Sirius Minerals shares highlight the dangers of investing in companies that have no profits. Over the last year, Sirius’s share price has fallen from around 25p to just 3.6p, meaning that many investors will have lost a fortune.
If you’re looking to make consistent returns from small-cap stocks, I think you’re much better off focusing on companies that are already profitable. You can still lose money on these types of stocks, of course, as smaller companies are notoriously volatile, yet in my experience you’re far less likely to lose 80% or 90% of your capital. And if you invest in a company that is growing its profits, you could stand to make significant gains over time.
With that in mind, here’s a look at a highly-profitable smaller company that I’d be happy to invest my money in today.
Under-the-radar tech company
dotDigital (LSE: DOTD) is a fast-growing technology company that specialises in digital marketing solutions. Its key product, Engagement Cloud, enables companies to turn customer data into powerful multi-channel marketing campaigns.
The stock has had a great run over the last five years, rising from around 30p to just under 100p as profits have climbed, yet I think there could be plenty more upside on the cards for patient investors as the company has bright prospects.
Strong growth
Today’s full-year results for the year ended 30 June show that it continues to grow at an impressive pace. For the year, group revenue increased 19%, adjusted operating profit from continuing operations climbed 24%, and adjusted earnings per share surged 33% to 3.88p – 14% higher than the consensus estimate of 3.4p. In addition, recurring revenue as a percentage of total revenue increased from 85% to 86% and cash generation was strong with the group ending the period with a cash balance of £19.3m.
Looking ahead, CEO Milan Patel was upbeat about the future, stating: “The group is very excited about its financial performance and our growth opportunities, driven by investment in technology innovation, geographic expansion and strategic partnerships. We remain focused on delivering against our strategy and are confident for the year ahead.”
Overall, this is a great set of results, in my view. I like the term “very excited.“
High-quality attributes
Aside from its strong growth, there are a number of things I like about DOTD from an investment perspective. For starters, the company is highly profitable. Both operating margins and return on equity (ROE) are high. Secondly, the company has a strong balance sheet with minimal debt on its books. Third, the business is cash generative – operating cash flow has risen in line with net income in recent years. All things considered, this is a high-quality company.
I’d buy
Turning to the valuation, DOTD shares currently trade on a trailing P/E ratio of around 25, which I see as very fair given the group’s track record and high-quality attributes. If the company continues to grow in the years ahead as I believe it will, I think shareholders will be rewarded handsomely. At the current share price, I see dotDigital shares as a ‘buy’.
