Last Friday, I wrote that I wouldn’t be surprised if the S&P 600 Small Cap Index fell into a trading range in the 660 to 710 range (a roughly 7% range) for a while. That scenario looks like it began to play out this week as small caps danced around a bit, but were unchanged on the week. The index remains at 682.
I also stated that this is a scenario I’d like to see play out so small caps don’t burn out and get hit with a harder retreat after earnings season wraps up. So all in all, I’m pleased with the general direction of small caps over the past week. In our portfolio, seven of our 10 stocks were either up or flat, and we have a 118%, a 36% gain and a 25% gain in three positions. So all things considered, we’re doing OK.
As you know if you’ve been listening closely, I believe that for small caps to move higher, forward earnings forecasts need to move higher. That event would bring the forward price-to-earnings (P/E) ratio down, and imply that small caps trade at a more attractive value. Right now, small caps trade with a forward P/E of almost 18, which is a little on the high side.
As of last Friday (the most recent data read), 79% of small caps had reported, with 57% beating revenue expectations and 63% beating EPS expectations (53% of large caps beat on revenue and 74% beat on EPS). The percent of small cap companies raising guidance is high.
All of this is good news.
It means that after falling through the first four months of 2016 (almost to the level that forecasts a recession), forward estimates are now on the rise. Below is a handy chart, courtesy of Yardeni Research, that shows this. See how all the lines are starting to turn up at the end (on the right side)? Each of those lines shows the expected earnings for the S&P 600 in the respective year. As they go higher, the index’s P/E falls (provided the index remains unchanged, as it was this week).
Now that I’ve landed the plane, I hope this all makes sense. The bottom line is that things are looking OK. I’ll get updated data early next week, and will reevaluate at that point.
We had four companies report earnings this week and I’ve already updated you on three of them through Special Bulletins. A review of the fourth, as well as incremental updates on our other positions, is provided below.
Overall, my stance is still cautiously optimistic. Updates follow.
Updates
Blackbaud (BLKB) After two weeks of decline, shares moved 1% higher this week. There’s no new fundamental news to report, but management did release its investor conference schedule for the coming months:
May 12: Jefferies Technology Conference
May 26: B. Riley & Co. 17th Annual Investor Conference
June 1: Bank of America Merrill Lynch Global Technology Conference
June 8: Robert W. Baird & Co. Global Consumer, Technology & Services Conference
June 9: Citi Small & Mid Cap Conference
I still think a drop to the 56 to 57 range is possible. But the longer it holds around 60, the better the chances of a move higher to the 65 resistance area. I like it here, and think management’s upcoming road show will help reinvigorate the stock. BUY.
Earnings: DONE
eMagin (EMAN) The company reported after the close yesterday and results were better than expected, mainly because it booked $1 million from the licensing deal that it struck several months ago. That meant revenue grew by 16.9% to $7 million and EPS came in at $0.00, $0.04 ahead of expectations. It also meant that gross margin improved from 39% to 48% (it would have been 39% without the extra $1 million. Since there were no costs directly associated with that revenue, it was pure profit).
The company is working to consolidate some operational functions to improve profit margins, made progress on military contracts (as it said it would last quarter), and sounds very upbeat on opportunities in the Virtual Reality (VR) and Augmented Reality (AR) markets. One of its three new R&D projects (collectively worth over $800,000) is a new display for a consumer VR headset. And it is making progress developing higher resolution displays that address needs for both VR/AR and military markets. The 2,000 x 2,000 pixel full color display is still on track to be ready for testing in Q4. eMagin is working on two different versions: one for military and one for consumer.
The company says it’s continuing to work with potential manufacturing partners to make high volumes of displays, but nothing formal has been announced yet. Management says it’s very complex, which is probably an understatement. Overall, military business sounds good and there is a lot of interest in new products.
Management thinks revenue growth in this segment will pick up once it starts shipping products that are now in development, which implies later in 2016 and into 2017 provided things go well. In the consumer VR/AR market, it sees revenue potential in 2016. This would be a fairly big deal, though the amount of revenue is clearly important. Management is throwing out the carrot, and it’ll be interesting to see if any new investors bite. Right now, institutional ownership is only 8% of shares outstanding. There’s a lot of room for buying here. I think this report is good enough to hold the stock up, and might just be encouraging enough to get it back above 2—but it’s not yet enough to get me to change it to Buy. Keep holding. HOLD.
Earnings: DONE
LeMaitre Vascular (LMAT) Our first week with LeMaitre Vascular was fairly uninspiring as the stock drifted a few percentage points lower. That’s not altogether surprising given that health care stocks in general were down. Recall from my report that the company develops and sells a wide variety of medical devices for treating peripheral vascular disease. No new news to report. BUY.
Earnings: DONE
LogMeIn (LOGM) The company released an app for its join.me product for iOS, and plans to expand it to other mobile operation systems in the near future. It allows for video conferencing on a mobile device, which is a pretty cool concept. There is a free version supporting up to five attendees and the premium version. I think it’ll catch on. The stock is still moving sideways and is holding on to the earnings gap. BUY.
Earnings: DONE
Mitek Systems (MITK) The stock added 7% this week and the company released upgrades to its Mobile Verify product that allow a user to switch between a computer and a mobile device when filling out the necessary forms. This makes sense because a user may find it’s faster to type-fill forms via computer, but then use a mobile device to snap a picture of an ID to go along with the application. It’s an incremental improvement, and it adds depth to the product. Management will be presenting at the Needham Emerging Technology Conference on May 19, and at the B. Riley & Company 17th Annual Investor Conference on Wednesday, May 25. The stock is on a great run. Still a Hold. HOLD HALF.
Earnings: DONE
NanoString Technologies (NSTG)
As expected, the stock had a nasty day after announcing results that were far short of expectations on the equipment sales front. But the stock has held up nicely over the last four days, suggesting that investors aren’t walking away (they shouldn’t). As I wrote last week, the bottom line is that NanoString is making a lot of progress, especially in oncology. And it’s expecting 40% revenue growth this year, even factoring in some softness in instrument sales. There is a lot of potential for things to go better than expected, so provided the stock can hold up, we’ll sit pat. I’m not ready to move back to Buy yet though. Keeping at Hold until we get a better sense of the next direction. HOLD.
Earnings: DONE
PFSweb (PFSW)
The company reported earlier in the week and I sent out a Special Bulletin detailing the results. Nothing has changed since. Still a Buy. BUY.
Earnings: DONE
Primo Water (PRMW)
The company reported last Tuesday and had great follow-through this week, rising by 4%. I said last week that I’d be surprised if it moves above 13 within the next month, and that I thought a period of consolidation in the 11 to 13 range is coming. It’s at 11.84 right now. We’re up 36%. Still a Hold. HOLD.
Earnings: DONE
Q2 Holdings (QTWO) The company reported earlier in the week and I sent out a Special Bulletin detailing the results. Results were great, and the stock shot up afterward in action that had me thinking it would keep rising. It hasn’t—shares are just above their pre-announcement levels. I don’t have a specific reason that explains why just yet, but I do still like the stock. Keeping at Buy. BUY.
Earnings: DONE
USA Technologies (USAT)
The company reported yesterday and I sent out a Special Bulletin detailing the results, so nothing new to add today. I changed to Buy yesterday for small positions only. BUY.
Earnings: DONE
Please email me at tyler@cabot.net with any questions or comments about any of our stocks, or anything else on your mind.
Cabot Small-Cap Confidential Stocks and Closing Prices on May 12, 2016 at 4pm:
| Stock | Date Bought | Price Bought | Closing Price | Profit | Rating |
|---|---|---|---|---|---|
| Blackbaud (BLKB) | 11/6/15 | 62.18 | 59.85 | -4% | Buy |
| eMagin (EMAN) | 5/5/14 | 2.69 | 1.79 | -34% | Hold |
| LeMaitre Vascular (LMAT) | 5/6/16 | 15.99 | 15.50 | -3% | Buy |
| LogMeIn (LOGM) | 11/8/16 | 58.13 | 58.71 | 1% | Buy |
| Mitek Systems (MITK) | 2/4/13 | 3.93 | 8.56 | 118% | Hold Half |
| Nanostring Technologies (NSTG) | 8/7/15 | 15.40 | 14.27 | -7% | Hold |
| PFSweb (PFSW) | 12/4/15 | 12.59 | 13.53 | 7% | Buy |
| Primo Water (PRMW | 3/4/16 | 8.72 | 11.84 | 36% | Hold |
| Q2 Holdings (QTWO) | 4/1/16 | 23.81 | 23.50 | -1% | Buy |
| USA Technologies | 2/5/16 | 3.51 | 4.40 | 25% | Buy |