James Faulkner on Carclo: a potentially interesting situation for the more adventurous investor…

Bombed-out specialist plastics firm Carclo (CAR) jumped higher this week, after it noted a bullish Q2 results update from partner Atmel:

“Our XSense revenue grew significantly on both a sequential and year-over-year basis.  XSense technology was selected by EDN China as a “Top 10 Most Influential Technologies for the Future” at an award ceremony at the end of June in Shanghai. The prestigious EDN China Innovation Awards are handed out annually.  Customer interest for our XSense products remains high and we continue to win new designs.”

Carclo works with Atmel in order to commercialise its next generation touch-sensor technology, XSense. Carclo’s touchscreen technology allows developers to make larger, lighter, less power-hungry, sleeker designs for smartphones, tablets and other products, which could potentially transform the $10 billion market. XSense falls under the CIT (Conductive Inkjet Technology) division, which saw revenues almost quadruple, albeit from a low base, during the year to 31st March 2014.

Despite the progress being made at CIT, Carclo shares are in the doldrums after having suffered a long retracement over the past year, from a high of 424p to the current price of 130p.

Interestingly, there has been no disaster in terms of trading or financials; rather Carclo was a classic example of market expectations getting ahead of themselves, leaving the valuation overextended and vulnerable to any setback in terms of growth expectations. When it became apparent that the market for touch sensors was not going to be a complete push-over for XSense, the shares duly came crashing back down to earth.

Yet CIT, albeit growing strongly, only makes up a tiny (c.3.3%) portion of group turnover. Technical Plastics and LED Technologies, which, according to broker N+1 Singer, are “arguably in their strongest positions ever”, account for almost 90% of group turnover between them. These divisions manufacture specialised precision components for a variety of blue-chip customers, and both achieved growth in revenue and profits last year.

Elsewhere, other potentially transformational products are being brought forward to commercialisation in the firm’s Diagnostics division, which has been developing Carclo’s single use Point-of-Care diagnostic device, branded as micropoc.

Three different platforms of micropoc are being developed, one of which is partnered with AIM-listed EKF Diagnostics plc for kidney function markers. Micropoc’s USP is that it obviates the need for desktop devices or readers and is also comparatively cost effective, so there are compelling reasons why this technology could be significantly earnings accretive for Carclo.

Financials

While Carclo has a good record of generating good operating cashflow (and paying a dividend), net debt has been increasing lately, mainly due to investment in product development and growth. As at 31st March 2014 the group’s net debt was £17.7 million, up from £9.2 million in FY13, and the group had total bank facilities of £31.4 million.

During the 2014 financial year, capital expenditure in cash terms was £7.5 million, representing 200% of the total group depreciation charge, due mainly to the capital cost of the US Technical Plastics facility expansion. Investors should also be aware that the firm has a significant group pension scheme worth more than £180 million, although the deficit was recently transformed into a small surplus. The cash cost of the pension scheme to the group during the last financial year was £1.6 million. 

What’s it worth?

Broker N+1 Singer notes that net debt is likely to increase again in the current financial year; but the fact that this is due to ongoing investment in future growth should calm investors’ nerves somewhat. In any case, on forecast EBITDA of £12.7 million, and forecast net debt of £26.1 million in FY15, this suggests a net debt to EBITDA level of c.2.1 times, which hardly looks excessive.

On the broker’s forecasts (which assume no contribution from CIT), the shares trade on 17.3 times falling to 14 times for FY16. For a highly innovative company incubating potentially disruptive technology across a number of markets, Carclo is worth a look at current prices.