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In the uncertain economic times in which we find ourselves, investors everywhere are confronting the difficult decision of “going to cash” versus seeking buying opportunities.  As you know, there is a growing chorus of warnings of a possible GFC2, with a few experts going so far as to predict it could be worse than GFC1.  Investors seeking buying opportunities are looking for companies that can best withstand another economic calamity.

Last week, John Rawicki of Oracle Asset Management shared his view of information technology company, SMS Management & Technology (SMX.)  Despite its being in a cyclical sector, this company deserves a look as a potential safe haven share.

SMX serves both the business community and the government sector.  Its services are offered under two different brands – the SMS brand and the M&T resources brand.  The SMS brand offers:

•    Business Performance Improvement

•    Applications Development

•    Systems Integration

•    Information & Data Management

•    Customer Relationship Management

•    Operational Learning and Change

•    Infrastructure Consulting & Management Services

The smaller M&T resources brand offers recruiting services to the IT sector, for both permanent employment and on a contract basis.

Portfolio diversification is a defensive strategy that few would question.  A corollary of that strategy is to look for companies that offer diversified services and products.  SMX seems to meet that criterion.  However, diversification of the customer base is also something to consider.  Below is a listing of the industries served by SMX along with the percentage of company revenue derived from each:

•    Federal Government and Defense                 15%

•    Financial Services                                          23%

•    Fast Moving Consumer Goods (FMCG)          4%

•    Health                                                             3%

•    Information and                                            16%
     Communication Technology (ICT)  

•    Resources and Infrastructure                       8%

•    State Government                                         14%

•    Transportation                                               9%

•    Utilities and Others                                       8%

In the face of a severe economic downturn, consumers are not the only ones who cut spending.  However, historically, businesses cut less and in some areas actually increase spending during downturns.  Government spending is less subject to cyclical downturns and you should note that the largest revenue generator for SMX is combined federal and state government spending – 29% of the total.

Common sense says the combination of a well diversified offering of services and a well diversified customer base should increase the odds that a company can weather tough times.  We have the recent history of the GFC to allow us to see whether that observation held true for SMX.  We will look both at their fundamental performance and how share market participants valued the shares.  Let us begin by looking at a five year history of some key performance measures.

Five Year Historical Financial Performance Highlights

  6/2007 6/2008 6/2009 6/2010 6/2011
Revenue ($m) 175.6 237.9 230.6 247.6 306.1
Operating Cash Flow ($m) 20 25.8 37.8 37.1 30.8
Net Profit after Taxes ($m) 18 24.8 24.3 27.9 29.8
Earnings per Share (cents) 28.1 38.2 36.7 41.9 44.3
Dividends per Share (cents) 21 25 25 29 30
Cash Balance ($m) 19.9 16.5 26.5 31 24.9
Long Term Debt ($m) 0 0 0 0 0

 

The revenue and profit loss in the aftermath of the GFC between fiscal year 2008 and 2009 was relatively modest, as was the drop in earnings per share.  Note that the company maintained its dividend payout and actually increased its cash balance during the worst of the GFC.

The company made several key acquisitions during this time period, which probably explains the variations in operating cash flow.  Note they have no long term debt.  In addition, their current cash balance leaves them in a solid position to look for acquisition opportunities that may present themselves in the event the current slowdown continues, or even worsens.  Their 2011 results are even more impressive when you learn their operations were negatively impacted by the flooding in Australia.

Fundamentals are comforting to an investor, especially when a company continues paying its dividend, but in many cases they do not save investors from capital depreciation through share price drops.  Now let us look at how well the SMX share price did before, during, and after, the GFC.

Five Year Share Price Movement

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Obviously share market participants were in panic mode and the respectable fundamental performance of SMX did not spare the shares from the downward drop.  However, note that the share price has recovered almost all of the loss since then and has substantially outperformed the XJ0 – the ASX200 index.

If you believe in longer term investing, SMX appears to have proven that it can survive tough times, rewarding investors who have the patience to wait.  The major caveat with this, or any share in this investing climate for that matter, is to stay away from margin buying.  A rigorous research study has yet to be done, but it is likely that those investors who suffered most from the GFC were the most heavily leveraged.

Even if GFC2 comes to pass, neither the Australian government nor the majority of the Australian private business sector will cease to exist.  They will still need goods and services and SMX offers a wide range of services to a wide range of industries.

Please note that TheBull.com.au simply publishes broker recommendations on this page. The publication of these recommendations does not in any way constitute a recommendation on the part of TheBull.com.au.You should seek professional advice before making any investment decisions.