Free to read: evaluating Aim’s valuation extremes

A 1000-foot view of the junior market’s cheapest and most expensive companies

Photo by howling red on Unsplash

Last time out I was on the hunt for the Aim 100 constituents that were growing fastest, both on a sales or earnings basis. But such an exercise is still a long way from working out whether any of these fast growers are worth buying. In particular, a growth only screen doesn’t consider the price you’re having to pay for the growth on offer.

Here’s where we need to introduce some commonly used ratios that start to get us towards whether a company’s valuation makes sense. As Aim is a high-growth market, with many pre-profit constituents, let’s begin with a simple price-to-sales ratio. With the pandemic in mind, I’m actually going to look at price to forecast sales, which should smooth out the effects of a year in which some companies saw their top lines contract quite sharply.

Highest price-to-forecast turnover

As you can see, the 8 most highly rated companies on this measure aren’t yet producing any earnings, which isn’t surprising given the industries they’re in – two miners involved in exploration, three hydrogen specialists, two drug developers and an AI researcher. Investing in companies like these is a much more speculative proposition that requires much work to test the assumptions behind their path to profit, including whether they have the financing in place to do so – a screen is never going to reveal whether they’re worth buying or not, simply because there are very few metrics to do so.

The other two companies are involved in very profitable areas of the financial services industry, which makes them look expensive on the basis of price to sales but less so if we look at their earnings, which we’ll do in a minute with a price-to-earnings (PE) cut of the data.

For now, though, let’s look at which companies appear cheapest on the basis of price to sales.

Lowest price-to-forecast turnover

Now we’re starting to see some potentially interesting value situations, and companies where we can use earnings ratios as a further way to try and validate them. The cheapest stock on a price-to-sales ratio, IG Design, warned on profits a few weeks ago due to the impact of rising costs and supply chain disruption to its stocks of craft goods. But you can now buy nearly a billion pounds-worth of sales very cheaply, especially if you believe the earnings slump may be temporary.

Let’s look at price-to-earnings in more detail, again starting with the most expensive on this basis. Again, I’m going to jump forward a year and look at a forecast PE rather than a trailing one to try and get as Covid-free a picture as possible.

Yet what we’re still largely seeing are companies that have seen a significant hit to earnings like Johnson Service, those just making the breakthrough into profit like Benchmark Holdings, along with some very highly rated shares like YouGov, Smart Metering or Fevertree Drinks, where expectations of future growth are very high. Another metric, the PEG or price-to-earnings growth ratio can tell us if the rating reflects the growth rate – and in these cases seem to suggest the price is asking a lot.

Highest forecast price-to-earnings

Let’s look for the cheapest shares on a PE basis, which is hopefully where the bargains can be found. And it seems that many of them are in the resources industry – a palm oil producer, 3 miners, and 2 oil producers. ESG concerns explain the lowly rating of the oil companies, and to some extent miners too, although it is perhaps the rather up and down nature of commodity pricing that means the market isn’t getting too carried away with this year’s strong earnings growth. In each case the PEG is well below 1.

Lowest forecast price-to-earnings

It’s been interesting looking at the extremes of the Aim 100, and this exercise has definitely thrown out a few ideas worthy of further research – I’m especially curious as to what’s going on at recently floated Revolution Beauty and Covid testing business Novacyt.

But I don’t yet feel that we’re getting to the best quality companies on Aim, or indeed those quality shares that can be found at a reasonable price – known as QARP investing. Next time, I’ll put it all together along with some quality metrics to hopeful whittle the Aim 100 into a list of truly investable companies.

*all data from SharePad

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