21
Jul

Smarter than the average bear?

SmartgroupSmartgroup (SIQ) was one of a number of Quest holdings that had an exceptional June quarter. Smart gained 41% in the quarter to close at $2.20. The stock listed in July 2014 at $1.60 and spent the first ten months of listed life attracting little attention despite appearing fundamentally cheap.

Smartgroup is a provider of salary packaging administration services. Clients include government departments, benevolent institutions and some public companies. The most commonly packaged items are cars, superannuation and portable electronic devices. The company has a history of retaining clients with half of the clients having been held for over 10 years.

Quest was attracted to the experienced management team, quality of client service and a history of expanding deliverables to existing clients. The metrics at float were not demanding with the listing price being a PE multiple of only 10 times. The company generates strong cash flow, had a solid acquisition record and appeared to be a beneficiary of the soon to be attained listed status.

The negative issues included the periodic need to re-win contracts, a competitive industry and the turbulent history of government intervention in the salary packaging industry that saw the Federal government in 2013 announce an assault on the industry that sent the share price of competitor McMillan Shakespeare down over 30%. The market has continued to be cautious of the industry ever since.

Since the beginning of this year however, Smartgroup has been on the ascendancy. The December annual result saw revenue, EBITDA and NPAT beat prospectus by 5%. The market had been strong making SIQ cheaper in a relative sense. The company was listed for index inclusion in March and was carrying a 6 cent dividend. In April earnings guidance indicated that the first half was 25% up on prior year.

In our view, Smartgroup is showing most of the early characteristics of small cap behaviour. Newly listed smaller stocks often wallow prior to delivering results. Broker coverage is often scant in the early days and it often takes time for secondary buying to develop outside of the initial pool of interest. In June, the company announced the successful retender of the existing and sizeable Department of Defence contract until 2021.

We expect a good half yearly result from the company in August. As always, it comes down to valuation but Smart continues to grow the business in a low growth environment while offering a 5.7% yield at a multiple well below the market average.

Quest holds more than 4% of SIQ at an average price in our HNW portfolios of $1.57. The current price mid July is $2.25.