Story stock IQE (LSE: IQE) used to be one of London’s most sought-after investments. However, after the share price jumped more than 10-fold between the middle of 2016 and the end of 2018, the rally has since fizzled out.
It’s difficult to pin down just one factor that has helped contribute to the change in investor sentiment over the past nine months. Since the end of 2017, after topping out at 175p per share, the stock has since fallen below 100p. It’s currently changing hands for around 95p.
Plenty of critics
Management has been fending off a barrage of criticism levelled against IQE over the past 12 months. Analysts and journalists have questioned everything about the business, including the robustness of its supply contracts, capital spending plans and subsidiary operations. These accusations have taken their toll. It seems to me that IQE’s reputation has suffered significantly as it’s business model has been questioned repeatedly.
Still, so far the company has done an excellent job of fending off criticism. But I reckon that before confidence returns fully, IQE will have to prove to investors and the rest of the market that it can hit growth targets and the stock is worth its premium valuation. Indeed, even after falling by around 33% in 2018, shares in IQE still command a premium multiple of 28 times forward earnings.
Analysts are predicting earnings per share (EPS) growth of 23% for full-year 2018. But, as my Foolish colleague Kevin Godbold highlighted last week, the company’s half-year results, which showed a 4% increase in revenue and a more than 50% plunge in post-tax earnings, did little to reassure investors.
I’m always wary of companies that analysts believe have the potential to grow faster than the rest of the market, but struggle to post the numbers. Personally, I want to see concrete evidence that IQE is indeed on track to hitting City growth targets before investing. With this being the case, I wouldn’t buy shares in IQE right now, although I am interested in recovering tech play Brady (LSE: BRY).
Rebuilding the business
I like Brady because the company, which provides trading and risk management solutions to the energy and commodity sector, seems to be on the edge of a long-awaited recovery. As commodity prices have whipsawed, trading has been volatile over the past few years, so management has tried to refocus the business.
These efforts now seem to be paying off. Today, the company reported an operating loss of just over £2m for the six months to the end of June, substantially better than the loss of £3.5m reported the same period last year. Some 95% of revenues for the second half of the year are already locked in.
Outperforming
Despite the company’s losses, Brady has outperformed IQE year-to-date, gaining 6% compared to IQE’s loss of 33%. I expect this trend to continue. Brady might not be profitable but it’s highly cash generative and has net cash on the balance sheet equivalent to around 10% of its market capitalisation. That gives management plenty of breathing space to help return the group to growth.
City analysts believe this is likely in 2019, with a small profit currently pencilled in for the period. If you are looking for a substitute for IQE in your portfolio, Brady could be the perfect fit.
