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VIDEO: Why Value is Trumping Growth in Small Caps

Richard Hemming

We're seen the demise of “Growth” stocks such as Dominos, GetSwift, iSelect, Big Un, Blue Sky and even vet pet group Greencross. Meanwhile there is increasing evidence of the rise and rise of the "Value" stocks that Under the Radar Report specialises in. Value always shines through over time.

 

We’ve seen a sell off in A2 Milk (A2M) & Bellamy’s Australia (BAL) in the past two weeks. Both have been whacked about 25% subsequent to a2 telling the market that its sales for the nine months ending 31 March 2018 had climbed 70% against the same period last year! Hardly a reason to be sad, but because management said that sales should undershoot consensus both stocks, which were trading on forecast PE multiples of 37 times got hammered. Now they’re trading on about 25.

Plus, Smart Parking (SPZ) got hammered almost 50% in one day last week!

There is a reason that when some of these so-called “growth” stocks trade on nose bleed valuations and they hit pockets you can lose altitude quickly. That reason is that the fundamentals are departing from reality.

Under the Radar exists to ensure that subscribers are kept informed of the real world, and indeed, make money from it.

We’ve seen turbulence with WiseTech Global (WTC) got smacked but it’s climbed back up. Other “growth” stocks that haven’t rebounded include Domino’s Pizza (DMP), BigUn (BIG), GetSwift (GSW), Technology One (TNE), iSelect (ISU), Blue Sky Alternative Investments (BLA). Even the vet pet business Greencross (GXL) is down 35 per cent this year. For a long time it seemed the business could do no wrong.

When these things lose their momentum, it’s often all over red rover.

On the other hand, we’re seeing value stocks being sought after. These are stocks that the market thought could do no right. We’ve seen big gains in Spicers (SRS). We’ve also seen increases in the rural services groups, which reported last week: Elders (ELD) and Ruralco (RHL).

An industry might be in structural decline, but shareholders are on the hunt for value. Just look at the bounce in the share prices of many so-called “old media” stocks: Fairfax Media, Seven West Media and Nine Entertainment. The owner of Channel Nine has spiked 50 per cent this year to $2.26, finally climbing well above its $2.05 listing price back in December 2013.

Why is Smart Parking (SPZ) is interesting?

Smart parking – we got in at 20c and out at 30c; got up to 40c we thought we’d left a lot on the table There are always risks in paying high prices for a growth stock.

The company has an innovative technology but the driver of the business is specialist car parking. We thought that people were paying too much in anticipating of growth.

Paying up for growth is very dangerous. It’s far better to find value and sell into hype.

Also worth pointing out that there are special risks with small companies – eg Smart Parking – maybe insufficient management resources to adequately supervise overseas subsidiary.

We go through the different types of risks in our recent special reports on Speculative Investing.

What’s going on with Spicers (SRS)?

This company is a paper distributor previously known as PaperlinX and spiked 15% last week when a fund manager claimed there was hidden value in the stock in the form of properties. We’re not sure this is the case, but we do know that when a stock is trading at a 40% discount to net tangible assets, there is value there.

Balance sheet is often the key, which is ignored by broking analysts who are fixated on earnings.

When you look for value you pay particular attention to the balance sheet and to cash flow. Vastly improved capital structure; positive cash flow and balance sheet protect your downside New management led by experienced operator in David Martin, who said that Under the Radar was the “first of the small cap investors to really notice Spicers.”

We’ll be covering this stock in our next issue.

Why has under the radar focused on the agricultural sector? In our last issue we cover the half year profit results of both Elders (ELD) and Ruralco (RHL) have performed well.

The Thematic has always been a constant is that there is huge demand coming from the growing Asian middle classes who crave more protein. These companies well positioned to supply that.

Elders has climbed 10-fold since we covered it a number of years ago, though this is primarily through a capital restructure which obscured a really good business.

That’s what we do at Under the Radar: we’re looking for really good businesses that are sometimes obscured by other issues.

In agriculture there are two types of business: extremely well diversified or extremely niche.

If you’re niche you are going to suffer the cycle. It comes and goes, weather driven to a large extent. In Tassal (TGR)’s case – although it’s not quite so cyclical in weather terms, structurally there is a question over how much of the resource can the environment carry. We cover this in our latest issue.

Even though Elders is well diversified; it went really wrong and the company almost went down, which is where we saw the opportunity.

You’ve got to have a strong balance sheet and you can’t simply set and forget.

We have also covered Capilano Honey (CZZ) in our most recent issue.

What else is coming up?

Our resources analyst has been working very hard on a report on batteries to continue on from our sector reports late last year. There has been some volatility in the sector owing to a forecast surge in supply after the giant Chile based lithium producer SQM, which accounts for about 20% of the global supply reached a deal with that country’s regulator CORFO to allow it to more than quadruple its output by 2025.

The lithium price stalled but after conversations with company executives and some important announcements it’s clear to us that the demand for this key component of battery manufacture is climbing faster than the supply can keep up with.

We cover our favourites in the sector.

About the Author

Richard Hemming

Investment analyst and Editor of Under the Radar Report

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