Cashing in on Small-Caps

Wednesday, December 9th, 2009

In the depths of the Global Financial Crisis some of the most beaten up stocks were the financials at the smaller end of town. By no fault of their own, some of these companies traded down to levels where the market clearly questioned their solvency.

As a result in the recovery, some of these stocks have been amongst the best performing on the ASX. This performance has been due to a whole host of reasons, which include:

  1. simply riding out the storm and proving the business model is sustainable through the cycle
  2. completing a successful turnaround after all seemed lost
  3. showing that it is possible to cash in from difficult economic conditions.

We examine five small-cap financial stocks, which have been amongst the year’s best performers and look at the reasons for their outperformance.

Customers Limited (ASX:CUS)

Year to date Return: 188%

Customers Limited is the ultimate turnaround story. It began life as a rollup of several ATM operators designed to take advantage of a foreseen change in regulation – the move to direct charging. This change in regulation enabled ATM operators as opposed to the banks to collect the ATM fee that users paid to use the machine.

Early life for CUS was not easy as the move to direct charging was delayed a number of times. In the attempt to make CUS a profitable and growing company, management took on a large chunk of debt and expanded into China through an acquisition. This turned out to be a disastrous move and in mid 2008 the company stood on the brink of collapse. New management was introduced (including Managing Director, Tim Wildash whom founded ATM solutions which formed a large part of CUS network) and they went about rescuing the business. The Chinese acquisition was sold off at a substantial loss and the company talked to its banks and negotiated extensions of their debt. Finally, with all the pieces in place, direct charging became effective in March this year.

CUS can now look forward to a profitable and productive future. It reported its first profit in FY09 and the growth in FY10 should be substantial. The Return on Equity (ROE) for the company from FY10 beyond should be well above current levels, we have forecasted 18%. With a required return of 13.5% we arrive at a valuation of $2.18.

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