Stock to Watch: Symphony Environmental Technologies

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AIM-listed Symphony Environmental Technologies (SYM), exemplifies a tempting share you are bound to encounter: sporting a new technology that makes obvious sense and with a vast range of applications. Here, it is biodegradable plastics technologies, which look highly relevant given the waste disposal challenge and environmental issues.

The investment case sounds even more appealing when a small company only needs to capture a tiny percentage of a global marketing opportunity for your shares to multiply in value. The potential annual worldwide market for degradable products is estimated at $1.5-3 billion (£909.9 million - £1.82 billion), with the EU and US representing $500 million.

I confess I've engaged this profile of company various times, especially around 1999/2000 when lots of them seized the technology share boom to raise money. It can be challenging to recall which truly delivered on the hopes entertained, although a few genuine industry leaders - such as the Acorn spin-off that became ARM Holdings (ARM) - proved enduring. Not to lapse into cynicism; it is worth checking out this type of company, bearing in mind it can take longer to achieve new technology adoption than initially expected.

Modest growth rates can also help a smaller company avoid being overwhelmed both managerially and financially. As the years tick by, however, it is possible rival technologies appear with the claim of superiority; which may also explain why customers are slow on the uptake.

Now a £23 million firm, Symphony was founded in 1995 and has been listed for over nine years, during which time its shares in issue have expanded from 30 million to 117 million. At end-2001, £2 million was initially raised at 30p a share to "provide the necessary capital structure to grow the group quickly". Management appeared to sensibly prioritise plastic bags (where disposal remains a chronic issue) over diffuse efforts.

The technology reduces plastic's lifespan to 1-5 years without compromising functionality; Symphony's brand has also been certified for its degradability and suitability for food contact.

The 2004 results statement cited: "significant distribution agreements for North America, Saudi Arabia and Colombia", and products were already in more than 20 countries including "key UK customers in healthcare, local authority, supermarket and mailing film sectors."

Six years later, however, 2010 revenue was still a modest £8.5 million and the newly appointed company broker, Seymour Pierce, projects this rising to £13.1 million in 2013. Relative to prior years, this would indeed be more significant progress although it remains modest in overall context.

At about 20p a share currently, long-term investors remain well down and over the 2007-09 crisis SYM fell from 12p to 2p, however a firm chart from about 8p over 2010/11 suggests the market is warming to the company again.

The momentum of legislation worldwide, towards biodegradable plastics, could help shift demand more firmly in Symphony's favour relative to past years. Italy has recently enacted such laws and Symphony was the first government-approved supplier to the United Arab Emirates.

This last February, Symphony announced a 25-year distribution agreement with a US marketing partner, described as "the first stage of our strategic development in the US, where we believe there is significant potential" and the 2010 prelims cite "further launches in South America, and new launches in Africa, the Middle East and parts of Eastern Europe." The number of distributors has increased from 49 to 61. On 21 April it was announced that the US agreement had come into effect with a first "material" order.

Helped by simplifying the group's financial structure, 2010 pre-tax profit jumped from £0.64 million to £1.0 million on revenue up 21% to £8.5 million. Obviously such strong growth rates are easier from a small base; the main question is whether revenues can pick up to genuinely transform value.

Management appears to be guiding its broker conservatively: Seymour Pierce targets 23p a share while projecting earnings per share of 1.2p this year rising to 2.1p in 2013, so if this is achievable then the price-earnings multiple drops into single figures from what looks a full 18 times relative to 1.0p for 2010. Again it is hard to assume much about valuation from changes in such figures when you are looking at a very small financial base.

Part of the reason for modest growth projections, most likely, is Symphony's need to be careful with what cash it has. Operational cash flow in 2010 was stable at just over £0.5 million while balance sheet cash rose from £35,000 to £85,000. This helps explains the partnering approach with overseas marketing as it would be too costly alone.

The end-2010 balance sheet is also modest overall: net assets of just over £3 million or 2.6p a share involving a £1.2 million deferred income tax asset, nearly £0.8 million capitalised intangibles and £0.5 million property/plant/equipment - all reflecting a small company. The ratio of current assets to current liabilities is a satisfactory 1.3 times and there is just over £1.3 million debt, most of it short-term. In terms of overall valuation this further emphasises the need for profit growth to drive earnings.

Management owns decent equity, so should be incentivised: the chief executive with 15 million shares, the finance director one million and other directors several hundred thousand shares each. Some of this may have resulted from a very low (sub-divided) share price when the company was private, although there was buying around the 2009 bear market low of 2-3p.

In conclusion, Symphony could now be in a more attractive phase for investors - into profitability and with a new US marketing campaign - than previous years when it has flagged growth potential. It's a salutary tale for any investor tempted by small cap technology shares: how you may need to be patient and weigh the evidence, to judge when risk/reward is in your favour.

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