A mining growth stock

The first is South African gold miner Pan African Resources (LSE: PAF). Over six months, its share price is down around 22%. However, on a 12-month view, the shares are up more like 40%.

Over the same time frame, the share price of fellow gold miner Centamin has also fallen heavily. The gold price has also fallen from £1,480 per ounce to £1,286 at the time of writing. 

I like that Pan African Resources is an established miner, which for me makes it a bit less risky than other listed natural resources explorers and miners. The miner pays a dividend and has debt under control, which I see as positives.

It was hit by the pandemic, so in that light, the performance has been good. The management has said it’s on track to deliver on its full-year production guidance of around 190,000 ounces of gold.

On the downside, it’s always at the mercy of the gold price, which is clearly beyond its control. It also could face taxes from the South African government. There might be particular pressure on mines following the economic impact of the pandemic.

I’d like to see the share return to over 24p per share this year. The shares currently change hands at around 17p to 18p. The 12-month high, useful as a reference, is 28p. A rise in the gold price or inflation concerns could both be realistic triggers for this happening. For me, it’s a growth stock I’ll be keeping an eye on for my portfolio. 

A falling share price

The share price of software group First Derivatives (LSE: FDP) has recovered recently as the overall market has done well. But looking over six months, the shares are down 21%. Over one year they’re up 27%.

The recent dip then could be an opportunity for investors. The group has identified digital marketing, automotive, energy and manufacturing as markets that are particularly attractive, moving it away from its historic focus just on the banking and finance markets.

Risk and opportunity

The shares do still trade on a price-to-earnings (P/E) ratio of 40 times, so future growth needs to be strong. Otherwise these shares would clearly be very expensive. In a difficult year last year, results weren’t impressive. Interim results for the six months ended 31 August 2020, showed revenue only grew 3%. That’s why I’ll probably not be adding First Derivatives to my portfolio. 

However, if the shares could return to their year high, it would imply a 26% upside to the current share price, which I think would be a very credible return. A rising market, as well as an improved financial performance, which would bring down the P/E, could both be catalysts for this. 

Clearly, some growth stocks that are cheaper than they were. If they can put in strong financial growth in future results, then with a lower P/E, the price-to-earnings growth ratio could be attractive. According to Jim Slater, any PEG ratio below 0.7 could indicate an undervalued growth share, so I’ll keep my eyes open.

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Here, I’m going to highlight two UK growth shares I like for September. I believe both have the potential to deliver strong returns to investors over the medium to long term.

Technology expert

Recently, I worked on a large survey of financial services firms. I can’t give you any details about this project, unfortunately. However, what I can tell you is that the vast majority of firms surveyed said they’re looking to upgrade their digital infrastructure in the near term. Ultimately, Covid-19 has been a massive wake-up call in regards to the importance of digital transformation.

One UK growth share that should benefit from the digital transformation drive is Softcat (LSE: SCT). It’s a FTSE 250-listed company that offers technology solutions and assists organisations with their IT infrastructure. It helps organisations sort out their IT networks, cybersecurity, cloud migration, data analytics, and collaboration tools – all of which businesses are focusing on post-Covid-19.

Softcat issued an encouraging trading update in August. It said it’s continued to trade satisfactorily during the final three months of the year and that it’s delivered operating profit for the full year slightly ahead of the board’s expectations. It also said it’ll resume its normal dividend policy. This suggests the company has momentum right now and management is confident about the future.

Softcat shares aren’t cheap. Currently, the stock’s forward-looking P/E ratio is about 34. I wouldn’t let that valuation put you off, however. The long-term trend here appears to be up. And, as they say, the trend is your friend. I see this UK growth share as a ‘buy’.

Data is the new oil

Another UK growth share I like for September is First Derivatives (LSE: FDP). It’s a leading provider of big data analytics. Its clients include big banks, pharmaceutical companies, and telecommunication firms.

First Derivatives has grown at an impressive rate in recent years (three-year revenue growth of 57%) and a trading update in July showed the company has continued to make progress throughout Covid-19.

For the four months ended 30 June, revenue was up 6% on the year before with software revenue up 8%. The company said it remains “strategically well-placed” and that it’s encouraged by the growing demand for its streaming analytics from potential customers and partners.

After a really strong run in 2017 in which the stock got a bit ahead of itself, FDP has underperformed since mid-2018. However, it now looks like the stock is regaining some mojo. After falling during the Covid-19 crash, it’s recovered to near its 2020 highs. I think there’s a good chance the stock will continue to rise in the medium to long term as demand for the company’s data analytics continues to grow. After all, they say data is the new oil.

The forward-looking P/E ratio here is about 42, using next year’s earnings forecast. That’s not cheap. But for a high-growth data stock, it’s not unreasonable, in my view. I’d buy this UK growth share today.

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FTSE 100 champion 

Within the FTSE 100, one stock I like right now is cloud-based accounting and payroll solutions provider Sage (LSE: SGE), which is held by two of the UK’s top fund managers, Terry Smith and Nick Train.

At first glance, Sage doesn’t look that cheap. Looking at the consensus earnings forecast for the year ending 30 September 2020, the forward-looking P/E ratio is 25. That’s considerably higher than the average FTSE 100 valuation. However, given the potential for growth here, I think that valuation is actually quite reasonable.

You see, unlike many other Footsie companies, Sage operates in a high-growth industry. According to Orbis Research, the global cloud accounting market is set to grow at a compound annual growth rate (CAGR) of around 8.6% between now and 2024. Sage also believes its total addressable market is over 70m businesses. Given that it has only 3m customers now, there’s significant potential for growth.

It’s also worth noting that Sage has a strong competitive advantage as it’s an established player within its industry and that it’s a highly profitable company. Overall, I think it’s a great stock to buy today. Remember, as Warren Buffett says, “it’s far better to buy a wonderful company at a fair price than a fair company at a wonderful price.”

FTSE 250 cybersecurity stock 

Within the FTSE 250, I like the look of Avast (LSE: AVST). It’s one of the world’s largest cybersecurity companies with over 435m users worldwide. 

In terms of big investment themes, it’s hard to ignore cybersecurity. In an increasingly digital world, cybercrime has become one of the most worrying threats to society. According to experts, by 2021, cybercrime could cost the world $6trn annually, which would represent the greatest transfer of economic wealth in history.

Given this backdrop, it’s no surprise that Avast has momentum at present. First-half results last year showed adjusted revenue growth of 9.2% while adjusted EBITDA rose 6.5%.

Right now, Avast shares trade on a forward-looking P/E ratio of 18.1 and offer a dividend yield of a little over 2%. I think that’s good value for this cybersecurity stock.

AIM growth stock 

Finally, if you’re looking for growth on the AIM market, take a look at First Derivatives (LSE: FDP). It’s a technology company that operates in the FinTech/big data space and counts the likes of Lloyds Bank, UBS, and Aston Martin Red Bull Racing among its clients.

First Derivatives has grown at a fast rate over the last few years (three-year revenue growth of 85%) and City analysts expect more growth in the years ahead. For the year ending 28 February 2020, revenue is forecast to grow 10%, while net profit is expected to surge 84%. It’s worth noting that the company recently advised that it had “good momentum” across the business at the start of the second half of the year.

FDP shares currently trade on a forward-looking P/E ratio of around 32, which I believe is reasonable for a tech company operating in the high-growth data industry. I think the stock is worth buying today.

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Often, the growth potential of a stock turns out to have been over-egged, or a case of the emperor’s new clothes, and investors end up with a substantial loss. In these situations, three things we commonly see flaws in are the business, the transparency of its financial reporting, and its market valuation.

With this in mind, three stocks I’m currently avoiding are Purplebricks (LSE: PURP), First Derivatives (LSE: FDP) and Telit Communications (LSE: TCM).

Purplebricks

Business: I’ve serious doubts about the long-term viability of online estate agent Purplebricks, due to diminishing revenue returns from increasing marketing spend. In its latest financial year, it eased back modestly on UK marketing in the second half, and saw second-half revenue plunge by £6.5m. It also swung to an operating loss.

Reporting: Purplebricks refuses to disclose the number of its instructions that result in a completed sale. I’ve seen an increase in dissatisfied customers on Trustpilot recently. ‘Bad’ ratings in the last 475 reviews are running at three times the historical rate. I suspect this is a further indication the business is going backwards.

Valuation: At a share price of 110p, Purplebricks is valued at £337m. This is 2.8 times my estimate of trailing revenue of £119m from continuing operations. The rating is far too high, in my view.

First Derivatives

Business: New technology is a sector to which investors seeking millionaire-maker stocks are naturally drawn. Companies in the sector can readily fashion impressive-sounding growth stories. A few buzzwords, a collaboration with a tech giant, and talk of multi-billion-dollar addressable markets can do wonders for investor excitement. Fintech and martech specialist First Derivatives is a case in point.

Reporting: The company’s accounts came in for severe criticism last year from renegade City analyst Matt Earl’s ShadowFall outfit. While First Derivatives has been valued as a high-performing software company, ShadowFall reckoned that on a true view of the accounts, it has the characteristics of a low-margin consultancy or recruitment business.

Valuation: When paper profits are questionable, my default valuation measure is free cash flow. First Derivatives generated around £6m last year. Against this, its market valuation of £574m at a share price of 2,150p is far too rich in my book.

Telit Communications

Business: Another new technology stock is “global enabler of the Internet of Things” Telit Communications. It sold its automotive solutions division earlier this year, reduced its debt, and reported a net cash position at the half-year end.

Reporting: Back in 2017, I showed how Telit’s accounting enabled it to post impressive paper profits, while generating little or no free cash flow. A few months later, founder and chief executive Oozi Cats and his wife Ruth (apparently on the payroll as an ‘art curator’) were exposed as fugitives from historical fraud indictments, and high-tailed it out of Dodge.

Valuation: Cats remains at large and a major shareholder (dealing in the stock as recently as last month). But with new faces in the boardroom, how should we value the remnants of his empire? At a share price of 155p, the market says £206m. I say, show me the free cash flow to justify it.

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Ahead of forecasts

First Derivatives provides software to financial institutions and, increasingly, to other industries. It reported a 20% increase in first-half revenue to £105.6m, and a 12% rise in adjusted earnings before interest, tax, depreciation and amortisation (EBITDA), to £18.1m. Management expressed its confidence in the group’s growth prospects, saying: “We expect to deliver revenue and adjusted EBITDA slightly ahead of consensus forecasts for the year to 28 February 2019.” These forecasts were £213m and £38.5m, respectively.

I reckon the guidance translates into adjusted earnings per share (EPS) in the region of 85p (H1 was 41p). This would put the stock on a price-to-earnings (P/E) ratio of 41, at a share price of 3,500p. The price is around the same level as this time last year when my colleague Edward Sheldon was reluctant to add to his personal shareholding.

While the forecast EPS is now higher than when Ed was writing, I’m not convinced that the P/E and a prospective dividend yield of 0.8% represent good value. As such, it’s a stock I’m content to avoid, simply on valuation grounds, without having to consider criticisms levelled in recent months by short-seller ShawdowFall. Among them were the company’s accounting (including “shielded costs from its P&L”), the nature of its Kx Tech Fund (“at worst, we believe this could be viewed as straightforward vendor financing”), and corporate governance (“KPMG Belfast has been auditor to FD for over nineteen consecutive years”).

Blue-chip bargain

I’m much more confident that there’s great value on offer over at £17bn-cap blue-chip BAE Systems. The consensus among City analysts forecast an EPS posting of 43p this year, increasing by 9% to 47p in 2019. At a current share price of around 520p, the P/E is just over 12, falling to little more than 10 next year. Dividend forecasts of 22.7p, followed by 23.6p, give a yield of 4.4%, rising to 4.5%, continuing a record of steadily increasing payouts for shareholders.

I reckon October’s stock market slump and concern about the UK’s relationship with Saudi Arabia (an important customer for BAE) in the wake of the murder of journalist Jamal Khashoggi, have created the current investment opportunity. I don’t expect either of these factors to impact on BAE’s long-term future, which I see as underpinned by defence spending which is only likely to increase in the coming decades.

The near-term outlook is also good, according to the company. It said in its half-year results: “With a large order book and a positive outlook for defence budgets in a number of key markets, we have a strong foundation to deliver growth and sustainable cash flow.” As such, I rate the stock a great ‘buy’ today.

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Discoverie

Formerly known as ACAL, £301m market cap Discoverie (LSE: DSCV) designs, manufactures and distributes customised electronic products and solutions to businesses across a range of industries. Since I last covered the stock in mid-October, it has risen over 20%. In a year, it’s surged over 60%. The trend here is clearly up. Are there more gains to come?

A trading update released today sounds good, in my view, even if the stock has fallen a few percent this morning. The group advised that, since its last update on 31 January, trading has continued well, with full-year earnings likely to be in line with management expectations, reflecting “strong growth in year-on-year profitability.”

Group sales for the year ending 31 March increased 11% on a constant currency basis, including organic growth of 6%. The Design & Manufacturing division, which generates around 75% of the group’s profits, enjoyed organic sales growth of 11% for the year. The firm advised that group gross margin “continues to strengthen,” and that the order book at 31 March was at a record £122m, 12% higher than last year.

Despite the rise in the share price over the last year, Discoverie’s valuation remains attractive. City analysts expect the group to generate earnings of 24.9p per share this year, which places the stock on a forward-looking P/E ratio of 16.3. A P/E to growth ratio (PEG) of 1.4 suggests that’s a fair price to pay for the growth being generated. Furthermore, a prospective dividend yield of just over 2% adds weight to the investment case. I rate Discoverie as a ‘buy’ at current levels.

First Derivatives

Another hot small-cap stock that investors can’t afford to ignore is big data specialist First Derivatives (LSE: FDP).

Big data refers to the vast amounts of data that businesses generate on a day-to-day basis. Processed and analysed appropriately, it can provide businesses with valuable insights that can improve efficiency and boost profitability. With data volumes growing at an exponential rate, big data is big business, and with its proprietary Kx data analysis software, First Derivatives looks well placed to capitalise. The firm has a long history of working with some of the world’s largest financial institutions, yet is now branching out to others sectors. In February, it signed a deal with a FTSE 100 gaming company to provide data analytics services. The opportunities here are vast. Is now the time to buy the shares?

First Derivatives had a sensational run last year, rising around 100%. When I last covered the stock in late January, I noted that it looked a little expensive on a forward P/E of 64, and said that it might be worth waiting for a pullback. That call was good, as the stock recently fell around 20% from its January high. However, the share price has since stabilised, and I believe it could now be time to take a closer look. The shares are still expensive, on a forward P/E of 49.7, yet the long-term potential here is significant.

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UK investors could feel a little aggrieved. The FTSE 100 is full of banks and oil stocks, which haven’t seen the same level of gains.

Having said that, the UK is home to some very exciting technology companies at the smaller end of the market. And several of these stocks have generated stratospheric gains over the last 12 months. Here’s a look at two such companies.

The robots are coming

Blue Prism (LSE: PRSM) is a leader in ‘Robotic Process Automation.’ It enables blue-chip companies to create digital workforces powered by software robots that are trained to automate routine back-office tasks. Customers include IBM, Nokia, Aegon and Procter & Gamble.   

The concept sounds pretty exciting to me. So are the shares a good investment?

The thing to understand about Blue Prism is that while the company is generating strong sales growth right now, it’s not yet turning a profit. To my mind, that makes the investment case a little riskier.

Full-year results released this morning show revenue of £24.5m, an increase of 155% on last year. The group secured 609 new software deals over the year. These numbers look good.

Yet, on the downside, the tech firm generated an adjusted EBITDA loss of £8.3m, which is obviously not ideal. And it also announced two proposed placings to raise £40m and £30m, which will dilute existing shareholders’ stakes.

Overall, I’d say Blue Prism is a ‘speculative’ stock. The growth story looks exciting, yet with no profits, shareholders may experience a wild ride.

Explosive data volumes

One tech stock that is generating profits is big data specialist First Derivatives (LSE: FDP). The company builds software for the ultra-high-speed processing of large volumes of data.

First Derivatives has a long history of working with the world’s largest financial institutions, yet is now deploying its technology into other sectors such as energy and transport. As a result, the stock has been getting attention recently and its share price has surged almost 100% over the last year. Is it too late to buy now?

I’m attracted to the long-term story here. Revenue and profits have been growing at an impressive rate, and are expected to keep growing. For the year ending 28 February, analysts expect revenue and net profit growth of 18% and 78% respectively.

Having said that, the shares do look expensive at the moment. On a forward P/E of a high 64, I’m not convinced there’s much value in the stock at present, even though I’m a shareholder myself. That multiple simply doesn’t leave much room for error. In my view, investors may be better off waiting for a pullback here before committing capital.  

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First Derivatives

First Derivatives (LSE: FDP) is a big data specialist. The company’s goal is to provide its customers with efficient and flexible tools for ultra-high-speed processing of data. Its key product ‘Kx’ was designed to address one of the most basic problems in high-performance computing: the inability of traditional database technology to keep up with the rapid escalation of data volumes.

The £890m market cap company has a long history of working with some of the world’s largest financial institutions. However, in recent years, its technology has been used by clients in other sectors, such as the wider technology sector and energy. Just yesterday, the group announced that it has been selected by Red Bull Racing to analyse data from its Formula 1 vehicles.

A glance at the company’s financials reveals formidable recent growth. Indeed, over the last five years, revenue has climbed from £46m to £152m, and adjusted earnings per share have risen from 37.5p to 61.3p.

Half-year results released today reveal further progress. For the six months to 31 August, revenue increased 21% to £87.8m, and adjusted earnings per share climbed 19% to 34.4p. The company stated that it has a “strong pipeline” and that it had made a “positive start” to the second half of the financial year. Chairman Seamus Keating commented: “We anticipate a strong full-year financial performance, slightly ahead of the Board’s expectations.”

I bought shares in First Derivatives at a price of around 1,600p early last year. Today, they change hands for 3,520p. Would I buy more of the stock at the current share price? If the company can perform similarly in the second half of the year and generate full-year earnings of 68.8p, the forward P/E ratio is 51.2 right now. Personally, I’d be reluctant to add to my holding at that price. I’m really excited by the potential here, but after a 60% year-to-date share price rise, I’ll be waiting for a pull-back before buying more shares.

A cheaper tech stock

One tech stock that does look attractively valued right now, in my opinion, is Micro Focus (LSE: MCRO). The £11.5bn market cap group helps customers merge new technology solutions with existing IT infrastructure systems. I last covered the stock in late August, when it was trading at 2,270p. Today, it sits at 2,655p. However, despite the 17% share price gain, I believe there’s more to come.

The company’s merger with Hewlett Packard Enterprise (HPE) is set to create one of the largest tech firms in the UK. Investors have been concerned that Micro Focus might have overpaid and overstretched to buy HPE, however, the latter’s Q3 results released recently were received well by the market.  

Going forward, I believe Micro Focus has the potential to reward long-term investors with both capital gains and dividends. The stock trades on a forward P/E of a reasonable 16.8, and a prospective dividend yield of 2.9% adds weight to the investment case.

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By buying up small carpet manufacturers and combining back office functions, increasing purchasing power and consolidating manufacturing facilities, it has dramatically increased its sales and cash flow in recent years. Management has re-invested these proceeds back into new acquisitions that have led the firm’s sales to leap from £70.9m in 2013 to £255m in 2016.

Cost savings from combining these back office functions have also led to EBITDA margins rising from 5.8% to 12.6% in the same four-year period. And although margin growth is likely to moderate in the coming years, there’s still room for profits to grow at a rapid clip as newly-acquired businesses are integrated and the company sets its sights on the massive European flooring market.

Victoria took its first tentative steps across the Channel with the purchase of two Dutch artificial grass manufacturers earlier this year for £9.7m. If past acquisitions are anything to go by, Victoria’s management team will use its existing UK distribution networks to increase cross-selling of artificial grass as well as using the new European links to begin selling its UK-made carpets into Europe.

It’s still far too soon to say whether this move will work out, but given the company’s phenomenal success with previous acquisitions, I’m quite optimistic. Add in a profitable business with low leverage and a highly-skilled chairman who owns 29% of the shares and I’d take a close look at Victoria today while its shares trade at a very reasonable 19 times forward earnings.

Diversifying for long-term growth 

Another wildly successful AIM share that I reckon could continue to grow for many years to come is tech firm First Derivatives (LSE: FDP). As its name suggests, the company started off providing software to the finance industry and its flagship Kx data analysis software has proven a hit with banks, regulators and stock exchanges over the years.

Repeated double-digit sales growth has powered the group’s shares up over 490% in the past five years alone. And while sales to the finance industry are still going strong, up 30% year-on-year in the year to February alone, I reckon it’s the group’s non-financial customers that make FDP a stock that could continue to deliver such significant shareholder returns over decades.

Indeed, with data analysis the name of the game for just about every industry these days, the company is already having great success finding clients such as utilities, defence companies, and highly-automated manufacturers. The firm’s marketing business has already proven the cross-industry potential of Kx as sales rose 39% last year to £30.7m, representing over 20% of group revenue.

With the core Kx software simply being tweaked to meet the needs of new clients, the company is also highly profitable with EBITDA margins of 18.9% last year. With its potential addressable market nearly limitless as it diversifies its client base, I believe investors could do very, very well by First Derivatives, despite its shares trading at a pricey 45 times forward earnings.

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It operates in sales, marketing, distribution and other business services, plying its trade in the energy, technology and healthcare sectors. And all of its divisions have “recorded strong profit growth” in the year.

A bumper year

We saw operating profit up 21%, with adjusted earnings per share up 18%, driven by the firm’s energy division’s outstanding profit rise of 24%. Free cash flow is up by a massive 43%. The dividend was boosted by 15%, though the yield stands at only a modest 1.6%.

For me, DCC looks very attractive on the long-term growth front, with chief executive Tommy Breen predicting another year of profit rises ahead.

As well as organic growth, DCC is active on the acquisition front and is expanding globally, ambitiously snapping up Esso’s retail network in Norway and Shell’s LPG business in Hong Kong and Macau. These overshadow the disposal of its environmental division (for an enterprise value of £219m), and should help it focus on more profitable businesses.

Its recent track record is impressive, with earnings per share growing by 67% in just four years, and we have growth in excess of 10% per year forecast for this year and next.

As I write, the shares are down 3% at 7,135p. That gives us a P/E of a little under 20 on 2019 forecasts, which might put some people off. But for me that’s a fair valuation for a company with the growth potential that I’m seeing here. 

Heading for the cliff?

First Derivatives (LSE: FDP), a firm supplying IT services to the financial sector, also filed an impressive set of results on Tuesday.

Adjusted pre-tax profit came in 24% ahead with adjusted EPS up 19%, and the dividend was lifted by 18% (albeit for a yield of only 0.8%). Net debt looks modest at £13.5m.

With its software subscription model, First Derivatives has good visibility, and says the current year is off to “an encouraging start“, with chairman Seamus Keating saying “we anticipate another year of strong growth“. Its software does seem to be going places, with an increasing number of companies taking it up.

Sky-high shares

If you’re looking for a share price that has soared, look no further — First Derivatives shares are up more than 400% in the past five years, to 2,560p. But the problem for me is that earnings, while appreciating impressively, haven’t kept growing at the same rate. That’s led to a steadily ballooning P/E — forecasts put the shares on a multiple of 45 for the coming year, and that makes me more than a bit twitchy.

I’ve been following growth shares for years, and there’s a common pattern where great results keep rolling in, investors keep on buying the shares, and the price gets unsustainably ahead of rationality. What usually happens is that one set of results comes in perhaps a little below expectations, and the result is a panic sell-off. 

And I see a distinct possibility of that happening here. I’m convinced that First Derivatives is a solid growth company with a very attractive future. But for me, the current share price is just too high.

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