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Why this small cap can double by year-end

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When a company raises funds via way of a placing, and investors are willing to pay a premium to participate in the fundraising, it’s a big deal.

Indeed, most placings are conducted at a discount to a company’s prevailing share price, as that’s the only way managers can get investors to stump up more cash. It’s rare that a company completes a placing at a premium.

Kromek (LSE: KMK) was able to accomplish this goal a few days ago. The company announced on January 25 that management was looking to raise £21m via way of a placing and open offer. The firm placed 100m ordinary shares at a price of 20 per share, the closing middle market price on 24 January. What’s even more impressive is that, at the time of writing, Kromek’s market value is only £33.2m, so the company was able to get away with tapping shareholders for three-quarters of its market value in cash without offering any substantial discount.

Impressed with the company

The very fact that investors were willing to commit to such a significant capital raise without demanding a discount shows that Kromek’s key institutional investors trust the company and its management, and believe Kromek has a bright future ahead.

Kromek’s three primary markets — medical, security and nuclear detection — are all worth many multiples of the company’s current market capitalisation, presenting a tremendous opportunity for the group. Management is already working hard to capitalise on the opportunities available, but has apparently been stonewalled by some customers because of the company’s lack of production capacity. £21m of fresh capital should help prove to customers that the business can be relied upon to make good on customer order commitments.

Customers base growing

One of the firm’s main customers is the US government. The company is working on D3S hand-held radiation detectors with it, and this market alone represents a potential opportunity of $1bn over the next ten years. Kromek has the skills and capabilities to take on these massive markets, but the group is only in its very early stages of growth. 

Still, 2016 promises to be the strongest year on record for the group with over £22m of contracts awarded for the year to November, the largest value of contracts ever won in a year by the company. For the fiscal year ending 30 April 2017 City analysts expect the group to report revenue of £8.9m and a pre-tax loss of £3.7m for the year after, revenue is expected to hit £12.5m and losses should fall to £2.3m.

These forecasts look good, but could be subject to substantial revisions higher if Kromek’s fundraising convinces new customers to use the group’s services. A wave of new contracts could see the group report its maiden profit sooner than expected.

Undervalued 

With the revenue set to grow by 40% next year and a cash rich balance sheet, shares in Kromek deserve a premium valuation. 

Right now the UK technology sector trades at an average price to sales ratio of 11.4. Assuming Kromek deserves a similar valuation the company’s market capitalisation could hit £143m by 2018. Using the same valuation methodology, if the firm hits City revenue targets for this year, the company’s market capitalisation could hit £100m that’s an upside of 220% from current levels.

Overall, it looks as if the future is bright for Kromek.

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Rupert Hargreaves has no position in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.