This historic brand has just become a penny stock! What’s going on?

Jon Smith sees a 200-year-old brand dip below a market cap of £100m. He wonders whether it will remain a penny stock for a while and if it’s worth buying.

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Even though definitions vary, I characterise a business as being a penny stock if the market cap is less than £100m and the share price is below £1. Given the recent fall in the share price, De La Rue (LSE:DLAR) is now in this category. The 200-year-old money printer might have a rich heritage, but is this a stock investors should be interested in buying?

Plenty of problems to note

Over the past year, the stock has fallen by a chunky 55%. It has been a fairly linear move lower over this period, compounded by company-specific problems.

For example, the most recent issue comes from activist shareholder Crystal Amber. The fund is calling for the chairman, Kevin Loosemore, to resign. This is due to what it believes to be financial failings at the company ever since the turnaround plan was announced back in 2020. Since then, it argues that the numbers haven’t improved at all, and so a head needs to roll.

Another problem on a broader level is decreasing demand for banknotes. Particularly over the past year as we’ve come out of the pandemic, I’ve seen far more cashless companies. Even my favourite restaurant near me has now gone cashless! I can appreciate that there’s a likely strong correlation between the De La Rue share price and the falling need for cash in society.

Warnings from a valuation metric

The demise has pushed the market cap below £100m, but because the company is technically profitable I can try and assess the value from the price-to-earnings ratio. At the moment, the ratio is 3.65. Given that I usually say a ratio of 10-15 is fair value, 3.65 is exceptionally low.

This could indicate to investors that the stock is undervalued. However, people need to appreciate that sometimes a ratio that’s very low is a red flag. Essentially, De La Rue has gone beyond the point of being undervalued. Very many other investors simply don’t value it enough to buy!

Put another way, people aren’t buying the stock even though the earnings are high relative to the current share price. This is a clear warning sign to me.

The other side of the coin (or banknote)

The firm is trying hard to diversify revenue away from just printing. In the latest half-year report, revenue from authentication jumped by 22% versus two years ago. It accounted for £45.5m of the total revenue of £164.3m generated during the half-year.

Another point that will help to provide resilience going forward is the growth in profit margin. The operating profit margin has increased from 0.3% to 9.6% in the space of two years. This gives some breathing space to make money even if costs increase this year.

Ultimately though, I don’t feel De La Rue is in a great position, especially with the ongoing shareholder battle. It’s not a business I see growing in the long term and therefore won’t be buying it any time soon.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Jon Smith has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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