Shelter from the storm: With Trade War is back on, will small caps outperform ?

The trade war with China and the potential for a slowing global economy has provided a unique investment opportunity for domestic small-cap companies that are more insulated from this. Here we focus on five unique investment opportunities that have strong potential in 2019. These companies are both growth and value oriented and are under followed by Wall Street.

 

Luna Innovations, Inc. (LUNA)

Price Target: $5.50

Percent Upside: 25%

 

Luna Innovations, Inc. develops and markets fiber optic sensing and test and measurement products worldwide. The company has two operating segments. The products and licensing unit sells the company’s commercial fiber optic test and sensing equipment and the technology development segment performs contract R&D for U.S. government agencies.

 

First quarter highlights include:

 

  • Q1:19 revenues were $14.8 million, up 69% versus Q1:18, largely attributable to revenue growth in both the Product and Licensing (+98% YOY) and Technology Development segments (+43% YOY).
  • LUNA reported a 79% YOY increase in gross profit to $6.8 million for Q1:19. Gross margin expanded 200 bps YOY to 46% in Q1:19.
  • Adjusted EBITDA improved to $1.0 million for Q1:19, compared to a loss of $(0.1) million for Q1:18.
  • Net income for Q1:19 was $1.0 million or $0.03 per diluted share versus $0.1 million in Q1:18.
  • For the full year of 2019, LUNA expects revenue to be between $60-$65 million, and adjusted EBITDA to be between $6.0-$6.5 million.

 

 Primary Risk

 

  • The company operates in a space which is prone to rapid technological changes. New technology or the emergence of new industry standards could render existing products obsolete.

 

Anika Therapeutics (ANIK)

Price Target: $45.00

Percent Upside: 22%

 

Anika develops and manufactures therapeutic products for tissue protection utilizing hyaluronic acid (HA), a naturally occurring polymer in humans. Products address osteoarthritis, advanced wound care, and surgical issues. Anika HA products are unique from several perspectives.

 

First quarter highlights include:

 

  • Q1:19 revenues were $14.8 million, up 69% versus Q1:18, largely attributable to revenue growth in both the Product and Licensing (+98% YOY) and Technology Development segments (+43% YOY).
  • LUNA reported a 79% YOY increase in gross profit to $6.8 million for Q1:19. Gross margin expanded 200 bps YOY to 46% in Q1:19.
  • Adjusted EBITDA improved to $1.0 million for Q1:19, compared to a loss of $(0.1) million for Q1:18.
  • Net income for Q1:19 was $1.0 million or $0.03 per diluted share versus $0.1 million in Q1:18.
  • For the full year of 2019, LUNA expects revenue to be between $60-$65 million, and adjusted EBITDA to be between $6.0-$6.5 million.

Primary Risk

 

  • Anika has and can potentially face unfavourable test results which can hinder new drug performance.

 

Transcat, Inc. (TRNS)

Price Target: $27.75

Percent Upside: 16%

 

Transcat, Inc. is a leading provider of accredited calibration and laboratory instrument services and a value-added distributor of professional grade test, measurement and control instrumentation to highly regulated industries.

 

Third quarter highlights include:

 

  • Q3:19 revenue increased ~1% to $40.8 million impacted by weakness in the Distribution segment. Revenue from the Distribution segment was down 6.2% YOY while the Service segment grew 9.2% YOY. Both the Service and Distribution segments saw margin contraction amid softness in Canadian operations, an unfavorable mix, and productivity challenges. The overall gross margin contracted 60 bps, while the operating margin declined by 70 bps.
  • Operating income decreased 9.8% YOY to $2.4 million.
  • Service revenue increased 9.2% to $20.4 million, comprised of ~5.2% organic revenue growth. Higher revenue was the result of new business from the life sciences market and growth in general industrial manufacturing.
  • Distribution revenue declined 6.2% YOY to $20.3 million due to tough comps.

Primary Risk

 

  • TRNS’s results can be negatively affected by volatility in the oil & gas industry, weak economic activity, timing of customer orders, foreign exchange fluctuations, and competitor pricing.

 

Olympic Steel, Inc. (ZEUS)

Price Target: $17.00

Percent Upside: 20%

 

Olympic Steel is a leading U.S. metals service center focused on the direct sale and distribution of large volumes of processed carbon, coated and stainless flat-rolled sheet, coil and plate steel, aluminum, tin, pipe and tubular products.

 

Third quarter highlights include:

 

  • Q1:19 revenues were $446 million, up ~19% from Q1:18, reflecting momentum across all three company verticals - Carbon Flat (+15.6% YOY), Specialty Metals Flat (+34.4% YOY) and Tubular & Pipe Products (+14.6% YOY).
  • Operating income was $6.0 million in Q1:19, versus $12.3 million in Q1:18. There was no LIFO expense in Q1:19.
  • Excluding the LIFO expense and other adjustments, ZEUS reported adjusted net income of $2.1 million or diluted EPS of $0.18, compared to net income of $7.9 million or $0.70 per diluted share in the year ago period.
  • Management noted that the integration of the acquisition of McCullough Industries completed in January 2019 is progressing well.
  • Management anticipates a relatively steady demand environment QoQ in Q2:19 with a slight uptick in Specialty volumes while the Carbon business will be flat.

 

Primary Risk

 

  • Client concentrations remain a key risk. A loss of a key client or a failure to renew a large contract could significantly impact financial results.

 

Banco Latinoamericano (BLX)

Price Target: $33.00

Percent Upside: 60%

 

Banco Latinoamericano de Comercio Exterior, S.A., a multinational bank, primarily engages in the financing of foreign trade in Latin America and the Caribbean. The company operates through two segments, Commercial and Treasury. It offers short and medium-term bilateral, structured and syndicated credits, and loan commitments; letter of credit contingencies, such as issued and confirmed letters of credit, and stand-by letters of credit; and guarantees covering commercial risk and other assets.

 

First quarter highlights include:

 

  • Bladex reported Profits of $21.2 million for the 1Q19, a 47% YoY increase, reflecting improved total revenues (+4% YoY), a 31% reduction in operating expenses and lower provisions for credit losses.
  • The Bank’s quarterly Profits were up from $20.7 million in 4Q18, a 2% QoQ improvement, on the absence of impairment losses on non-financial assets and lower operating expenses (-20% QoQ).
  • Net Interest Income (“NII”) increased to $28.0 million (+5% YoY; relatively stable QoQ) and Margins (“NIM”) of 1.74% (+6bps YoY; +13bps QoQ), on an improvement in net lending spreads and lesser low-yielding liquidity balances QoQ.
  • Fees and Commissions income totaled $2.4 million in 1Q19 (-23% YoY; -56% QoQ). The decrease in fees and commissions reflects a seasonally slower first quarter of the year, and the uneven nature of the loan syndication business.
  • Quarterly operating expenses were $9.9 million, a decrease of 31% YoY (1Q18 expenses were impacted by non-recurring charges). Expenses were 20% lower QoQ, benefitting from a first quarter seasonal effect. The Bank’s Efficiency Ratio improved to 30.8% in 1Q19, compared to 46.6% in 1Q18 and to 36.3% in 4Q18.

 

Primary Risk

 

  • The economy in Central America remains a key concern. Factors such as currency devaluation and government legitimacy are hard to predict and can adversely affect stocks located in the region.

 

Of course, consult your financial advisor before investing. Small & Micro cap stocks are more volatile and entail high risks.

 

We will be hosting these companies on our upcoming webcall on Thursday, May 30. To register for this webcall, please click here.

 

webcall intro report

*Time Period for Singular Research’s performance is from August 31, 2004 to December 31, 2018.

 

Commentary & Strategy by:
Robert Maltbie, CFA
President - Singular Research
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