Corporate Profile
SMALL
CAP UPDATE
July 2011
Brian Rainier, CFA
Merchantec Research
1
Highlights
• Valuations remain under pressure
• Poor earnings visibility – losses still being reported
• It DOES appear that many smaller companies have been worse hit than larger more
established companies by the Global Financial Crisis
• Over-investment on very low reserves and weak balance sheets
• Many small companies were particularly leveraged to growth
• Some in better shape than others: still opportunities out there…
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AltX vs Small & Mid Cap Indices
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To highsJ201: 18%J202: -12%J232: -78%
Merchantec CEO Confidence Index
• Regular survey to all approximately 400 CEO’s
• Provides an early guide of the changing sentiment in the listed sector
• 2nd Quarter 2011 Results
• Whilst overall confidence is close to 60%, indicating overall optimism, the
index is down on last quarter…..confirming things are still tough across all
industries
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CEO Confidence Index
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General Small cap risk premium
• Average implied equity risk premium – 10% (DCF 17%)
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ADR Kel PCN Mix DGC CBH SOV
Implied DCF factor
IT Small cap risk premium
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10.00%
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25.00%
30.00%
BCX DCT ADI EOH SDH CVN GIJ MST PCN PNC UCS
Implied DCF factor
• Average implied equity risk premium – 15% (DCF 22% )
AltX risk premium
• Average implied equity risk premium – 27% (DCF 34%)
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BEG BWI FWX IQG RAC SFH TAS TFX
Implied DCF factor
Adcorp
9
• Profile: Adcorp offers human capital services and outsourcing solutions. Activities include temporary staffing, permanent recruitment and business process outsourcing (BPO).
• Price: 2840c
• Market Cap: R1.8bn
• Revenue: R5.38bn
• HEPS:196cps
• DY: 6.4%
• Forward PE: 9.3
• FY11 Forecasts
– Revenue growth of 7%
– HEPS growth of just 1%
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PCN ADR KEL
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Employment growth vs. GDP
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employ growth GDP
Adcorp
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Adcorp
Staffing Price (R)Mkt cap
(Rm)
1 year fwd
PE
Paracon 1.95 682 9.67
Adcorp* 29.50 1719 9.24
Kelly 4.01 401 11.50
Average 10.1
Premium (Discount) applied to average: 20%
Adcorp: Implied current (gain): 38.85 31.7% 12.2
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Both our DCF and relative PE valuations indicate that the share is undervalued value and we recommend a BUY
Share is cheap at the bottom of the employment cycleDividend yield of 6.4% is attractiveWell managed Government’s new growth plan to target blue collar employmentMarket discounting the share due to regulatory risk which we believe is unlikely to
materialise
Adcorp
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PE upside (downside) DCF upside (downside)
PE upside (downside) DCF upside (downside)
Price R 28.75
DCF value R 34.89
PE value R 38.63
Mix Telematics
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• Profile: Mix Telematics (Mix) offers stolen vehicle recovery (SVR) and fleet management (FM) solutions, with a diverse geographical presence which extends across 111 countries.
• Price : 140c
• Market Cap : R919m
• Revenue: R886.6m
• EBITDA margin: 20.2%
• HEPS: 11.4 cps
• Forward PE: 7.8
• FY11 Forecasts
– Revenue growth of 10%
– HEPS growth of 27%
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J202 DGC MIX
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Key Catalysts
• Tender activity
• GDP Growth new vehicle sales
• Credit cycle
• Oil price (Middle Eastern and US operations)
Key Risks
• Continued strength of the Rand
• European sovereign debt concerns
• Interest rate hikes slowing vehicle sales
• Technology advances
Mix Telematics
15
Why we believe Mix Telematics holds value
Strong annuity revenue base (~57%)
Significant Rand Hedge
Level 2 BEE (Largest local fleets are government owned)
Expected to secure phase 2 of the Eskom contract (4 000 units)
Secured two large US contracts (12 000 units)
Imperial Holdings acquired a 25% stake in 2010
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2010 2011 2012F 2013F
EPS (cps) - (Headline)
Mix Telematics
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Mix Telematics
Vehicle Tracking Price (R)Mkt cap
(Rm)
1 year
fwd PE
Altech* 60.64 6233 9.5
Imperial* 123.38 25790 9.5
Mix Telematics 1.36 894 7.8
Digicore 3.21 795 10.1
SCIT Index 8.0
Average 9.0
Premium (Discount) applied to average: 0%
Mix Telematics: Implied current (gain): 1.56 15% 9.0
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Both our DCF and relative PE valuations indicate that the share is undervalued value and we recommend a BUY
57% annuity revenueUS operations turned profitable H2FY11, recently secured 2 large FM contacts. Rand projected to depreciateEskom contract (Blue sky)Level 2 BEE
Mix Telematics
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PE upside (downside) DCF upside (downside)
PE upside (downside) DCF upside (downside)
Price R 1.36
DCF value R 1.63
PE value R 1.56
EOH
18
• Profile: EOH is a business and technology solutions provider for medium to large clients
• Price: 2041c
• Market Cap: R1.68bn
• Revenue: R1.73bn
• HEPS:142cps
• DY: 1.9%
• Forward PE: 7.1
• FY11 Forecasts
– Revenue growth of 31%
– HEPS growth of 51%
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J953 EOH
EOH
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Key Catalysts
• Opportunities for further acquisitions
• Continued demand for IT services
• Government expenditure
Key Risks
• Increased competition in larger tenders
• Continuation of growth will require larger acquisitions
EOH
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Why we believe EOH holds value
Strong track record of organic growth and successful acquisitions
Well managed
Increased empowered profile and new government opportunities with latest acquisition
Positioned for developments and changes in ICT wrt Cloud Computing
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EPS cents - headline
EOH
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Systems Integrators Price (R)Mkt cap
(Rm)
1 year
fwd PE
BCX 4.60 1863 11.6
Adapt IT 0.74 73 4.9
ConvergeNet 0.27 247 11.1
Gijima 0.56 542 -
Datacentrix 4.35 893 8.9
EOH 20.41 1822 7.1
SecureData 0.65 160 4.9
SilverBridge 1.30 45 9.5
Paracon 2.04 682 10.2
Morvest 0.21 143 2.5
Average 7.9
Premium (Discount) applied to average: 30%
EOH: Implied current (gain): 29.75 42% 10.2
EOH
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Our DCF indicates the share is at value at a discount rate of 20.0%* whilst our relative PE valuation indicates that the share is undervalued value and we recommend a BUY (R29.75)
Provides a complete end-to-end outsource model Large government projects now in reachConsistent performer
*Due to its consistent performance and relative size we believe a 20% discount rate is more appropriate for EOH
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PE upside (downside) DCF upside (downside)
PE upside (downside) DCF upside (downside)
Adapt IT
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• Profile: develops and supports niche IT application and IT outsourcing, specifically in the sugar industry, expanding into the energy, mining and process engineering markets
• The group also supplies niche ERP systems for tertiary institutions with a global client base
• Price: 74c
• Market Cap:R79.1m
• Revenue: R196.7m
• (*change in year end for 16 months)
• HEPS: 13.6 cps
• DY: 4%
• Forward PE: 4.9
• FY11 Forecasts
– Revenue growth of 21%
– HEPS growth of 16%
– *adjusted for 16 months
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SCIT Index ADI
Adapt IT
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Key Catalysts
• Sugar industry recovering from drought
• Conversion of new market & product opportunities
Key Risks
• Industries of operation still under pressure
• Still a relatively small player
Adapt IT
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Why we believe Adapt IT holds value
Strong track record of successful acquisitions
Well managed
Empowered
Growing global business prospects
Possible acquisition target
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EPS cents - headline
Adapt IT
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Systems Integrators Price (R)Mkt cap
(Rm)
1 year fwd
PE
Adapt IT 0.74 73 4.9
BCX 4.60 1863 11.6
ConvergeNet 0.27 247 11.1
Gijima 0.56 542 -
Datacentrix 4.35 893 8.9
EOH 20.41 1822 7.1
SecureData 0.65 160 4.9
Paracon 2.04 682 10.2
SilverBridge 1.30 45 9.5
Morvest 0.21 143 2.5
Average 7.9
-38%
Adapt IT: Actual current 0.74 73 4.9
Premium (Discount) applied to average: -20%
Adapt IT: Implied current (gain): 0.96 29% 6.3
Adapt IT
27
Our DCF valuation indicates the share is at value whilst our relative PE valuation indicates that the share is undervalued (R0.96) and we recommend a BUY
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PE upside (downside) DCF upside (downside)
PE upside (downside) DCF upside (downside)
Price R 0.74
DCF value R 0.79
PE value R 0.96
FoneWorx
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• Profile: FoneWorx provides Fax2Email, PC2Fax, secure hosting, storage, DR facilities, and virtual business services
• FoneWorx also offers large scale SMS services for companies running advertising and viral marketing campaigns across the continent
• Price: 85c
• Market Cap: R118.3m
• Revenue: R91.9m
• HEPS:15cps
• DY: 5.2%
• Forward PE: 4.4
• FY11 Forecasts
– Revenue growth of 7.9%
– HEPS growth of 12.1%0
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J232 FWX
FoneWorx
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Key Catalysts
• Growth in African Fax2Email and SMS services
• Conversion of new market & product opportunities
Key Risks
• Fax2Email as a technology service has a limited lifespan
• Increased competition – disintermediation by major telco’s
• Small size of company
• Technology shifts in SMS
FoneWorx
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Why we believe FoneWorx holds value
Well managed
Consistent revenue generation
New products showing potential
African growth starting to pull through
Dividend yield
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FoneWorx
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Systems Integrators Price (R)Mkt cap
(Rm)
1 year fwd
PE
Adapt IT 0.74 73 4.9
ConvergeNet 0.25 247 10.3
BCX 4.85 1920 12.3
Gijima 0.57 552 -
Datacentrix 4.30 883 8.8
EOH 20.41 1822 7.1
Fonew orx 0.85 116 4.4
SecureData 0.70 160 5.3
SilverBridge 1.30 45 9.5
Paracon 1.80 647 9.0
Simeka 0.20 136 2.4
Average 7.4
FoneWorx: Actual current 0.85 115.6 4.4
Premium (Discount) applied to average: 0.0
FoneWorx: Implied current (gain): 1.46 72% 7.4
FoneWorx
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Both our DCF and relative PE (R1.46) valuations indicate that the share is undervalued and we recommend a BUY
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PE upside (downside) DCF upside (downside)
Price R 0.85
DCF value R 0.89
PE value R 1.46
Disclaimer
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The data provided in this report is for information purposes only and for no other purpose. Whilstevery effort has been made to ensure that the information contained in this report is accurate,Merchantec (Proprietary) Limited (“Merchantec”) does not guarantee the sequence, accuracy, orcompleteness or any other aspect of the data nor shall Merchantec or any of its directors,officers, employees or agents be liable in any way to the reader or to any other person (natural orjuristic) whatsoever for any delays, inaccuracies, errors in, or omissions in respect of such data orthe transmission thereof. Merchantec takes no responsibility for any loss or damage suffered byany person as a result of reliance upon the information contained herein. Any investmentsreferred to herein may involve significant risk, are not necessarily available in all jurisdictions,may be illiquid and may not be suitable for all investors. The value of, or income from, anyinvestments referred to herein may fluctuate and/or be affected by changes in exchange rates.Past performance is not indicative of future results. Investors are expected to make their owninvestment decisions without relying on this publication. Only investors with sufficient knowledgeand experience in financial and business matters to evaluate the relevant merits and risks shouldconsider an investment in any issuer or market discussed herein. The inventories of Merchantecmay from time to time include securities mentioned herein. Given that traditional brokeragepayment alone would not cover the costs of producing this research; a subscription-based modelhas been employed where subscribers (including some companies being researched) arecontributing a nominal amount per month for access to the on-going research. Merchantecand/or its affiliates and any of its or their officers may have an interest in transactions and/orsecurities referred to herein. Merchantec and/or its affiliates, may perform services, for, or solicitbusiness from, any company referred to herein.
Contact Details
Merchantec (Proprietary) Limited PO Box 414802nd Floor North Block Craighall 2024Hyde Park Office Tower Tel: +27 (0)11 325 6363Cnr 6th Road & Jan Smuts Ave Fax: +27 (0) 11 325 6362Hyde Park, Johannesburg
Contact Us
Brian Rainier
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