Telit Communications TCM buy Rationale

PLEASE NOTE THIS IS NOT A TIP. I AM MERELY OUTLINING WHY I BOUGHT TCM

Those of you Following WheelieDealer on Twitter and/or reading my Twitter Feed on the website homepage, will be aware that I bought some Telit Communications (epic code TCM) earlier this morning, at 230p.

I have been ‘in’ TCM for about 18 months and bought my first chunk at about 86p - something I have learnt from following the Legendary Robbie Burns (Naked Trader) is not to be scared about buying more of a stock even after a good rise. Simply put, if it is still a great company and you can see value in it, then buy.

I bought another load at 115p about 6 months after my first buy and I Top sliced at the start of April 2014 at 240p ish to bank a gain of 108% - this was mainly as we were coming towards Summer and it is good practice to Sell some stuff to reduce Long Exposure for the summer months. I obviously played this one quite well as they peaked at 280p in mid September 2014 - but because I had top sliced, I was still in the game nicely.

In the recent General Market Selloff, TCM dropped down to about 200p - it really hurts to see such a drop and your profits being eroded but I really have huge faith in this company for the reasons I outline below, and I was happy to stick with it. In fact, I was looking closely at the charts and timing indicators I use like Candlestick Patterns, RSI (Relative Strength Index), MACD (Moving Average Convergence Divergence), and Bollinger Bands; in order to buy more and topup my existing position.

Right, enough of that, let’s get down to business. Why do I like TCM so much?

Business Overview
One of my favourite factors for buying any stock is a company that operates in a generally growing Market Sector or Technology / Industry Trend. If a company has the tailwind of a growing Market for its products, then obviously it is easier for it to trade successfully and grow, rather than a shrinking market like Newspapers in Digital Age.

TCM is a superb way of getting exposure to ‘The Internet of Things’ in my view. What is the IOT I hear you ask? Well, I answer, you know how the Internet (World Wide Web or, as Gordon Brown calls it, the Interweb or Websphere) is essentially billions of people communicating with each other, well, the IOT is a future world where machines talk to one another (ok, we are getting a bit Terminator here - very scary).

Imagine sitting in a Driverless car bombing down the M4 (it’s late at night, no cars, come on, use your imagination) - all the time your car is ‘talking’ to other cars, to road signs, to traffic monitoring sensors, to bridge mounted cameras, to the RAC and AA, to mapping systems etc etc. This is the IOT and can be applied to all sorts of stuff like Vending Machines which tell the Supply Lorry to nip out and deliver some more Mars Bars as the machine is empty.

In my view, IOT will be utterly mind blowing in 20 years and we have probably not even seen less than 0.5% of what will come.

As far as I understand, and it is pretty complex, TCM makes Chip Modules which can be shoved into various machines to enable communication with other machines. They also have a fairly new offering called m2mAIR which is an easy way for machine creators to integrate with Mobile Networks - the growth rates on m2mAIR are stellar (181% in recent update). They have a couple of other offerings in Telecomms networks and Apps but I don’t really understand it.

Valuation
In terms of valuation, TCM is on a forward p/e for 2015 of 15 based on my buy price of 230p and forecast earnings per share of 15.39p (230 / 15.39 = 15). This is not all that cheap (I see cheap as p/e below 10) but for a high growth business in a mega hot sector, it is not bad value.

Profits are expected to grow between 2015 and 2016 at about 50% (2015 eps forecast 15.39p, 2016 eps forecast 23.39p - all figures from ShareScope).

So, in PEG terms (Price Earnings Ratio divided by % growth rate) it is about 0.3 (15 / 50 = 0.3) - that is mentally cheap. A PEG ratio below 1.0 is usually seen as cheap and 0.3 is at the extreme low end.

There is no dividend which is fair enough as this is a business in Rapid Growth Mode and its resources are better used to fund growth rather than give me cash.

Target
For the growth on offer, I think a p/e ratio of 20 could easily be justified - in fact, I suspect it might go much higher - maybe to a p/e of 30 - other stocks in the tech area do hit these lofty heights.

If we take the 2016 eps forecast of 23.39p and stick it on a p/e of 20, we get 467p (23.39p x 20). Being conservative at this point in time, I therefore think 450p is a sensible target and I have put that in the Trades List elsewhere on this website.

Right, how about if a p/e of 30 was hit? This would mean 700p ish - so there is obviously plenty to aim at. This is a bit far fetched maybe, but look at it in PEG terms and you get 0.6 (p/e 30 / 50%) - still very cheap.

Risks
The biggest risk here is that growth forecasts are not met. But in my experience of TCM, they have been pretty good so far at meeting or beating expectations - and the sector is red hot so there is a fair chance they can do it. Taking a negative view, say they miss on earnings - this would mean the share price falling back, expectations being reset and probably the company recovering over time. Obviously if growth falls off dramatically then the company could be in some trouble and all bets would be off. However, this is a risk we run with any stock we invest in and not a fair reason to discard TCM.

Another risk is technological change - a big challenge to Tech stocks is that even if they have a brilliant product one minute, the next minute some other company has brought out something better and their market disappears. I don’t foresee any great issues here for TCM - in fact, if anything, their m2mAIR product is killing their competitors off.

This next risk is a little weird - it is the risk that they will get taken over before I get the full value. Obviously I will most likely be leaping for joy if a bid was to happen, but the danger is that they get bought out by a big US Tech Company at perhaps 400p, and I miss out on the truly awesome gains that I think are possible here. It happens.

TCM is an Israeli company - this puts many investors off - but not me. You may have seen from my WheelieBin list that I have a dislike of many territories like China, Malaysia, Russia etc. but I have no reason to put Israel in that list. For starters my Israeli based Plus500 (PLUS) seems to be going great and several years ago I made a nice pile on Dmatek DTK when it got taken over. Israel is very good at Tech.

Debt
TCM had $14.6m of debt as at 30/06/2014 - this is approx £9m. On forecast profits of £14m for 2014 and £20m for 2015, I see no great issues here. The conversion of earnings to cash looks ok to me. Generally, I like to see debt at a maximum of 3 times yearly earnings - this is not even one times current year earnings forecasts. The current debt level stems largely from acquisitions also.

Technicals
Not much to say, lovely long term uptrend. Seems to have had a pullback wave in recent weeks but looks to be turning up again - that is why I bought. MACD looks about to cross over to the upside and RSI is coming up off the floor around 30. Nice doji candle put in on Thursday 16th October and the Change of Trend was confirmed by strong up days (white candles) since.

My general approach, which you will no doubt get sick of me reiterating, is that I use Company Fundamentals to identify stocks to buy and I use Technicals to help with my Entries and Exits. It amazes me how few people use these great tools in combination - many Fundamentalists would not dream of looking at chart issues and vice versa.

Oozi buys
OK, I saved the best til last - delayed gratification.
The biggest single driver for me to buy more TCM arises from the bizarrely named CEO, Oozi Cats, purchasing an unbelievable amount of shares back on 29th May 2014 where he spent about £15m - and to add significance to this purchase, he borrowed money to do it. That is one hell of a sign of Director Commitment. You won’t be seeing that at QPP !!!

In addition, when he did the buy, Oozi appeared on Bloomberg TV in the morning and was extolling the virtues of TCM - the bit that stuck in my mind was he said “I foresee this being a $1bn company”……now, I am not sure if he meant revenue or Market Capitalisation, but it is a bold claim however you look at it. Revenues are currently about £187m (on 2014 Current Year forecasts) and the Market Cap is £258m - so even with the dollar conversion, you are talking at least a doubling of the stock……

Oozi also discussed a Nasdaq listing - if this happens, a p/e of 30 is surprisingly possible.

Phew, I can’t believe I wrote so much - sorry. My intention is to do brief updates on my Trades Rationale but as I get into it I find I write more. Anyway, it is great for me as it makes me think about what I am doing with my trading - in fact, I recommend that whenever you buy a share you should think about at least writing down several sentences as to why you bought the stock and a target is always a good idea.

So, as you can see, I like the look of TCM - don’t get me wrong however, this is VERY HIGH RISK and I have only got about 1.5% of my total portfolio in it. I will address Position Sizes in a future blog no doubt……….ciao.