An overview of AltX performance from January to September 2011

• Year to date market capitalisation grew 45% to R14.7bn. This relates to a 49% year on year increase.
• Steady growth in average market capitalisation to R205m compared to R158m in March 2011 and R139m in September 2010.
• The AltX index outperformed all the major indices.
• Average value traded increased by 4.6% while the total value traded declined by 7% to R933m.
• Average volumes traded grew by 8% with the number of shares traded down 5.1%.
• As at 30 September, 70 companies were listed.

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Four companies had market capitalisations of over a billion and 39% of AltX stocks had market capitalisation above R100m. There were three new listings (Curro, Kibo, Blackstar SE)  and one delisting (Beget). Two companies moved to the Main Board (Morvest, Taste Holdings) and two transferred to AltX (Sable Holdings and Lonrho).

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AltX outperformed all major indices due to an exceptional second quarter rally sustained through the third quarter. Except for the All Share, most indices were down in Q1 but recovered in the second quarter.

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Five companies trade at more than 250c a share compared to four in 2010. In 2011, 93% of the companies were trading at less than 250c a share compared to 94% in 2010.



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Although showing higher volatility, the AltX index outperformed both the small cap and the fledgling indices. 

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Companies in the Financial, Industrial and Basic material sectors constitute 79% of the total market capitalisation.

Top ten AltX companies by market cap

*Recent listings. # Transfer to AltX

By Dr Adrian Saville,
Chief Investment Officer,
Cannon Asset Managers

Over the last 15 years, Cannon Asset Managers has been publishing the annual Diamonds & Dogs report, a research paper based on a live study that investigates the merits of deep value investing in South Africa.  A live study is not based on back tested or historical data, but rather operates real time in the real world.  Nearly three years ago, based on the substantial interest generated by this report, Cannon launched this ‘super deep value’ portfolio to external investors. 

There was good reason for this growing interest: over this period the portfolio has shown an annualised return of 21.4%, compared to the FTSE/JSE Small Cap Index’s gain of 16.3% per annum and the FTSE/JSE All Share Index’s annualized return of 15.5% (see the figure below).  Over time the compounding effect of this outperformance is quite spectacular. 

Cannon Super Deep Value Study Performance
(Jan 1996 – Dec 2010)

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Since launch, our clients’ Super Deep Value Portfolios have returned pleasing results, outperforming both the FTSE/JSE Small Cap Index and the FTSE/JSE All Share Index.  To the end of September 2011, the Cannon Super Deep Value Portfolio returned an annualized 24.2% since inception versus the FTSE/JSE Small Cap Index’s 22.1% and the FTSE/JSE All Share Index’s 20.8%. 

Lessons to be learnt

There are a few lessons to be learnt from the success of this investment strategy, both for investors as well as the companies that are included in the portfolio.  The first is valuation - buy compellingly-priced companies using old fashioned tools such as the trailing price-earnings ratio, dividend yield and price-to-book ratio. By implication, the portfolio is invested in companies that are profitable, pay higher-than-average dividends and have share prices that are backed by tangible assets.  Management of high quality firms should not be disheartened by periods of poor performance as the market ultimately does always acknowledge the quality of a firm in the share price. 

The second is size; over time smaller firms outperform larger firms.  The portfolio tends to have a much larger exposure to small- and micro-cap stocks, where we see the best opportunities for investors.  A case in point is the construction and mining solutions provider, ELB Group.  ELB is currently priced on exceptionally attractive multiples due to its affinity with the construction sector, however, over the past year it has grown its HEPS by 37%.  ELB’s current market cap is R700m, it has little to no long-term debt, and cash on the balance sheet sits at R600m, yet the company is largely ignored currently by both institutional and private investors. 

The third is that the best returns are to be had in the under-researched, under-owned, unloved and out-of-favour companies in which negative sentiment is high, but misplaced.  Fundamentals drive share prices in the long term, and quality firms are always ultimately rewarded.  And lastly, volatility creates opportunities as mispricing is most likely when shares get emotionally rather than rationally priced. 

By Michel Pireu, small-cap investor

Small-caps are not for 'serious' investors

Charlie Munger of Berkshire Hathaway fame had this to say when asked how to get into great companies: “One method is what I'd call the method of finding them small, get 'em when they're little. For example, buy Wal-Mart when Sam Walton first goes public … it's a very beguiling idea. It doesn't work for Berkshire anymore because we've got too much money … but I regard finding them small as a perfectly intelligent approach for somebody to try with discipline.”

Munger is not alone is his thinking. Andrew Carnegie, John Templeton and Peter Lynch who all kick-started their careers with an investment in a small company, remained life long advocates of small cap investing. Numerous books and research papers, by respected authorities, have punted its merits.

Local investment guru, Franco Busetti, for example, dedicates several pages of his book, The Effective Investor, to the subject before saying, “Small stocks have generally outperformed large stocks over the long term, although the size of this performance has varied unpredictably ... they have nevertheless produced higher returns per unit of risk.”

Small-caps are not for 'older' investor

This is an over-simplified take on the risk-reward relationship. The implied assumption being that small-caps involve a greater risk than other equity classes and the older investor has less time to recover from a resultant loss than a younger investor.

Is it fair to say that small-caps are riskier than, say, blue-chips as an investment class? No doubt about it. Even the SEC warns that, "Investors in penny stocks should be prepared for the possibility that they may lose their whole investment." But that doesn’t mean that all blue-chips are safer than small-caps. Or that all small-caps are riskier than blue-chips. Some small-caps are fiscally sound companies that have been wounded by unfortunate events. Others have yet to be discovered. Besides, the recent price performance of the likes of Highveld Steel, Murray & Roberts, Northam, Lonmin, PPC and Implats suggests that any correlation between bigger-size/higher-price and lower-risk is not that reliable. Andersen Consulting and Lehman Brothers were blue-chips at one time. Microsoft saw the loss of two-thirds of its value within the space of a year. Blue-chips can be plenty dangerous too.

Unfortunately, the investor that denies himself the opportunity to invest in small-caps, in the belief that he’s too old to do so, also denies himself the opportunity for higher returns. And, ironically, the better long-term performance he is trying to secure.

There are two other implied assumptions that don’t necessarily hold water in the “too old to take the risk” argument: The one is that the immediate impact of a loss is of less consequence than the long term effect; the other, is that time is the most important factor when looking to recoup a loss from the market. But who says that the older investor, with fewer financial commitments, is not better able, at least in the short-term, to take a loss and, with greater disposal income, to recover from it that much more quickly and with less pain?

Some AltX companies appear to be staging something of a recovery. Here are two examples. One of the companies is the top performing share on the JSE this year!

Ben Pierre Malherbe,
Calgro, CEO

Calgro M3 reported stellar interim results to 31 August 2011.

Highlights

• Operating profit up 185% off revenue growth of 117%
• Headline earnings per share up 372% to 17.03cps
• Net cash and cash equivalents grew 92% to R21m
• Reported pipeline of projects in excess of R5bn.
• Share price up 280% year to date and is currently the top performing counter on the JSE this year.

Calgro’s CEO, Ben Pierre Malherbe, said the growth was directly attributable to the pipeline of projects translating into profits. “Calgro  M3 has weathered some difficult years in anticipation of our pipeline starting to roll out. With half of our secured projects under way and the balance to commence in the next few years, we are optimistic of continued controlled growth provided we maintain our prudent approach to cost and cash management and our accurate targeting of growth sectors within the housing market.”

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Graeme Smart
O-Line Group, CEO

O-Line also reported impressive results for the year ended 30 June 2011.

Highlights

• Revenue grew by 21.6% y/y and operating profit up 20%.
• Headline earnings up 87.5%
• Declared a dividend of 5cps compared to 2cps in 2010.

Management gave attention to re-engineering the business, streamlining its manufacturing processes and pushing aggressively into new markets in Africa and abroad in the prior year.

Says Group CEO, Graeme Smart, “The investment we have made in new plant and equipment and rationalising our manufacturing processes over the past two years are now beginning to pay off.”

Smart says he is extremely pleased with the company’s results. He says during the year management focused on improving productivity and streamlining business processes as well as extracting synergies from the recently acquired galvanizing business.

Going forward, Smart says prospects for the company are promising – despite rising labour and electricity costs which have risen out of proportion with inflation. 

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Blackstar Group SE "BCK"

Blackstar Founder and CEO Andrew Bonamour and William Marshall-Smith, Director

12 August: AIM-listed Blackstar Group SE is an investment company, which gains exposure to the growth on the African continent largely though companies in South Africa. Blackstar was incorporated in England and Wales and is listed on AIM, operated by the London Stock Exchange. Blackstar targets listed and unlisted investment opportunities and it plays an active role and provides advice to management teams which leverage off Blackstar's financial and business experience and network to enhance value. Blackstar has developed a long term track record of outperformance and has an experienced management team based in Johannesburg.

Market cap and closing price:  Blackstar Group SE market capitalisation on listing was R 812,798,661.66 and the closing price on listing day was 953c.

DA:  PSG Capital

The Alternative is a newsletter intended as an overview of the latest developments taking place on AltX.

We look forward to hearing what you think. Write to thealternative@jse.co.za or call 011 728 5004.  

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