I think it is fair to say that the market was disappointed with IQE‘s (LSE: IQE) full-year 2018 results published earlier this week. Indeed, after the publication of the report, the shares dropped 10% and they have continued to slide since.
It is easy to see why investors were disappointed with the results. The market views IQE as a growth stock, (its forward P/E of 20.5 stands testament to that) but the firm’s numbers for 2018 do not support this thesis.
Revenues for the period only increased by 1.1%, and a 14.2% decline in gross margins meant earnings before interest tax depreciation and amortisation (EBITDA) declined 28.9% year-on-year and profit before tax slumped 43%.
Looking at these numbers, I think the company has its work cut out to return to growth, although at the time of writing, City analysts are forecasting earnings per share of 4.8p for 2020, compared to just 1.4p for 2018. They are also expecting revenues to grow by around a third over the next two years.
Only time will tell if the company can hit these targets, but considering last year’s performance, I’m not willing to bet on it. Also, a forward P/E of 20.5 does not leave much room for manoeuvre if the group misses City growth targets once again.
Looking at this evaluation, I think further disappointments could lead to a significant drop in the share price.
I’m more optimistic on the outlook for cybersecurity expert Avast (LSE: AVST). For a start, shares in this business, which has been a public entity for less than 12 months, are currently dealing at a relatively attractive forward P/E of 13.2, that’s compared to a multiple of around 19 times earnings for the rest of the software services industry. Also, investors buying today can pocket a 3.2% dividend yield.
But it is the company’s future potential that I am really excited about here. Cybersecurity is a booming market, and it is only going to continue to grow as the world becomes more digitised.
As I recently noted, experts suggest that the cybersecurity market is expected to double in size between 2018 and 2024. This implies double-digit growth for the industry every year until the mid-2020s. I see no reason why Avast’s earnings cannot grow at least in line with the rest of the market, and even if the company does not manage to match the market growth rate, I reckon there is still a strong chance that this business can grow earnings in the high single-digits for the foreseeable future.
Using a rough, back of the envelope calculation, I calculate that if the company’s earnings per share grow at an annual rate of 10% between now and 2024, Avast will earn 34.6p per share in 2024, putting it on a forward (2024) P/E of 8.6 at the time of writing.
If the stock attracts a valuation similar to the rest of the software services sector, the shares could be worth as much as 657p in five years, more than double the current price and that is excluding dividends. I think these figures clearly show Avast is a better growth stock than the IQE share price.
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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.