Companies that provide a critical business service for other firms often make the best investments as their revenues are sticky. In other words, itthey’res unlikely to disappear overnight as clients can’t switch to other offerings easily.
Today Alfa reported its first annual results since its IPO last year, showcasing its strengths. The company, which provides “mission critical software for the asset finance industry,” announced today that revenue for 2017 rose 20% to £88m, or 9% year-on-year to £86m at constant currency. Pre-tax profit surged to £34m, double last year’s reported figure of £17m.
However, it seems that the market is displeased with management’s growth outlook. Due to currency fluctuations, growth is expected to slow in 2018. Specifically, alongside today’s numbers, CEO Andrew Denton said a backdrop of a weakening dollar means the board expects to report low double-digit top line growth on a budget rate, or mid double-digit growth on a constant currency basis. It seems investors have also been disappointed by the lack of a dividend announcement for the year.
Still, despite this downbeat outlook, the long-term opportunity ahead of Alfa, and its peer Microgen, is tremendous. For example, Alfa estimates its addressable software market is over $3bn, compared to its current revenue run-rate of £88m ($123m).
City analysts are expecting the firm’s earnings per share to jump 15% for 2018 after last year’s surge in profitability. And as long as Alfa continues to provide a professional service to clients, I believe earnings can continue to grow at a double-digit rate for the foreseeable future.
Growth through acquisitions
Bolt-on acquisitions are another tactic Alfa can use to boost growth. Microgen has chosen this route, using organic cash flow to buy up growth. In August of last year, the firm announced the acquisition of RevStream Inc, a California-based provider of revenue management enterprise software expanding its portfolio of mission-critical software businesses.
Following this deal, and others like it, the firm’s adjusted earnings per share increased by 39% to 17.1p for 2017, smashing City estimates of 15.2p. After this strong performance, it looks as if analysts are behind the curve with the company as they were expecting earnings per share of 18.3p for 2018. Considering 2017’s outperformance, I wouldn’t be surprised if analysts revised their forecasts for future growth substantially higher in the months ahead.
Unfortunately, the one problem with both Microgen and Alfa is that the shares currently command a high valuation. Shares in Microgen are trading at a forward P/E of 27.8 and Alfa is trading at a forward P/E of just under 40. While high, these valuations reflect the bespoke and sticky nature of these businesses’ revenue streams and future growth potential.
Rupert Hargreaves owns no share 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.