Companies that offer genuine growth and income potential are not always easy to find. But in my experience, the FTSE 250 can be a rewarding hunting ground. Many of the firms in the mid-cap index have proven profitability, but are still small enough to double in size.
Hunting for more deals
One company with proven income and growth potential is betting software specialist Playtech (LSE: PTEC). This business provides the technology behind the scenes of many big-brand online casinos and betting sites.
The group spent €240m last year acquiring smaller competitors. Further acquisitions are targeted this year. I believe this is a model that should continue to work well for Playtech, as it will enable the firm to offer its larger customers — such as William Hill and Pokerstars — broader and more heavily-integrated services.
The stock could rise by 25%
In 2016, Playtech’s sales rose by 20% to €708m when currency effects were stripped out. The group’s adjusted net profit rose by 42% to €206.2m on the same basis, while the ordinary dividend was increased by 15% to €0.327 per share. Playtech also returned €150m to shareholders via a special dividend during the year.
This company is notably cash generative and this trend was evident again last year. Excluding acquisitions, I calculate that Playtech generated free cash flow of €171m in 2016. That’s equivalent to a free cash flow yield of 5.2% per share, demonstrating that the group’s dividend payouts are comfortably covered by surplus cash.
Management is “confident of a strong performance in 2017”. City analysts covering the stock expect earnings per share to rise by 38% to €0.83 per share in 2017, as organic growth continues and last year’s acquisitions kick in.
Playtech stock trades on a trailing P/E of about 16. If this rating is maintained and earnings grow as expected, then the shares could rise by 25% in 2017.
This bold deal could pay off in 2017
Playtech operates behind the scenes to provide the services big gaming brands need.
Rival GVC Holdings (LSE: GVC) has taken a bolder approach and runs its own brands — such as Sportingbet and Foxy Bingo — as well as providing behind-the-scenes services for other customers such as Betfred.
The firm has a reputation for improving the profitability of the brands it acquires. Management put this to the test last year by acquiring struggling operator bwin.party in a €1.1bn cash and shares reverse takeover deal.
The debt required to fund the cash element of the bwin deal resulted in GVC’s directors suspending dividend payments in 2016, in order to direct cash flow into debt repayments. This prudent move has enabled the firm to reduce and refinance its borrowings at a much lower interest rate.
GVC expects to secure €125m of cost savings from the integration of bwin.party by the end of 2017. Profit after tax is expected to have risen from €24.7m in 2015, to €102m in 2016. A further 75% growth to €175.5m is forecast for 2017.
With the shares trading on 14 times 2017 forecast earnings and offering a prospective yield of 3.4%, I think GVC has the potential to deliver significant further growth. However, in my opinion, Playtech looks better value at current prices.