Blooming Small-Cap IPOs

By Linda McDonough

Lilacs and forsythia aren’t the only things blooming this May.  Young companies eager for cash are budding all over.  Although only three deals have priced so far this month, at least another 16 are waiting in the wings.  If all these deals are priced, May would record the highest number of deals so far this year.

It should be no surprise to anyone watching the stock market that the bulk of these deals are biotechs. These tender-footed labs are no fools.  Hungry for the cash devoured by their research and development budgets, they are eager to rake in the riches being awarded most biotech companies.  Twenty of the 62 IPOs priced to date have been biotechs.

Starting the craze: Spark Therapeutics (Nasdaq: ONCE) launched a January IPO that opened up 96% from its deal price and traded as high as $77 this year before retreating to $60, a level still 160% higher than the $23 offering price.  Eager buyers sent many biotech IPOs skyrocketing after pricing, some doubling within days.

A puncture to the group in April has deflated many of those gains but the group overall is still up since pricing. The class of 2015 biotech IPOs are up an average of 6% from their deal price.

Collegium Pharmaceutical (Nasdaq: COLL), based in Canton, Mass., started trading on May 7th and looks quite interesting.  Unlike all the other biotechs in queue, Collegium has a product submitted to the FDA. In February it filed a new drug application (NDA) for an abuse-deterrent, extended-release version of oxycodone. Collegium has done head-to-head trials with Oxycontin OP, the abuse-deterrent version of oxycodone currently on the market, and shown it was more effective.

Oxycontin OP currently has sales of $2.5 billion in the U.S.  Collegium’s DETERx technology can be used on other potentially abusable painkillers as well.  Collegium has a market cap of $250 million.

Bojangles (Nasdaq: BOJA), a restaurant chain famous for their Cajun fried chicken and buttermilk biscuits, made its market debut on May 8th.  Investors have been starry eyed for high growth restaurant stocks recently.  For example, Shake Shack (NYSE: SHAK) trades at $66, an outrageous valuation based on the 5 cents it is expected to earn this year and the 9 cents anticipated in 2016.  Zoe’s Kitchen (NYSE: ZOES) has been described as a Mediterranean version of Chipotle Mexican Grill.  Although officially “cheaper” than Shake Shack, Zoe’s trades at 640 times 2015 estimates and despite tripling earnings in 2016, still trades at 200 times that number!  Clearly investors are willing to pay up for growth.

With such a broad umbrella for valuation, Bojangles should have no problem finding buyers of its stock. Bojangles has put up some impressive growth despite its fairly large base of 635 stores.  Store growth has been compounding at 7% for the past 5 years but revenue is growing faster at 13% as units generate higher sales.  Operating income has been growing roughly 15% and the company disclosed preliminary results for the March quarter which showcases 18% growth in operating income.  

With an average check of $6.68, Bojangles believes they deliver the lowest tab to fast food diners nationwide.  Low prices and terrific value helped keep customers loyal during the recession. Same store comparable sales have increased every single quarter since June 2010.  Earnings per share increased only slightly in 2014 due to an increased higher tax rate.  However based on the 18% growth seen in the first quarter of this year it’s quite possible that earnings follow that trajectory for the entire year.

Bojangles has an $865 million market cap and and trades for 24 times 2014 earnings.  Formal estimates for 2015 will not be released until the company’s quiet period ends but should mirror the 18% growth seen in the first quarter and leave plenty of upside for this stock.  

Another notable deal set to price the week of May 11th is Arcadia Biosciences (Nasdaq: RKDA).  Arcadia develops genetically modified food traits for crops. Although competition is fierce from Monsanto and Syngenta, Arcadia is focusing on the niche of nitrogen efficiency and drought tolerance.  The company is losing money currently with little revenue growth. However progress in developing and proving more seed traits which should result in higher sales.  Arcadia’s market cap will be $530 million at $14, the middle of its $13-$15 pricing range.

Around the Roadrunner Portfolios

VCA Inc. (Nasdaq: WOOF) shareholders are certainly wagging their tails.  The veterinary hospital operator continues to impress investors with its consistent earnings growth. After growing earnings 12% for the year ended 2014, management has predicted an increase of 17% in 2015.  VCA’s hybrid model of core growth plus acquisitions is working nicely.

The company’s animal hospital business, which accounts for more than three quarters of revenue and 56% of earnings is gaining steam.  After increasing 7% in 2014, revenue from this division leapt 12% in the first quarter of 2015. As predicted, humans continue to care for their pets like children.  Pet owners religiously bring in pets for annual check ups and often spend thousands of dollars on treatments for medical issues that are now readily diagnosed with improved lab testing.

VCA has been a howling success for Roadrunner Stocks, with the stock up 49% since our April 2014 recommendation.  It trades at 22 times forward earnings, a reasonable level considering its increasing rate of earnings growth.

Hill-Rom Holdings (NYSE: HRC) continues to be a healthy investment.  Our initial recommendation of this stock in September 2013 was based on continued strong hospital spending.  The company’s June 2014 acquisition of Trumpf has allowed it to diversify capital spending into the operating room.  Trumpf provides a portfolio of well established surgical products to Hill-Rom’s book of business.  Hill has been able to leverage its sales force who is already selling into this buyer with surgical tables.  The introduction of innovative products like wound therapy beds and stretchers and transportation equipment for obese patients has helped fuel continued growth of capital equipment to hospitals.

Although the company trimmed 2015 revenue estimates slightly when reporting second quarter results in early May, the impact was due only to foreign exchange movements and will not harm earnings.  After reporting 12% earnings growth for the quarter ending March, estimates for full year growth of 12% seem quite reasonable.  The stock is up 51% from our September 2013 recommendation and continues to look strong and fit. It currently trades at 20 times the 2015 estimate.

Apogee Enterprises (Nasdaq: APOG).  We’re not sure if trees grow to the sky but, according to Apogee, it certainly looks like buildings do!  As we predicted at the time of our November 2013 recommendation, Apogee has seen a dramatic turnaround in its Architectural Glass segment.  In the fourth quarter, operating income from this segment increased from a miniscule 0.1 million to a robust $4.5 million.  For the year this segment’s operating income increased 326% and management still sees strong growth ahead. Despite this growth, operating margins in this segment were 4.7% for the year, still way below the 9% peak level we mentioned in our original recommendation.

Management expects earnings to grow 40% this year to $2.13.  Although the stock is up almost 70% from our recommendation, it trades at only 25 times 2015 estimates despite its much higher growth rate.  We expect the stock to keep climbing.


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