It’s been a rough year for shareholders of Rhythmone (LSE: RTHM). Year-to-date shares in this online advertising company have fallen nearly 20% thanks to concerns about the state of the digital advertising market.
City analysts are concerned that Google and Facebook are hoovering up all of the online advertising markets, pushing out other businesses such as Rhythmone and its more substantial peer System1. Even WPP and ITV haven’t escaped. Shares in WPP have registered the most substantial decline this year, down by around a quarter year-to-date.
However, despite these concerns, figures from Rhythmone published today show that the company continues to make progress.
For the half year to the end of September, management is expecting to report revenues of $112m to $114m, up from last year’s first-half number of $67m. The gross margin from operations is on track to come in at 38%, up from last year’s 35.4% and for the period the company is projecting adjusted EBITDA of between $1.5m and $2m, after last year’s first-half loss of $2.6m.
Growth through acquisitions
Rhythmone is already growing organically and to help drive further growth, the company announced the acquisition of YuMe Inc for $185m at the beginning of September.
YuMe will help the firm’s expansion plan as the company offers “data-driven audience insights that allow brand advertisers to engage and influence their most promising audiences and increase engagement and sales,” which is similar to Rhythmone’s existing business model. The two businesses are roughly the same size, and this merger of equals should allow the combined entity to compete more efficiently with larger peers. For 2016, YuMe reported sales of $160m and adjusted EBITDA of $10.9m.
This acquisition is expected to turbocharge Rhythmone’s growth. For the financial year ending 31 March 2019, City analysts have pencilled in earnings per share of 42p, up 442% year-on-year. Based on this projection, the company is trading at a forward (2019) P/E of 7.3, far below the IT services sector median of 19. I believe that if the shares can gain an average sector valuation, they could be worth as much as 798p, 157% above current levels.
Enormous potential
As well as Rhythmone, I think FairFX (LSE: FFX) could generate impressive returns for investors. It is another growth stock that looks undervalued based on its potential. At the time of writing, shares in the provider of foreign exchange payment services don’t seem particularly cheap as they trade at a forward P/E of 365. However, analysts believe that the company is on track to report a 26-fold increase in pre-tax profit for 2018, which should translate into earnings per share of 5.4p.
At the end of September, a trading update from the firm confirmed that it is on track to hit this target. Revenue for the first half expanded 33%, and the company completed the acquisition of CardOne post-period-end. This deal should accelerate the group’s stated strategy of disrupting the SME banking space. Management believes that there should also be opportunities to improve margins and cross-sell products through the combination of the two businesses.
