Buying quality shares at bargain prices is what value investing’s all about. And opportunities to do this often come when the rest of the market’s looking away.
I’ve recently come across a stock I think looks like a really interesting opportunity and worthy of further research. It’s a company that’s growing, but its valuation multiples don’t seem to reflect this.
The stock
The company in question is SDI Group (LSE:SDI). It’s a collection of industrial equipment companies that operate in markets where barriers to entry are high and competition’s low.
That’s a good combination. And the range of end markets is reasonably well-diversified, including healthcare, aerospace and industrial automation.
The firm’s business model involves buying smaller firms and helping them grow. This can be through product development, expansion into new markets, or scaling up production.
This is the strategy that Halma and Diploma have used to generate spectacular long-term returns for investors. There are risks, but SDI’s in a good position to navigate these.
The business model
The biggest risk with acquisitions is paying too much for a business. When that happens, a company gets an unsatisfactory return and shareholders are worse off as a result.
SDI’s big advantage here however, is its size. With a market value of £77m, it’s often in a position to be looking at businesses that are too small to attract bigger competitors.
As a result, it often makes acquisitions at prices that imply an EBIT multiple of around 6. And at that level, the company doesn’t have to generate much growth to do well.
I think there’s a lot to like about the business. But the big question is why the stock’s been such a bad investment over the last couple of years.
The risks
The big issue is that sales growth’s fallen off a cliff. In fact, it actually fell during the firm’s 2024 financial year due to a post-pandemic demand downturn in the healthcare industry.
For a growth stock, sales going backwards is a major red flag. It also highlights the risks associated with selling into industrial end markets, which can be cyclical.
Things have started to improve recently though. And I think the firm’s strategy should give it opportunities to support its growth through acquisitions even while demand is subdued.
In its latest update, the firm reported 10% revenue growth, with 3% coming from existing businesses. And it’s anticipating this rising to between 5% and 8% over the long term.
The opportunity
At 1.2, SDI trades at a much lower price-to-sales (P/S) multiple than Halma (5.6) or Diploma (4.8). Its organic growth forecasts are lower, but that’s a big discount.
As a result, it definitely goes on my list of stocks to look at more closely. Volatility is a given with a company of this size, but the compensation for this is more scope for growth.
From my perspective, there’s a chance SDI might be one of the UK’s underappreciated growth stocks. And it’s not the only name on my radar that analysts aren’t really paying attention to.
