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Why I’m avoiding these high-flying shares

Softcat (LSE: SCT) has only been listed as a publicly traded company since November 2015, but in that short space of time the IT infrastructure provider has certainly made a big impact. The technology firm has been very popular with investors, with the share price now a staggering 72% higher than the 240p IPO price. Have Softcat’s shares soared too high too soon, and are they now in danger of a severe market correction?

Instant millionaires

On the morning of its IPO, Softcat’s share price soared 20% within an hour of the opening bell, with investors clearly excited about the IT firm’s prospects. I suspect that management over at the firm’s headquarters in Marlow, Buckinghamshire, were also excited that morning as they pocketed in excess of £153m from the public flotation. It seems that Friday 13 November had turned out to be far from unlucky for a handful of senior staff, who became instant millionaires on that day.

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Since then, the company’s shares had been changing hands at between 280p and 380p, and it looked as if this was going to be the normal trading range for the foreseeable future. But all that changed last month after Softcat reported another strong set of interim results. Gross profit for the six months ending 31 January 2017 was up 14.1% to £61.3m, compared to £53.7m for the first half of FY2016, with adjusted operating profit up 9.4% to £21.4m.

Customer growth

Over the past 18 months Softcat has made significant investments in new sales, services and technical resource. The return on those investments was now evident in its latest figures, with revenues soaring by 28.9% to £378.5m, a significant improvement from the ££293.6m reported for the same period a year earlier.

During the six month period Softcat achieved the fastest rate of customer growth since the first half of fiscal 2014, trading with 800 more customers compared to the same period last year, a rise of 8.7%. Furthermore, gross profit per customer grew 4.6%, further demonstrating that despite the natural dilution created by new customer growth, existing customers continue to entrust the company with more and more of their infrastructure needs.

Both revenues and earnings are forecast to continue on a path of steady growth over the next couple of years, but after recent strong gains I feel the shares are fully valued at 21 times earnings.

Return to growth

Another mid-cap technology firm whose shares have performed remarkably well in recent times is Aveva Group (LSE: AVV). The group’s shares have enjoyed a strong rally of the past 12 months or so, with the share price now 24% higher than a year ago.

The Cambridge-based group specialises in engineering, design and information management software and is one of the largest IT firms in the FTSE 250 index with a market value of almost £1.3bn. The group will present its full year results at the end of next month with management confident of a return to growth in both revenue and profits after a disappointing couple of years.

However, I believe the recent strong share price performance already reflects the anticipated change in fortunes for the company, with a premium P/E rating of 28 more than adequately pricing in the single-digit earnings growth forecast for the next couple of years.

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Bilaal Mohamed has no position in any 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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