The soaring Saga share price isn’t Neil Woodford’s only rocket

G A Chester discusses Saga plc (LON:SAGA) and a Neil Woodford small-cap stock that’s just rejected a takeover bid.

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Neil Woodford is the biggest shareholder of Horizon Discovery Group (LSE: HZD), owning 24.6% of the company’s shares. This AIM-listed firm, which has a market capitalisation of £290m at a current share price of 195p, provides tools for genomics research and the development of personalised medicines.

Its shares are trading almost 50% higher than a month or so ago, with much of the gain having come as a result of the announcement of a takeover bid last week from £2.6bn AIM-listed peer Abcam. Horizon’s board said the unsolicited all-share offer at 181p was “highly opportunistic” and “fundamentally undervalues the company and its future prospects.”

Towards profitability

Horizon today released its annual results, commented further on the valuation and also announced the appointment of a new permanent chief executive. The new CEO, Terry Pizzie, who joined Horizon last year as Head of Commercial Operations, is said to have been “instrumental in building a world-class commercial team,” as the company transitions “from building scale through acquisitions towards becoming a sustainably profitable business.”

For the moment, Horizon continues to be loss making. While revenue of £36.5m for 2017 was 52% ahead of 2016, the pre-tax loss widened to £14.3m from £12.5m. For 2018, analysts expect a 64% increase in revenue to £60m and a much-reduced pre-tax loss, followed by a small maiden profit in 2019. With £28.1m cash on its balance sheet, the company looks to be funded through to profitability.

The board expanded on its view that Abcam’s offer fundamentally undervalues Horizon. It said that the offer values Horizon’s enterprise value at a multiple of four times its forecast £60m revenue, compared with an average of 8.4 times for its key peers. I’m inclined to agree with Horizon’s board and I rate the stock a ‘buy’ on the basis of the company’s long-term potential or an increased bid in the near term.

Grey outlook

Shares of FTSE 250 firm Saga (LSE: SAGA), which Neil Woodford holds in his Income Focus Fund, have climbed 23% to 134.5p, from a low of 109.5p in late March. However, this recovery comes after a huge crash in the shares, following a shock profit warning late last year.

At the time, Woodford and his team were sanguine about what they described as a “more challenging trading environment in insurance broking… and the requirement for additional investment to drive growth.” However, with a 5% decline in earnings forecast for the company’s current financial year, giving a price-to-earnings ratio of 10.3 at the current share price, and minimal growth forecast for the following year, I don’t see a great deal of scope for further gains in the near term. And there’s always the possibility of a further profit warning.

Most analysts expect Saga to maintain its dividend at last year’s 9p level (giving a yield of 6.7%) and Woodford is also satisfied that the dividend is safe. While he’s said the same about a number of companies that went on to cut their payouts, I think it would take a serious deterioration in trading and/or need for investment for Saga not to be able to maintain its dividend. The yield may be attractive for investors seeking a high immediate income but, overall, this is a stock I’m avoiding, until I see evidence that the business is capable of delivering sustainable earnings growth at a decent rate.

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.

G A Chester 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.

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