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One small-cap I’d avoid and one super growth stock I’d buy

The past three years have been rough for Braemar Shipping Services (LSE: BMS). Despite improving global growth, overcapacity in the shipping sector has kept rates under pressure, which means revenues across the industry have slumped. 

It doesn’t look as if this malaise will dissipate any time soon as low-interest rates are helping zombie shipping firms survive in a highly competitive market.

Today’s trading update from Braemar confirms this worrying trend. Group underlying operating profit collapsed to £3.5m for the year ending 28 February 2017, from £13.8m for the previous year. Revenue declined to £139.8m from £159.1m, and the group’s cash balance contracted to £7.1m, down from £9.2m. 

Considering these dismal results, management has recommended a final dividend payout of 5p per share, giving a full-year dividend of only 14p compared to last year’s payout of 26p. Underlying basic earnings per share for the period hit 8.7p.

Steady recovery 

After a year of restructuring, City analysts expect Braemar’s earnings to rebound by as much as 112% for the fiscal year ending 28 February 2018, but even after this growth, the shares still look unattractive. 

Indeed, if earnings per share recovered to the City target of 18.5p, shares in Braemar will be trading at a forward P/E of 17.2 — an extremely demanding multiple for a company that has seen earnings per share cut in half over the past five years.

Overall, considering the headwinds currently facing the shipping industry and Braemar’s expensive valuation, this is one small-cap I believe investors should avoid.

On the other hand, landscaping products company Marshalls (LSE: MSLH) looks to me to be an attractive investment. Over the past five years, shares in the company have returned more than 340%, excluding dividends and today the shares are trading up by 3.4% after the company published yet another upbeat trading update. In the update, management noted that group revenue for the four months ended 30 April 2017 was up 6%, and cash generation has remained strong with net debt falling to £19.1m, from £33.1m at the end of 2016. 

Further growth ahead

Over the past five years, Marshalls’ earnings per share have grown nearly fourfold as management has pursued an aggressive expansion strategy. Since year-end, 2013 pre-tax profit has risen by 280% as revenue has increased by a third. 

City analysts are expecting further growth in the years ahead as management presses ahead with its 2020 strategy. This strategy is focused on cash generation and select acquisitions to grow earnings and revenue at a steady, sustainable rate. As this plan unfolds, City analysts are projecting annual earnings per share growth in the high single-digit range for the next few years 

Even though shares in Marshall’s trade at a relatively high forward earnings multiple of 19.3, with this plan for steady growth in place, I believe it’s worth paying a premium for the shares. The company looks set to continue to produce stable returns for investors going forward.

Finding the best small-caps

There are plenty of small-caps out there which may look like great long-term champions at first glance, but further investigation can prove otherwise. Following my own Foolish analysis, I'm bearish on Braemar's short- and long-term recovery prospects, and so it's not one I'm considering buying for myself.

And to help you avoid struggling businesses such as Braemar and find durable growth champions, we've put together this new free report.

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Rupert Hargreaves has no position in any shares mentioned. The Motley Fool UK has recommended Marshalls. 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.