There could be better times ahead for Innovation Group.
Most small start-up businesses start out with a lowly valuation, and then see their share price and market cap climb as sales volumes and profits grow.
Investors in Innovation Group (LSE: TIG), having seen their company shares do the exact opposite, know that there's more to the company's claim to innovation than just the name.
Insurance focus
Innovation produces claims management software and other insurance industry-specific back office software. It has also branched out in recent years, and now provides outsourcing services as well, handling claims on behalf of insurance industry customers by using low-cost staff in countries such as India.
These days, outsourcing revenues dwarf software revenues -- 80% of the present year's sales revenues came from outsourcing, which represents quite a change for a business that first came to market as a specialist software vendor.
Founded in a flat in Portsmouth in 1996, the company's website contains a heartwarming story of its early history, including the period during which its founders worked without pay, but with plenty of passion.
And investors can certainly identify with that: Innovation has paid out a tiny dividend in just two of the past five years, and the thumping full-year loss of £19.8 million on sales of £155.9 million revealed in Friday's accounts sees little prospect of any further dividend any time soon. Partly to blame: a slump in outsourcing revenues, which are volume-based, and consequently hit by the recession.
And if investors can identify with the lack of reward, they can probably also agree about the passion bit, too. Let's face it, they've a lot to feel passionate about. Trading at over £12 shortly after flotation, the shares have bumped along at around 30 pence for years, before dropping to a credit crunch-induced 4 pence. They were 12 pence before dropping 10% on the combined news of record losses and a placing and open offer.
Yes, that's right. Despite having raised £4.8 million in May, Innovation is now raising another £21 million from shareholders. According to the RNS, it is intended to "achieve improved profitability and cash generation through the deployment of capital to fund a number of projects which will deliver enhanced efficiency in the Group and improved commercial terms with customers and partners."
The other side of the coin
Despite that, shareholders do have some news to cheer. Software licence growth remains strong, customer satisfaction rates are high, and the company has had a high level of new customer 'wins' throughout the year -- taking the customer base from around 500 customers in 2007 to over 1,000 by early October. Today, they include industry giants such as AXA Insurance, Royal & Sun Alliance (LSE: RSA), and Zurich, as well as new players such as corporate fleet insurers -- Ford, Avis and Hertz -- and newer insurance entrants such as Tesco (LSE: TSCO).
Better cash management, too, has provided some cheer: net cash at the year was £11.7 million, well ahead of expectations, although a portion of that was the remainder of the funds raised by the May placing.
And news that in the long term is likely to prove even better is the arrival of chairman Andrew Roberts, who has a good track record, having held positions with several software firms in the past. And with the departure of the chief executive, he's now the executive chairman, pending a replacement.
Is it a buy?
Despite the negative tone of much of the above, I think the answer is 'yes' -- although Innovation isn't a share for widows, orphans or those of a nervous disposition. That said, it isn't an AIM share either, but a main market listing, despite the present £73 million market cap.
Innovation is a recovery play. The logic: it has a blue-chip customer base, high and recurring revenues, and a recent history of profitability and dividends. There's also possibility of an acquisition: three such approaches have been made in the past.
In short, it's entirely possible that Innovation's bad run of newsflow is behind it, and that the £21 million placing and open offer should -- if management are right -- deliver the scale the company has been seeking.
It's a gamble, but one with a reasonable amount of upside: the share price is rock bottom, sentiment is poor, and the forecast P/E (before the placing and open offer) is 8.8 -- still a little pricey for a recovery play, but reasonable. Feeling brave? Take the plunge.
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