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A tale of two microcaps

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By Mark Tobin
 
When a 52-week low still looks expensive

Keeping an eye on stocks hitting 52-week lows and 52-week highs can be a good way to find new ideas for further research. For example, SMSF administrator Class1 Limited (CL1:ASX) has fallen about 35% in the last few months from a high of $3.65 to about $2.33. Despite this big pull back, it is still trading around a PE of 30 times, depending on what you think they will earn this year. That’s a pretty hefty multiple and for me it still seems expensive for what you are buying so it’s not interesting to me at this point, but on the watchlist, for further pullbacks in the share price. CL1 is a prime example of where a stock hitting 52-week lows can still be expensive. Although like beauty, what is good value, is in the eye of the beholder.
 
When a 52 week high looks reasonable value

On the flip side Energy One Limited (EOL:ASX), which is hitting 52-week highs at $0.70, is up 75% in the last 6 months which has been a great run. However even at current prices it only has market capitalisation of $14.2million and to me still looks reasonable value at these levels and interesting.
 
EOL’s main business is providing energy trading and associated software products and services to the electricity and gas markets primarily in Australia. It also has electricity customers in New Zealand, Singapore and the Philippines. Its products and services are primarily used by wholesale energy traders who are working in the wholesale energy market and trying to line up their supply and demand needs at the best possible price depending on what side of the deal they are on. This is niche product for a niche market but EOL have been quietly building out their offering over the last few years through product, geographic and customer diversification via organic growth and some complimentary acquisitions.
 
Market dominance in Australia

EOL’s software now accounts for 40% of all gas traded in the Australian market. The company has plans to launch complimentary products and services so that they can offer a single vendor solution for their customers’ gas trading needs. One such product in development is a capacity trading product, which is a major focus area for the industry, given the current energy market landscape. In the electricity market EOL’s customers dispatch over 50% of all electricity on the East Coast of Australia. Given it’s a software business the majority of EOL’s revenue is recurring via license fees or subscription services. A decent chunk of revenue does still come from consulting and project implementations. However, recent acquisitions mean they are targeting 70% of revenue to be recurring in nature by the end of FY18.
 
Spreading its wings internationally

The company has, over the last 12 months, started marketing and researching customers in European markets and concluded one small deal in the UK. They are partnering with local firms to enter these markets and believe that their current suite of products can work in these markets subject to some customization for local market nuances. The company has committed to spending $500,000 on this expansion project over the next 12 to 18 months but has stated that this cost will only be fully expended subject to positive feedback and certain milestones being achieved. In other words, they are not going in all guns blazing but taking a softly-softly approach. The recent deal in the UK supports the basic premise of the strategy and gives me confidence that their product can actually work in market. As we all know, the Australian corporate landscape is littered with monumental capital destruction stories from Australian corporates’ (US shale gas anyone or coal in Mozambique) big bold bets when foraying into international markets. So, the softly-softly approach is to be commended.
 
Getting set looking easier

EOL doesn’t have the greatest liquidity in the world but it is pleasing they are taking active steps to try and improve this in response to shareholders. The board initiated a dividend reinvestment plan (DRP) on the most recent dividend and Bell Potter fully underwrote the DRP and placed 100% of the shortfall. The board has also indicated that if the right acquisition comes along they will also consider coming to market for fresh equity. So hopefully in time it will become more liquid which should be to the benefit of all shareholders, current and perspective.
 
Solid track record

EOL has been profitable for the last five years and paid a final unfranked dividend of 1c fully franked this year. The company currently has a net debt position of about $1.5 million due to two acquisitions made in FY17. The two acquisitions in FY17 helped to build out both their product offering and diversify their customer base. The full year impact of the two new acquisitions, coupled with some organic growth, has seen the company guide to earnings before interest, tax, depreciation and amortization (EBITDA) of $2.5 million for FY18. This would be a circa 75% increase on the FY17 EBITDA number and put EOL on an earnings valuation/EBITDA multiple of just over six times. I estimate an underlying net profit after tax (NPAT) of approximately $1.2 million which would be an increase of 25% on the FY17 and put them on a PE of around 12 times for FY18, based on the current share price.
 
So, despite EOL trading at new 52-week highs and having had a big run, at these prices it still looks interesting.

Published: Thursday, November 30, 2017


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