In my view, UK investors should pay more attention to small-cap stocks. Lower trading volumes mean more volatility, but they often have better growth prospects than their larger counterparts.
In a number of cases, the companies are just too small for big institutional investors. But that’s not a problem for me and I’ve been looking for opportunities that might be going unnoticed.
Judges Scientific
Judges Scientific (LSE:JDG) is a collection of scientific equipment companies. It operates a strategy of buying smaller businesses and helping them grow via its existing network.
Being small is an advantage for this type of business. It means there’s less competition from private equity and bigger firms for acquisitions, which helps reduce the risk of overpaying.
The longer this stays the case, the more scope for growth the company has. And with a market value of £380m, I think there’s a long way to go before size starts to become an issue.
One thing that can be an issue, though, is uneven demand. Judges Scientific’s subsidiaries depend on funding for scientific research and this has been weak in the US recently.
To some extent, this has been offset by revenue from a coring expedition in the first half of the year. This income, though, is infrequent and won’t be repeated in H2.
While the near future might be bumpy, I think the long-term outlook is very positive. It has an impressive record of buying companies at low multiples and I expect this to continue.
Celebrus Technologies
In general, I think software companies have a big problem with artificial intelligence (AI) disruption. But Celebrus Technologies (LSE:CLBS) is a rare exception to that rule.
The firm’s main product lets organisations track customer activity on their apps and websites. Importantly, it does this without using cookies (which can be disabled by users).
Even more importantly, the company’s core technology is protected by patents. Unlike some other software firms, that gives it a barrier to entry that code-writing AI can’t easily get across.
In short, I think Celebrus has a quality product. But it still has to convince customers to pay for it and that won’t be entirely straightforward in a market with larger competitors.
Celebrus is currently shifting away from reselling third-party products to focusing on its own software. And that has meant complicated changes in the way it recognises its revenues.
Based on the new model, though, the stock is trading at a price-to-sales (P/S) ratio of below three. And that’s the kind of value I don’t think investors can find elsewhere.
Volatility
One of the things investors have to get used to with small-cap stocks is volatility. There’s less money focusing on these opportunities and that can make prices jump around.
With both Judges Scientific and Celebrus Technologies, this is exaggerated by uneven earnings patterns. But both of these features can create buying opportunities.
I’m not looking to focus my entire portfolio on these kinds of stocks. But they’re an important part of my plan to aim for long-term outperformance.
