In this article, I’m taking a look at two cheap small-cap stocks that have been under pressure but have real potential for the future.
Recovery play
TT Electronics (LSE: TTG) has had a tough few years as demand for its electronic components failed to meet earlier expectations. The company, which makes electronic components for the automotive, defence and aerospace industry, also faced operational problems with its new manufacturing facility in Romania and a number of delays in the launch of new product platforms. And as expected, these issues led to missed opportunities.
Fortunately, after nearly four years of restructuring, the company is showing some green shoots of recovery. Thanks to a combination of new product launches, cost savings and improving market conditions, TT Electronics reported double-digit percentage growth in revenues and earnings last year.
For the 2016 financial year, the company generated revenues of £569.9m, a 12% increase on the previous year. Meanwhile, pre-tax profits exceeded consensus analysts’ expectations, with the figure up 40% from last year to £26.9m, against City forecasts of £25.8m.
These results should reassure investors who had worried whether the company could turn around its fortunes after years of stagnation. Looking forward, the company advised that its order book remains sound, with revenues in line with the prior year on an organic basis.
“Despite uncertain end-markets, we enter the year with good momentum in operational efficiency improvement and a robust order book, giving us confidence of making further progress in 2017,” said CEO Richard Tyson.
The business is doing particularly well in the automotive market, with management seeing a ramp-up of new contracts and increased volumes for both sensors and control solutions over the past year.
Its shares currently trade at a forward P/E of 14.7, with City analysts expecting the firm to grow its earnings by 13% this year and a further 10% in 2018. Based on these forecasts, TT shares seem attractively valued for a company with a double-digit growth outlook.
Improving demand
Things are also looking up for engineering firm Renold (LSE: RNO), which manufactures industrial chains and related power transmission products. The company had been under pressure from soft market conditions, but is benefitting from recent sterling weakness and improving demand in Europe.
It has yet to announce its results for the year to March 2017, but it expects reported revenue for the full year to be 11.1% ahead of last year’s figure of £165.2m, with adjusted operating profits in line with market expectations.
On the downside, Renold warned of rising costs as a result of increased sales and marketing expenditures, as well as challenging trading conditions in North America. Additionally, investors need to be mindful about the company’s substantial pension deficit. Its expected net liability for pension benefit obligations is more than £60m — that’s worth roughly half its market capitalisation, and means cash pension contributions going forward will likely significantly crimp free cash flow.
However, trading on a forward P/E of 11.6, its shares seem deeply undervalued and are certainly worth considering.
