Will this tech stock soar after beating expectations in H1?

Should you buy this tech company after it beats guidance?

Peter Stephens

Having held various senior management positions in the manufacturing sector, Peter founded his own manufacturing company in 1996. This was subsequently sold in 2007. Meanwhile, his passion for investing (which began during the privatisations of the 1980s) remains strong and he couples this with writing for The Motley Fool as a Contractor. His investment style is value-oriented; focusing on company fundamentals, as well as assessing the strength and presence of a competitive advantage. While above-average growth prospects remain very attractive, a greater focus on dividends has crept in since Peter became a part-time retiree in 2007.

Published 11 October, 2016 12:14 pm BST

| More on: MCRO

The content of this article was relevant at the time of publishing. Circumstances change continuously and caution should therefore be exercised when relying upon any content contained within this article.

Online advertising company RhythmOne (LSE: RTHM) has reported an upbeat set of results for the first half of its financial year. They show that the company is making good progress with its strategy and with an expectations-beating performance, it could be a good time to buy.

RhythmOne’s performance for the first half of the year is expected to be materially ahead of market expectations. It now expects to generate sales of at least $80m from core mobile, video and programmatic products. Its programmatic sales will be at least $55m, which represents 45% growth year-on-year. Although its adjusted EBITDA (earnings before interest, tax, depreciation and amortisation) figure is expected to remain in the red, it’s due to be no more than $2.9m. This would represent a 60% improvement on the first half of the prior financial year.

Encouragingly, RhythmOne reported adjusted EBITDA that was in the black in the last two months of H1. This is significantly ahead of internal estimates and shows that it’s moving in the right direction. The improved performance of the company is largely the result of RhythmOne’s shift towards core mobile, video and programmatic products. This leverages its unified programmatic platform, RhythmMax and there’s more scope for growth ahead.

RhythmOne is forecast to remain lossmaking in each of the next two financial years. While this may be disappointing, the company’s moving in the right direction and investor sentiment could improve as it moves towards a black bottom line. However, this also means that the firm is relatively risky, as its financial performance remains less than optimal.

Lower risk

So it may be prudent to look elsewhere within the technology sector. One company, which offers a lower risk profile than RhythmOne, is Micro Focus (LSE: MCRO). Its bottom line has risen in each of the last five years and it’s forecast to increase by 11% over the next two years. Its merger with HPE’s Software business segment could act as a positive catalyst on its future growth outlook and boost profitability yet further.

Micro Focus offers upbeat income prospects too. It yields 2.6% from a dividend that’s covered a healthy 2.3 times by profit. This indicates that brisk dividend rises could be on the horizon – especially since Micro Focus has a relatively stable and consistent operating model. This should mean that its shares are less volatile than RhythmOne’s and also the risk of loss is lower.

Clearly, as a well-established and more mature company Micro Focus offers less upside than RhythmOne. However, its overall risk-reward profile is superior and for this reason it’s a better buy than its smaller sector peer. In the long run though, RhythmOne could deliver stunning share price growth, which makes it a sound buy for less risk-averse investors.