Was buying this cheap small-cap stock a mistake as it crashes another 20%?

Investing is all about taking calculated risks in the hope of increasing your wealth. Sometimes, those bets don’t work out, at least in the short term. 

That’s true for me today as I reflect on the market reaction to half-year numbers from laser-guided equipment specialist Somero Enterprises (LSE: SOM) — a stock I’ve held since June after it reported that heavy rainfall had impacted sales in the US (its largest market).

Considering how transitory it is, I always get interested when stocks are sold off following extreme weather. Nevertheless, today’s results weren’t pretty. Revenue and pre-tax profit fell 13.3% and almost 23% respectively in the first six months of 2019. In addition to this, the company reported that business in Europe and the Middle East was reduced in the late stages of H1 due to the timing of contracts. 

Despite this, CEO Jack Cooney stated that Somero was “confident” of things improving in H2 and trading still being “broadly in line with guidance for the full year” despite “wider macro pressures” in some parts of the world. Back in June, Somero predicted full-year revenue would come in at $87m. Today, this was adjusted to somewhere between $83m and $87m.

Aside from this, Mr Cooney stated that Somero did not see “a fundamental change” in its end-markets and that it was continuing to invest for future growth (through the expansion of offices and its training facility). Although early days, the company also reported that its new SkyScreed 25 machine was “gaining traction” in the high-rise structural market.

So, have I made a mistake?

It would be easy to reply in the affirmative if I were concerned about the behaviour of a stock over a few months. No one likes to see the value of a holding fall by a fifth in a single day.

That said, my decision to buy only a small amount of shares a few months ago has seemingly verified my strategy of gradually building a position in an unpopular stock rather than charging in wildly. So, perhaps a more pertinent question is, “would I still buy today?“. 

It’s a tricky one. While poor weather is nothing more than a blip, talk of a looming recession could hit construction, and consequently, the demand for Somero’s products. Such is the nature of investing in undeniably cyclical stocks. 

On the other hand, a lot of the qualities that attracted me to the company remain. Somero still has net cash on its balance sheet (£15.1m), a highly experienced management team and a track record of generating consistently high returns on capital employed and fat margins. What’s more, it might be argued that a lot of concerns are already firmly priced in. The shares were trading on a little less than 10 times forecast earnings before markets opened this morning and are now even cheaper.

Somero also remains a great source of dividends. Despite recent poor form, the company saw fit to raise its interim dividend by 4.5%. Analysts were predicting a 16p per share total cash return before today which would mean a yield of 7% after taking the share price fall into account.

On reflection, I think I’ll lick my wounds, trust in the adage that form is temporary/ quality is permanent and give serious consideration to buying more while ensuring I remain diversified elsewhere.