Paul Hill’s tip of the week: a new-look company to snap up

In the UK, lost turnover due to incorrect invoicing is a problem for big firms. According to Credit Today, the utility, telco and finance industries alone have to write-off £10bn each year just because they don’t charge customers accurately. Typically, billing mistakes can arise from a number of sources, including meter-reading errors, incorrect estimates and customer migration. Another major headache has been caused by the trend towards bundling multiple services (such as electricity, gas, water and telecoms) together – it’s more complicated and leads to more mistakes. That’s where this company’s proprietary software comes in.

Tip of the week XKO Group (Aim: XKO, 100p), tipped as a BUY by Bridgewell Securities and Teather & Greenwood

XKO was formed in March 1999 to act as a consolidator in the UK market for the supply of ERP (enterprise resource planning) accounting and stock-control systems. It achieved this objective, although over the past few years, the industry has become increasingly competitive with slowing profit growth. So, in a bold move last year, the board changed strategy and concentrated on the rapidly expanding revenue assurance (defined below) and debt collection markets. This was finally concluded last week, when XKO disposed of its last non-core division for £15m. It plans to use the proceeds to pay off its loans. The firm now focuses solely on providing customers such as Centrica and E.on with leading revenue assurance services.

It sifts through millions of transactions, compares usage to invoice records and identifies instances of either over-billing by suppliers or undercharging of customers. XKO will also chase and partially collect debts previously written off by its clients. Research indicates that approximately 98%-99% of utility billing is accurate. Therefore, the opportunity lies in identifying the remaining 1%-2%, locating the counterparty to the transaction and assisting its customers in recovering the balance. XKO takes a cut (around 20%) of the sums recovered.

Although last week’s £15m disposal will dilute short-term earnings, the benefits of concentrating on revenue assurance should materialise in the year to March 2008, when earnings per share are forecast to rise by 46% to 12.2p. In the longer term, the main risk is that clients will develop better billing systems that produce fewer discrepancies. As such, XKO is expanding into other vertical markets, such as electricity and water, while at the same time exploring opportunities overseas.

But with a debt-free balance sheet, trading on a 2007/2008 p/e multiple of 8.4 and operating in a high-growth market, I believe the shares offer
good value. A 1.2p dividend was also paid last year. Bridgewell and Teather both have buy recommendations on the stock, with respective price targets of 150p and 140p.

Recommendation: good value, BUY at 100p (market cap £44m)


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