance, Michael Kors and SSE.

Mission paid £0.7mn of cash consideration for Soul and is modelling for a further £2.3mn earn-out payments that account for 70 per cent of the £3.3mn total acquisition liabilities outstanding. Of that sum only £1.1mn is due over the next two years, so will be easily covered by internal cash flow without the need to tap the group’s £25mn debt facility. At the end of 2021, net debt of £10.3mn equated to 1.2 times cash profit, a comfortable leverage ratio.

Rightly, shareholders are being rewarded. The annual dividend of 2.4p a share is covered 2.7 times by EPS of 6.5p with another rise likely this year. Analyst Roddy Davidson at house broker Shore Capital is pencilling in 9 per cent higher revenue of £79mn to lift pre-tax profit 12 per cent to £8.4mn. On this basis, expect EPS of 7.1p and a conservative looking pay-out of 2.5p.

Moreover, forecast operating free cash flow of £9.4mn could see net borrowings slashed to £5.9mn by the year-end while providing cash to pay dividends and meet earn-out obligations. If all goes to plan – and the 2022 financial year has started well – then Mission’s enterprise valuation of £66mn could fall to £61mn by the year-end. That valuation equates to seven times 2022 operating profit estimates, an anomalous rating in a consolidating sector.

Trading on a 40 per cent discount to net asset value (NAV) of 102.5p, priced on a forward price/earnings (PE) ratio of 8.7 and offering a 4 per cent prospective dividend yield, the 20 per cent share price decline since the interim results is unwarranted (‘Mission on course for strong profit recovery’, 22 September 2021). Buy.

Northamber’s mixed results

• First half revenue rises 9 per cent to £32.3mn at slightly higher gross margin
• Higher distribution and administration costs lead to operating loss of £0.1mn
• Stock levels rise from £8.4mn to £11.2mn to mitigate supply chain issues

The latest interim results from Northamber (NAR: 57.5p), one of the largest UK-owned trade-only distributors within the IT equipment industry, were a mixed bag.

The ongoing focus on higher margin and more technical product sales helped gross margin edge up slightly to 12.9 per cent. Revenue was higher, too, up almost 9 per cent to £32.3mn which delivered £0.35mn higher gross profit of £4.15mn. However, significant increases in logistics costs – Northamber’s largest non-payroll cost – and investment in staff meant that these gains were wiped out by 17 per cent higher distribution costs of £2.67mn and a 24 per cent increase in administration costs to £1.6mn. This explains why a first half pre-tax profit of £0.22mn in the prior financial year reversed into a loss of £0.11mn this time round.

In addition, Northamber has sensibly boosted stock levels (from £8.4mn to £11.2mn) to mitigate supply chain issues and the uncertainty of chip shortages. The investment is reflected in a fall in net cash from £7.4mn to £4.7mn. The company can afford to do as it has a rock solid balance sheet, a key reason why I first suggested buying the shares, at 54.9p, in my 2020 Bargain Shares Portfolio. The other reason was potential for a return to profitability to narrow the share price discount to net asset value of 91.7p.

Although the management team are making the right strategic moves, the board remains cautious due to the “economic uncertainty, Brexit, potential for further Covid-19 impacts and supply chain pressures”. The share price declined 9 per cent post results and is likely to struggle to make headway until the outlook improves. Sell.

Driver Group’s profit warning leads to finance director exit

• Operating cost base to be cut by more than £1mn through restructuring
• First half pre-tax profit forecast to decline by at least 50 per cent
• Finance director resigns and share price drops 24 per cent

Driver (DRV:30p) has parted company with its finance director after the consultancy group warned that pre-tax profit will fall from £1mn to between £0.3mn to £0.5mn in the six months to 31 March 2022.

An unexpected revenue decline in the Middle East operations and ongoing losses from legacy contracts in Asia Pacific have more than wiped out operational gains from the Driver’s highly profitable European and North American divisions. An operational review has identified £1mn plus of cost savings (mainly headcount reductions and closure of marginal offices) through restructuring both the Middle East and Asia Pacific businesses. These savings are expected to support a “significant improvement in second half profitability.”

Although the group is well funded with net cash of £3.9mn and bank facilities of £5mn, the net cash position has declined from £6.5mn at the last financial year-end due to “a significant increase in trade and working capital receivables.” That concerns to me.

When I downgraded my recommendation on the shares to hold at the annual results (‘On the results and M&A beat’, 25 January 2022), I noted that “with profits second-half weighted the price is likely to move sideways until the next trading update.” Prospects of the £14.7mn market capitalisation group delivering anything close to the £2.7mn previous full-year pre-tax profit estimate are in tatters, hence why house broker Singer Capital Markets has withdrawn its forecasts and placed its recommendation under review. Sell.

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