Why are Autonomy and De La Rue down, and will they recover?
Small cap investors are warned not to catch falling knives, for fear of losing their fingers.
Metaphorically, you understand.
But the warning is equally true of buying a £1 billion stock that's plunging. If you try to catch a falling sword, you risk losing an arm and a leg!
Just ask the nearest punter who bought BP (LSE: BP) while oil still gushed into the Gulf of Mexico. Bottom-fishers found out the expensive way that the market cap of a huge company can keep haemorrhaging billions just as surely as a small company can gush millions. And while it's midcaps like Rok and Connaught that have been wiped out recently, it was only a few years ago that shareholders in FTSE 100 bank Northern Rock lost the lot.
Despite the risks, big companies with manageable problems married with massive share price falls remain a favoured hunting ground for private investors. And looking at almost any long-term share price graph will show you companies rocked and recovering from long-forgotten worries.
Let's consider the prospects for two recent and decent-sized plungers.
Pre-plunge market cap: £4.5 billion
Current market cap: £3.3 billion
Valued destroyed: £1.2 billion
Are investors finally out of love with Autonomy (LSE: AU)?
Actually the stock has never been a market darling, exactly -- the data search and retrieval specialist seems to provoke a love or hate reaction in even the most level headed investors.
But ever since its third-quarter trading statement in early October was interpreted as a soft profit warning -- wrongly, the company later insisted -- the shares have languished, falling more than 30% to below £13 before a mild rally lifted them back to £13.40.
- Bulls love Autonomy for its more than two dozen consecutive quarters of strong profit growth, its highly-rated technology, and its blue chip client base.
- Bears wonder where all the cash it has supposedly generated has gone, and ask questions about the quality of its accounting. They believe Autonomy has only really grown via well-timed acquisitions. And sure enough, uncertainty about the nature and timing of Autonomy's next acquisition has helped keep the share price down.
Autonomy is still on a P/E of just over 19, even after the price fall, and muted growth forecasts see the PEG rating approaching 2.
Not cheap. But you write off Autonomy at your peril, and its fans could easily drive it higher when the long-awaited strategic acquisition is announced. I suspect this may prove a good time to buy, at least in the short term.
De La Rue
Pre-plunge market cap: £915 million
Current market cap: £631 million
Valued destroyed: £282 million
Here's a company facing a drama that may or may not be a crisis. Besides selling printing equipment and handling production duties for the new biometric UK passport, De La Rue (LSE: DLAR) prints banknotes for banks of all sizes, ranging from the tiny Reserve Bank of Fiji to the Bank of England.
Clearly, security and trust are hugely important. Unfortunate for shareholders then that in July De La Rue reported it had found paper quality problems at its main facility in Hampshire. A later update announced that employees had falsified certain paper quality certificates, and estimated the company would take a £35 million hit to first half profits.
The market has taken a far dimmer view, however, with the shares falling 40% since the issue first emerged to a low of £5.50 in late November, wiping £375 million off the value of the company, before recovering some ground in recent days.
Clearly, the market believed the impact on De La Rue's reputation is of much greater consequence than management did. The problems have already claimed the chief executive, and there are rumours that the Reserve Bank of India -- one of De La Rue's biggest customers -- might be off.
The share price has rallied though on the back of a Merrill Lynch report putting fair value at £8.30 per share, and suggesting the loss of a big bank is already in the price. And in my view, De La Rue's other clients may well decide better the devil they know -- and a problem already identified -- than the risks of working with an entirely new supplier on something as sensitive as banknotes.
Profits are sure to suffer in the next 12 months and it may be a long time before De La Rue commands a truly gilt-edged rating again. But the company maintained its dividend in last week's half-yearly results, and while analysts expect the final full year's payout will be lower than the prior year's, even just doubling the interim up puts De La Rue on a near-5% yield. There will be a new CEO along soon, and the company has negligible debt to worry about meeting while he or she repairs its credentials.
If the big client walks and little ones follow then all bets are off, but after a bit of kitchen sinking by the upcoming new boss, it's easy to see the shares much higher from here.
More from Owain Bennallack:
> Owain owns shares in BP.
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