5 reasons this could be the perfect small-cap stock

Edward Sheldon takes a detailed look at an under-the-radar company that has bags of potential.

| More on:

The content of this article was relevant at the time of publishing. Circumstances change continuously and caution should therefore be exercised when relying upon any content contained within this article.

When investing, your capital is at risk. The value of your investments can go down as well as up and you may get back less than you put in.

Read More

The content of this article is provided for information purposes only and is not intended to be, nor does it constitute, any form of personal advice. Investments in a currency other than sterling are exposed to currency exchange risk. Currency exchange rates are constantly changing, which may affect the value of the investment in sterling terms. You could lose money in sterling even if the stock price rises in the currency of origin. Stocks listed on overseas exchanges may be subject to additional dealing and exchange rate charges, and may have other tax implications, and may not provide the same, or any, regulatory protection as in the UK.

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More.

While small-cap stocks can be more volatile than their larger peers, there’s no doubt that many have the potential to make their shareholders life-changing amounts of money. With that in mind, today I’m taking a closer look at £590m market cap Gamma Communications (LSE: GAMA), an under-the-radar small-cap stock that appears to have considerable potential.

Business Description

Founded in 2001, it is a provider of cloud communications services. The company provides voice, data and mobile services for the business market, and clients include Pret, Itsu and Cathay Pacific. Gamma listed on the AIM market in late 2014 at a price of 187p, and the shares have risen almost 250% in just under three years. However, I think there could be more to come.

Revenue & earnings

The first thing that appeals to me is the company’s financials. Revenue has increased from £131.4m in FY2011 to £213.5m last year, a compound annual growth rate (CAGR) of 10.2%, and adjusted earnings per share since the company listed have risen from 15p in FY2014 to 21.1p last year.

Should you invest £1,000 in Gamma Communications Plc right now?

When investing expert Mark Rogers has a stock tip, it can pay to listen. After all, the flagship Motley Fool Share Advisor newsletter he has run for nearly a decade has provided thousands of paying members with top stock recommendations from the UK and US markets. And right now, Mark thinks there are 6 standout stocks that investors should consider buying. Want to see if Gamma Communications Plc made the list?

See the 6 stocks

Gamma released its FY2017 half-year report this morning, and unveiled another solid set of results. Revenue for the half year climbed 9.8% to £115m, profit before tax increased 17.9% to £12.5m, and adjusted earnings per share rose 14.9% to 11.6p.

Cash flow

Gamma also appears to be generating plenty of cash flow. The company generated operating cash flow of £26.5m for FY2016, and had a cash balance of £28.2m at year end. Today’s half-year results reported adjusted net operating cash flow of £15.3m, up 10.9% on last year.

Dividend

The strong levels of cash flow have enabled the company to pay a dividend to its shareholders every year since listing. Small-cap stocks aren’t usually associated with dividend payments, however, if a smaller company does pay a dividend, I see this as a huge plus.

A dividend indicates to me that not only is the company generating real cash flow, but also that management is confident that the company is in sufficiently good health to return cash to shareholders. It’s also a sign that management values the shareholders, and is willing to reward them with a share of the profits.

While Gamma’s dividend yield is not high at 1.1%, the payout has risen from 3.95p per share in FY2014 to 7.5p per share last year, and City analysts expect further growth of 10% for this year. The interim dividend was increased by a healthy 12% today, from 2.5p to 2.8p.

Valuation

Analysts forecast FY2017 earnings of 23.7p, which, at the current share price of 669p, places the stock on a forward P/E ratio of 28.3.

While no bargain, that level of P/E suggests to me that investors are willing to pay a premium price for a high-quality company, and I see that as a good thing.

Companies that trade cheaply are often cheap for a reason (think of Telit Communications) and companies that trade at eye-wateringly high valuations (like IQE) leave little margin for error. However, a P/E of 20-30 indicates to me that the market is aware that the company offers growth potential, without a level of irrational exuberance attached to the stock.

Lastly, a glance at the chart shows that the stock is clearly in an uptrend. And as they often say in investment circles, “the trend is your friend.”

Should you buy Gamma Communications Plc now?

Don’t make any big decisions yet.

Because Mark Rogers — The Motley Fool UK’s Director of Investing — has revealed 5 Shares for the Future of Energy.

And he believes they could bring spectacular returns over the next decade.

Since the war in Ukraine, nations everywhere are scrambling for energy independence, he says. Meanwhile, they’re hellbent on achieving net zero emissions. No guarantees, but history shows...

When such enormous changes hit a big industry, informed investors can potentially get rich.

So, with his new report, Mark’s aiming to put more investors in this enviable position.

Click the button below to find out how you can get your hands on the full report now, and as a thank you for your interest, we’ll send you one of the five picks — absolutely free!

Grab your FREE Energy recommendation now

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Edward Sheldon has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

More on Investing Articles

Investing Articles

Here’s what £20,000 invested in IAG shares at the start of 2024 would be worth today

IAG shares smashed the FTSE 100 in 2024, and Harvey Jones is kicking himself for squandering this buying opportunity. But…

Read more »

Investing Articles

BP shares are forecast to return 30% in 2025 – and they’re filthy cheap with a P/E of 5.8!

Harvey Jones bought BP shares twice in the autumn and after a bumpy start he expects great things in the…

Read more »

Investing Articles

At a P/E ratio of 8, are shares in this FTSE 100 winner unbelievable value?

3i is a top-performing UK stock that trades at a P/E multiple of 8. Should value investors be snapping up…

Read more »

Investing Articles

Best British growth stocks to consider buying in 2025

We asked our freelance writers to reveal the top growth stocks they’d buy in 2025, which included two 'Fire' recommendations!

Read more »

Passive income text with pin graph chart on business table
Investing Articles

2 shares to consider for turning an empty ISA into a £31,301 a year passive income machine

Earning passive income doesn’t take huge amounts of cash to start with. Investing in great companies consistently over time can…

Read more »

Investing Articles

What £20,000 invested in BT shares at the start of 2024 is worth now…

BT shares enjoyed a solid 2024, Harvey Jones discovers, especially once the bumper dividend is taken into account. So should…

Read more »

Investing Articles

The Lloyds share price could hit 80p in 2025!

The Lloyds share price could push as high as 80p in 2025, according to one highly respected analyst. Dr James…

Read more »

many happy international football fans watching tv
Investing Articles

This FTSE 250 stock offers no passive income but looks 42% undervalued to me!

Our writer has found one stock that he thinks could take off in 2025, even though it doesn’t offer the…

Read more »