Align Research Top 10 Picks for 2019

January 3, 2019 | Posted by

To say that 2018 was a “trying” year is somewhat of an understatement. For many small and micro cap stocks, particularly the capital hungry ones and those where delivery by management of market expectations was non-existent or lacking, this resulted in almost decimatory declines for existing shareholders. The table below of the wipeouts suffered by some of AIM’s smaller companies provides for sobering reading. Much of the carnage has been concentrated in the resources sector. It seems that we are in the midst of the “great cleansing” in this area of the market as capital has become ever harder to come by. Lesson here is that going forward investors will need to be even more discerning.

The singularly worst example that we were personally caught up in was the Widecells debacle – it in fact still amazes us how Joao Andrade is allowed to be CEO of a UK listed company given the misrepresentations he made as to the company’s financial state to the wider market.

Looking back at our calls from the beginning of 2017 (HERE), in most instances investors were able to bank returns running to 100% or more before many succumbed to the wider market decline. Lesson here – always take the opportunity to de-risk when it is presented. All the most successful investors know that capital preservation is key in the investing/trading game. Yes, you will not reap the full reward if one happens upon an Asos or Next but these are literally one in thousands and so the risk relative to reward does not make sense. A rule of thumb we use is that once we have achieved a return of 50-100% on our position we look to take off at least 50% of our original stake. There are so many forces at play including market maker games, risks of future placings, distressed sellers, out of the blue news etc that any other approach is simply not sensible.

So, at the time of writing and with global markets going through a slow and seemingly incessant crash we present in conviction order this year’s top 10 picks with our succinct reasoning reflecting current market and company specific issues below. In each case full notes can be found on our Report Library page (except Acasti Pharma where there is indepth commentary in the Blog section under the company’s tab).

1. Wishbone Gold – current price 0.14p

We have gotten rather excited by Wishbone Gold (WSBN) in recent weeks following the balance sheet recapitalisation and the long awaited Honduras licensing deal. See HERE for our full commentary in relation to this.

At the current market cap of £2.5m the hangover from the RiverFort death spiral financing that decimated the stock price during 2017 and 2018 continues to cast a pall over the shares in our opinion. This of course provides opportunity for buyers and we suspect that WSBN will prove to be one of the key performers in our portfolio during 2019. Sentiment is now turning in favour of gold and after 5 years of underperformance. WSBN provides for a much smarter way to gain exposure to this cycle upswing.

With Richard Poulden holding a material stake in the company he has every incentive to take what is at present a de facto shell valuation into a proper company. Discussions with him in recent weeks lead us to believe that he is laser focused in delivering transformative returns here for shareholders over the next few years and, at the current price of 0.14p, we remain active buyers and are fully on board on this story. Per our full note HERE our first target is 0.589p but subject to delivery this year we believe the story can run much further. Buy.

To conclude, from experience it is precisely from these deep, dark market environments that we are, sadly, presently immersed in, that the most explosive stock returns are germinated. The reason is simple – the pendulum between greed and fear gets stretched too far and the snap back is violent. We have thus attempted here to pick the 10 small cap stocks that we cover from a research perspective that we feel offer the most upside to investors as this deep small cap bear market plays out its final act. We are positioned accordingly.

2. Pathfinder Minerals – current price 1p

We are yet to release our full note on Pathfinder Minerals but, as per the holding RNS HERE that takes us to the number one shareholder position, it is clear for all to see the conviction that we have in (a) a resolution to the impasse with General Veloso and his partner in Mozambique in the near term over the disputed licences and (b) the inherent value in the underlying asset. Based upon the RNS from the company on the 23rd October in which they confirmed renewed dialogue with the “relevant parties” we are optimistic that an update will be given to shareholders sooner rather than later given the passage of near 3 months time now.

For further details on what we believe is on offer from an equity upside basis see HERE. At the current market cap of @ £2.5m the stock remains valued as a shell with zero licence resolution expectation in the price. We also remind readers that the company was valued at approx £80m when they held the licences – and against a less positive heavy minerals sands background than we see now.

Should the Board of PFP announce a deal we would not be surprised to see a doubling or trebling of the stock price on such news given the current de minimis market cap. PFP remains one of our largest holdings and we have learnt over the years that truly portfolio changing opportunities are very, very rare. The shares, to us and as evidenced by our hard cash commitment, offer up such a potentially transformative profile with a very attractive asymmetric risk/reward structure. Accordingly, we remain resolutely long and look forward to 2019 unfolding in regards to news here and the journey back to hoped for serious value realisation for all shareholders by the new Board.

3. Gaming Realms – current price 4.2p

GMR’s inclusion in the list is also pretty simple. Essentially, as a consequence of a persistent (and forced we understand) seller, the shares are now trading at a price that is less than the maximum cash payout potentially on the horizon in 2019 from the River Casino deal (selling the UK B2C gaming division – see full details HERE). The deal provides for upto a further £18.9m in cash to be paid to Gaming Realms depending on EBITDA levels and yet the current market cap is just a shade over £12m. These opportunities are also very rare and to that end we have been active buyers sub 5p in recent weeks.

As per our full note HERE we see material growth in the very high margin licensing division and also a return to growth in the Real Money gaming division in 2020/21 as the now sold B2C division impacts drop out. The key value underpinning that has driven our recent buying is this bald assumption – we are looking for total cash (including overdraft) to rise to approx £8.22 million by the end of 2021 and this excludes any funds due from River UK Casino. What this means to us is that the licensing division and the balance Real Money gaming divisions are likely to be in for free on an 18 month view. If our forecasts are met the stock is trading on an EV:EBITDA multiple of less than 1.5 times for 2021. This will not escape the company’s peers and we believe that Jackpot Joy with whom management have a friendly relationship and where there is a 10 year commercial services agreement are front of office as a potential acquiror.

At the current stock price of 4.2p we simply believe that the market is 100% wrong on this. There are no balance sheet issues, the Licensing division continues to sign up new deals, there is a large cash payment on the horizon and the company looks to be a sitting duck from a takeover perspective. The downside given the balance River Casino cash payment due in August 2019 looks to us to be non-existent. Buy.

4. Oilex – current price 0.34p

Oilex was one of our better picks last year with regards to maintaining price appreciation. We have full confidence in management here and have called the stock to a tee in recent months post the High Court of Gujarat ruling on the 5th November. Essentially, following the court ruling, GSPC were compelled to submit to arbitration but in recent weeks the company has confirmed that they are in discussions with GSPC in regards to a more speedy and amicable solution. Put simply, we are confident that this is what will ultimately occur and likely in early 2019.

We covered a couple of scenarios per HERE and revisit the likely scenario where Oilex agree a resolution with GSPC and a new partner is brought in resulting in a farm down to 30% of Cambay on Oilex’s part – a scenario that is resolutely in all parties interests. Should this occur, on a fully diluted basis, this equates to just over 0.9p per share using a conservative discount rate of 12%. Should the standard 10% discount rate be applied, this results in circa 1p per share.

Again, with the soured current oil market backdrop dragging the stock lower, at the current price of 0.34p (which is a discount to the placing carried out at 0.36p only 2 weeks ago), we believe there is no positive resolution expectation at all currently in the stock price. The stock can be volatile and move 50-100% in a day and as investors have seen, buying the shares on a blue day on news is exceptionally difficult. For those investors who, like us, believe a resolution with GSPC is now imminent, the present price has provided for an exceptional re-entry/addition opportunity. We remain long of the stock and look forward with a high degree of optimism to an update regarding the alternate settlement negotiations in the near term.

5. Acasti Pharmaceuticals – current price 69c (US)

Acasti Pharma is a Canadian based and dual US listed pharmaceuticals minnow that is looking to bring their key CaPre product to market for the treatment of high cholesterol in 2020 that uses a proprietary krill oil mix. See tab HERE for background. The value proposition here is also very simple – at the current market cap of US$54m, the shares trade at a nominal premium to net cash following the raisings carried out in November 2018 and thus there is zero premium/expectation whatsoever in the stock for a successful outcome to the trials. The company is now fully funded for the all important Phase III trials of CaPre and as per the news release of 20 Dec, Acasti has now completed the enrolment of 1450 patients for this final hurdle before commercial launch (see HERE).

Results from the Phase III trials are expected before the end of 2019 and we would also anticipate news on potential licensing deals as flagged by management in recent months as 2019 unfolds. The latter would provide a fillip to the stock price if announced and we note that the last deal announcement with the Chinese market in November 2017 near trebled the stock on the day.

The opportunity is this – as was acutely illustrated with the move in the shares of competitor Amarin (AMRN) in late September this year that took the stock from just under $3 to near $24 in weeks when they announced the results of their Reduce-IT trials (see HERE), should Acasti prove up that their CaPre product is indeed best in class the equity returns would be multi-fold and a takeout/large licensing deals most likely would follow swiftly thereof. A number of fund managers are on record stating that they believe Acasti is a potential billion dollar company. With the stock now being fully funded through Phase III (and so the potential drag of a new cap raising not being in the mix), we can see natural speculation on the results and licensing deals taking the stock up materially from here and potentially providing life changing returns for large holders in the event of Phase III being a success. This is also one of our top 5 holdings within our portfolio and we have been active buyers in recent weeks. Buy.

6. Karoo Energy – current price 1.2p

We expect Karoo (KEP) to finally move from the Nex market to AIM in the first few weeks of 2019. A full update note will be released post this move but for the moment, on the assumption of the company being fully funded for the 2019/2020 drill program in Botswana the likely listing valuation we believe bears no relation to reality should the shale gas drill results prove to be positive. Relative valuations to Tlou Energy and Real Energy in Australia indicate between 8 & 10 times upside based on the current market cap.

7. Powerhouse Energy – current price 0.5p

News on the 26th November from Powerhouse in relation to commercial discussions with Japan’s Toyota Tsusho Corp regarding the company’s proprietary DMG technology provided a much needed shot in the arm for the stock price following many months of declines. Coming on top of news that CEO Keith Allaun had invested £100,000 of his own funds into the stock at 0.6p just weeks before, this provided for a decent re-rating in the shares as investors realised the potential upside if the “advanced commercial discussions” come to a fruitful conclusion. We remind investors of the comment by Mr. Takashi Torigoe – “We have been reviewing Power House Energy’s DMG technology over the last few months and take great interest in it. We are excited and looking forward to a potential partnership in Japan and possibly worldwide.”

As Keith Allaun relayed in our podcast (listen in full HERE) the implications are, in his description, “game-changing” for Powerhouse. We remind readers that as per our prior commentary, indicative gate fees (which Powerhouse will receive for taking in waste) for unrecyclable plastics alone are over £200 a tonne in Japan (compared to around £90 in the UK), with private wire prices c.£100 per MW/h. Given a 20% royalty fee on a PHE system using 25 tonnes of plastic a day it is estimated that PowerHouse could generate a minimum of £0.68 million of revenues p.a. from each DMG® Unit as the technology provider.

As the stock has rewound back to the just completed placing price of 0.5p it seems that market has forgotten the commentary in our full note HERE that the Company is in late stage discussions with 6 additional potential customers over and above Toyota for their DMG® System. We also expect news in the near term as to an update on developments with Toyota Tsusho and, importantly, post the placing, do not anticipate any new capital raising on the horizon. We also suspect that should the negotiations with Toyota ultimately conclude in a deal that there will be a large upfront cash element in this and so addressing any further balance sheet concerns.

Reiterating the observations from our DCF based valuation which uses a very heavy 20% discount rate, this produces an NPV(20) of £47.4 million, or 2.45p per share. At 0.5p we believe the market has thus provided a very attractive risk/reward re-entry opportunity to position for news regarding the multitude potential customers. Buy.

8. Emmerson – current price 2.25p

Emmerson (EML) is a Moroccan focused potash company where we believe that its Khemisset Potash Project is one of the lowest capex and high margin assets on the stock market today. Management are rated highly and with the key Scoping Study having just been released validating the metrics of the project, we suspect that the price weakness that has taken the stock down from near 5p to just over 2p in the last several weeks provides a cracking buying opportunity.

The stock was re-admitted to the stock market in June of this year with @ £6m being raised at 3p per share. The current price thus provides an opportunity to enter at a discount to this but with much in the way of positivity being achieved over the last 6 months. See our full note HERE in our assumptions in deriving what we believe to be a conservative price target over 6 times the current stock price. Buy.

9. Tek Capital – current price 4.8p

We provided a recent full update on Tek Capital per HERE on 3 October 2018. Our stance here is pretty simple – with a market cap of just over £2.5m set against a stated NAV of @ £8.6m this disjoint is too large.  Each of the constituent business offer real growth potential but the real “jewel in the crown” to us is Belluscura the medical devices business. The key product within Belluscura is CURV™ – a portable oxygen concentrator (POC) and where the market is expected to nearly double to $2.2bn in the next 2 years. The company’s prototype POC is quiet unlike its competitors and once developed is expected to be also lower cost than the competition. Belluscura plans to file a 510(K) imminently and we expect this to be a catalyst to a re-rating by the market as the commercial implications thereof become apparent. We would not be surprised at some point during 2019 if Belluscura receives investment that values Tek’s 29% stake at a premium to the total current market capitalisation and a wholesale exit be on the horizon as market traction is gained into 2020 for CURV. Such an exit could be multiples of the current TEK stock price.

The other key business within Tek’s portfolio that we really like is Salarius the low sodium salt product (Microsalt) – the market opportunities her really are material with the Salarius product boasting c.67% less sodium by weight than standard table salt due to its smaller size and claiming to be the world’s smallest salt crystal. The product meets a growing need for the reduction of sodium in salt containing products, driven by negative health effects that excess sodium consumption can cause. Salarius is currently looking to out license its patented product and news here could also be a value driver for the stock. Further, based on the most recent investment into Salarius, fully in excess of 3p of the current stock price is accounted for by this business alone.

At a price of 4.9p and trading at a significant discount to peers Allied Minds and IP Group, the shares currently offer a very deep discount to NAV with, importantly, management holding a large stake and so focused and incentivised to crystallise value within the portfolio. The shares can be purchased at a further discount to the recent placing at 7p and we expect to see a doubling and beyond in the stock price as value catalysts occur in 2019. Buy.

10. Minoan Group – current price 2.5p

With respect to Minoan Group (MIN) we have not commented further on the stock in recent months post our initiation note as the long awaited resolution to the Travel Sale played out on rather less advantageous terms than management originally envisaged. However, post a management update we believe that as per the RNS released HERE and the most latest one of 21 Dec per HERE that progress on the Cava Sidero site is beginning to gather momentum. The personal investment of £100,000 by the BoD at 2.5p sends a signal to the wider market ref their confidence in concluding these talks.

We have reworked the note per HERE to reflect the new share count and the situation post the Travel division sale and see upside towards 8.6p per share. At 2.5p and with the balance sheet fully funded for several months, from what we can see the stock provides a renewed very attractive entry point pending newsflow. Downside we believe is minimal whilst upside could be many times the current stock price. BUY.

CLEAR DISCLOSURE – Align Research Limited & a Director of Align hold interests in all the companies mentioned in this piece and are bound to Align Research’s company dealing policy ensuring open and adequate disclosure. Full details can be found on our website here (“Legals”). 

This is a marketing communication and cannot be considered independent research. Nothing in this report should be construed as advice, an offer, or the solicitation of an offer to buy or sell securities by us. As we have no knowledge of your individual situation and circumstances the investment(s) covered may not be suitable for you. You should not make any investment decision without consulting a fully qualified financial advisor.

Your capital is at risk by investing in securities and the income from them may fluctuate. Past performance is not necessarily a guide to future performance and forecasts are not a reliable indicator of future results. The marketability of some of the companies we cover is limited and you may have difficulty buying or selling in volume. Additionally, given the smaller capitalisation bias of our coverage, the companies we cover should be considered as high risk.

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