3 Micro-Cap Value Stocks That Could Double

Includes: ACLS, BIOL, GVP
by: StreetAuthority

By David Sterman

When ratings agency Standard & Poor's set about to create a group of stock indexes, it came up with the S&P 500, 400 and 600, representing large-cap, mid-cap and small-cap stocks, respectively. What about micro-caps? The company's index managers simply decided to ignore this asset class. Many other investors also overlook them, even though micro-cap stocks (which I define as having market values up to $200 million) represent more than half of all publicly-traded stocks.

Micro-caps are often seen as risky, speculative stocks that often fail to deliver on the promise they hold. Yet this investment category also contains many solid companies that generate steady sales, and reasonable profits. So for the intrepid investor willing to do a little extra homework, these stocks could provide robust gains -- in many cases more so than their larger counterparts.

Here are three solid micro-caps that I've been tracking, all of which could rise 30%, 50% or more during the next year or two.

1. BioLase Technology (Nasdaq: BLTI)

I've written about this maker of dental laser equipment on several occasions before. Its stock has fluctuated between $0.50 and $10 during the past five years, most recently trading at roughly $2.50 a share, which gives it a market value of about $80 million.

I keep returning to this stock because its lagging share price fails to reflect a pretty solid growth story. Previous management failed to fully capitalize on the company's market opportunity, but current Chairman and CEO Federico Pignatelli, who took the reins in September 2010, has helped the company cut production costs and build sales. Revenue in 2011, for instance, jumped more than 80% to $49 million in comparison with 2010, while the gross margin spiked 11 percentage points to 45%. In addition, the annual cash burn reduced sharply from $11.5 million to $3.4 million.

Looking ahead, analysts at Needham say sales could finally outpace expenses in 2012, and they anticipate robust profits in 2013. Sales may rise more than 40% this year to about $70 million, and a further 15% in 2013 to $80 million, which would yield earnings per share (EPS) in the $0.20 to $0.25 range. They figure robust growth could eventually merit a fairly robust EBITDA multiple of 18, setting up a $6 price target that's more than double current levels.

2. GSE Systems (NYSE: GVP)

This provider of nuclear power plant training simulators saw its stock take a big hit when the disaster in Japan last year led to speculation that nuclear energy would fall out of favor. Shares, which had already fallen from $10 five years ago to $3 before the disaster, quickly plunged below $2. Management insisted that business remained healthy, especially in energy areas beyond nuclear, but few would listen.

Now, one year after the events in Japan, management's bullish view has finally been vindicated. GSE just released strong fourth-quarter results, pushing the stock up sharply to $2.45, the mid-point of its 52-week range. Fourth-quarter sales rose a healthy 21% to $15 million compared with the same period in 2010, leading to earnings of $0.06 per share, well ahead of the $0.01 consensus forecast. This is a company with more than $1 a share in cash, so if you back this out, then shares trade for roughly six times annualized earnings.

Why should investors take that quarterly per-share earnings figure and extrapolate it out to an annual basis? It's because GSE ended the quarter with $51 million in backlog, and another $8 million in orders came through the door in January alone. Analysts have yet to update their estimates, but look for GSE's projected 2012 EPS to move into the $0.25 range. In 2013, EPS should rise to the $0.30 to $0.35 range. Even after spiking on Friday, March 9, shares remain quite cheap when measured against those numbers -- even before you back out that hefty cash balance.

3. Axcelis Technologies (Nasdaq: ACLS)

This maker of semiconductor fabrication equipment is also cash-rich. The company has $47 million in net cash and $215 million in tangible book value, though it's valued at just $173.5 million on the stock market.

As you'd imagine, annual results can be erratic, since Axcelis operates in a very cyclical industry. Sales averaged more than $400 million a year between 2004 and 2007, plunged below $150 million in 2009 and steadily rebounded back above the $300 million mark in 2011.

The analyst consensus figure for Axcelis appears to be too conservative, as one of the two analysts who track the stock appears to fail to account for a series of cost-cutting moves that should make the company decently profitable at current sales levels. It's hard to gauge where profits will head in coming years, because much depends on the nature of the semiconductor capital equipment spending cycle, but that 19% discount to tangible book value provides a solid floor for the stock.

Risks to Consider: Micro-caps tend to perform especially well in the extended phases of a bull market, which is where we are now. Any major market pullback, however, would lead investors to flee this asset class rather quickly.

Small doesn't mean risky. The key with this asset class is to focus on companies that have steady recurring revenue and the ability to leverage rising profits on moderate sales growth. Any one of the stocks I've mentioned above seem to fit that bill.