One of the beauties of small-cap investing is the potential to make huge capital gains over a relatively short period of time. Of course, the flip side to this is that investing in smaller companies generally comes with a much higher level of risk. That’s why the general consensus is that only a small proportion of your portfolio should be allocated to smaller or more speculative investments.
Wild West
Furthermore, we are advised to take extra care when investing in small-cap shares or indeed the so-called Wild West of the Alternative Investment Market. However, while keeping this in mind, it’s still possible to find hidden gems from among the smaller London-listed companies. I believe Henry Boot (LSE: BOOT) could be one such company.
In case you’re confused, Henry Boot didn’t build the first mass-production motor car (that was Henry Ford), nor did it do anything else that shook up society. In fact I expect that the only people who know anything about Henry Boot are its employees, their families, and its existing shareholders. But with a proud history stretching back 130 years, it is actually one of the UK’s leading and long-standing land development, property investment, and construction companies.
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Rapid growth
In recent years the Sheffield-based group has enjoyed rapid growth, seeing its annual revenues leap from just £103m in 2012 to around £307m. Results for 2016 showed a massive 22% rise in pre-tax profits to £39.5m for the year, with an even more impressive 74% uplift in revenues from £176.2m to £306.8m. The strong performance was largely due to increased activity within the UK property development market, which is where the group generates most of its revenue.
Looking ahead, 2017 has started well for the group with a strong pipeline of schemes to be delivered over 2017-19. Analysts suggests that earnings will rise by 7% this year, followed by a further 4% improvement in 2018, leaving the shares trading on a very low earnings multiple of just 9.8. By my calculations the shares should be trading around 368p, based on the company’s five-year average P/E ratio of 15.38. This represents a 60% upside from the current price of around 230p.
Plenty of Hope
Valued at just over £300m, Henry Boot is undoubtedly a small-cap stock in every sense, but with a market capitalisation in excess of £1bn AIM-listed peer Breedon Group (LSE: BREE) wouldn’t be out of place among London’s mid-cap FTSE 250 firms. But despite being ranked the seventh largest company on the Alternative Investment Market, the group previously known as Breedon Aggregates is still regarded as a small-cap stock.
The integration of Hope Construction Materials, the group’s largest acquisition to date, is progressing well and has completely transformed the group, giving it presence in the cement market, along with a further 160 operational sites. Despite strong share price growth over the last few years, Breedon still trades on a modest valuation of 16.6 times earnings for fiscal 2018, much lower than its historical average of 28. Again I can see plenty of upside over the medium-to-long term.
