Since its IPO in November 2015, shares in cybersecurity business Softcat (LSE: SCT) have smashed the FTSE 250 nearly tripling in value. That compares to a gain of just 16.2% for the UK’s mid-cap index.
This performance puts Softcat in an elite club of FTSE 250 businesses that have seen their stock prices triple over the past few years. Another company that recently joined this club is TV and film producer Entertainment One (LSE: ETO).
Over the past three years, shares in Entertainment One, which is best known for its Peppa Pig franchise, have jumped 195%, excluding dividends. Including distributions to investors, every £1,000 invested in the stock three years ago is worth £3,130 today. A similar investment in Softcat would be worth £3,209, including dividends.
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Following this performance, you might think these stocks have given all they can. But I firmly believe both Softcat and Entertainment One are only just getting started and I believe there’s a strong chance the shares could double again from current levels.
Booming market
Softcat’s revenues and earnings have exploded over the past five years thanks to the booming cybersecurity market. Analysts are expecting the company to report earnings per share growth of 31p this year which, if achieved, will mark an increase of 200% since 2013. Over the same timeframe, revenues have expanded by 220%.
According to various forecasts, the global cybersecurity market is expected to double in size between 2018 and 2024, implying a mid-teens annual growth rate for the industry. If Softcat continues doing what it has for the past five years, I see no reason why its earnings cannot grow at a similar rate.
That said, City analysts aren’t as optimistic. They’ve only pencilled in earnings growth of 12% for 2019 and 6% for 2020. However, Softcat has a history of outperforming expectations so I think the cyber security market growth rate might be more indicative of a company’s potential than City projections.
With this being the case, and earnings on track to double over the next six or seven years, I don’t think it’s unreasonable to suggest the stock could double again from current levels, even though it’s currently dealing at a forward P/E of 26.6. The stock also supports a dividend yield of 2.9%.
From strength to strength
City analysts are a lot more optimistic about the prospects for Entertainment One. Over the past five years, this company has transformed itself from a struggling, loss-making business lacking direction, to one of the fastest growing production businesses around.
Sales have nearly doubled since 2013, and operating profit has jumped from just £14m to £114m for 2018.
Analysts think the company can chalk up earnings growth of around 10% per annum for the next two years. If it manages to achieve this, based on current estimates (analysts have pencilled in earnings per share of 27.3p for 2020) you can buy shares in Entertainment One for just 16 times 2020 earnings today.
That valuation might appear pricey at first glance, but compared to its international competitors, the Peppa Pig producer looks cheap.
For example, shares in Lions Gate Entertainment, a US-listed producer of films and TV programmes, is currently trading at a forward P/E of 27.3, implying Entertainment One could be worth 70% more than its current price. If earnings continue to grow at 10% per annum, it could only be a few years before this higher price target is justified.
