As many private investors remember only too well, the dotcom bust hammered the UK’s faith in equities. Even today, the technology sector suffers the stigma. Yet the firms that survived have thrived ever since. Take this week’s Tip of the Week:
Tip of the week: Datatec (DTC), tipped as a BUY by Investec Securities
Datatec resells telecommunications and IT equipment (94% of revenues) for the likes of Cisco, IBM and Nokia, and provides services (6%) such as designing, installing and running networks for corporate and government clients. It employs 2,500 staff across more than 20 countries, spanning North America (48% of revenues), Europe (38%), Asia (7%) and Africa (7%).
This sector, known as ‘box shifting’, is high-volume and low-margin. Success depends on economies of scale and global distribution. With 2006 sales of $3.2bn, Datatec has this in spades. It has been leveraging its scale in recent years by winning market share, cutting costs and buying-up weaker competition. What’s more, last week’s results highlighted the operating leverage (defined on page 44) of the business. A 17% hike in sales (9% like-for-like) saw a massive 43% jump in underlying earnings per share to 19.9p – with operating profit margins up from 2.6% to 3.1%. Closing net cash was a healthy $99m and the dividend more than doubled from 4.4 cents to ten cents per share – a clear sign of confidence.
With the firm trading well on the back of investments in ultra-broadband networks, chief executive Jens Montanana remains bullish. Datatec is aiming for a $1bn rise in turnover over the next year, helped by acquisitions and demand in emerging markets. He also believes growth over the next three years could be better than the past three, with operating profit margins to expand further as synergies kick in. Dell’s recent woes may also help. The computing giant is reportedly planning to end its exclusive direct sales model and may allow third-party distributors to resell its products, which would boost Datatec’s volumes and margins.
So what are the risks? US demand has softened, although Montanana said this “was not unique to Datatec but rather the result of a broader slowdown… caused by two and a half years of interest-rate rises and other macroeconomic factors”.
The industry is also notoriously cut-throat and cyclical and there are risks in taking on acquisitions. But Investec is forecasting sales and underlying earnings per share of $4.1bn and 22.9p respectively for this year, rising to $4.4bn and 25.6p next. With the shares trading at around 14 times earnings, falling to 11.5 in the following year – and underpinned by strong market dynamics, shortening product life-cycles and buoyant demand for next generation internet services – the stock is good value.
Recommendation: Long-term BUY at 297.75p
• Paul Hill also writes a weekly share-tipping newsletter, Precision Guided Investments