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Ask our experts – 3 AIM stocks to watch

Today’s article is the first in our ask our experts series. Off the back of client requests, we’ve taken a look at some shares on London’s Alternative Investment Market.

Important notes

This article isn’t personal advice. If you’re not sure whether an investment is right for you please seek advice. If you choose to invest the value of your investment will rise and fall, so you could get back less than you put in.

This article is more than 6 months old

It was correct at the time of publishing. Our views and any references to tax, investment and pension rules may have changed since then.

The London Stock Exchange’s Alternative Investment Market (AIM) has long been associated with smaller, more speculative stocks than those quoted on its older sibling, the main market. But as we approach AIM’s 28th anniversary, it’s fair to say that both the market, and some of AIM’s members have grown up somewhat.

Approximately 40 of AIM’s members have a big enough market value to be considered part of the FTSE 250 if they were part of main market.

Unlike the main market, some shares on AIM can be exempt from inheritance tax (IHT). This applies to companies that qualify for Business Property Relief (BPR). Not all companies on AIM do, and exemptions include property companies, finance companies or professional companies.

Shares on AIM don’t have to meet the same standards of corporate governance as those on the main market and can also be less liquid – harder to buy and sell. AIM shares are higher risk than those on the main market, so should only make up a small part of a diversified portfolio. All investments can fall as well as rise in value, however AIM shares can be particularly volatile, so investors should be prepared for a bumpy ride.

Here’s a look at three share ideas we think could be worth considering as part of a diversified portfolio.

Remember, investing in individual companies isn't right for everyone. That's because it's higher risk, your investment depends on the fate of that company. If that company fails, you risk losing your whole investment. If you cannot afford to lose your investment, investing in a single company might not be right for you. You should make sure you understand the companies you're investing in and their specific risks.

RWS Group – all not lost in translation

RWS Group helps its clients keep their content relevant from country to country by removing language barriers. It does this through the provision of technology-enabled language, content management and intellectual property services.

Lots of its clients tend to be research intensive businesses, including many of the key players in the life sciences industry. Research and development (R&D) projects can have long development cycles and we think this offers some shelter from economic ups and downs.

RWS Group financial record

Source: Refinitiv Eikon, 03/03/23.

RWS has an enviable track record of revenue and profit growth. However, there’s no guarantee that will continue, and a delay to a common patent across the EU is holding back demand for some services.

That said, RWS is on track for a year of modest top line growth in 2023, with guidance for underlying pre-tax profit broadly flat compared to 2022, where it grew by 17%.

The slowdown in growth is reflected in the valuation which is some way below the long-term average. It also offers a 3.6% prospective yield supported by a robust balance sheet and impressive cash generation. However, yields are variable and not a reliable indicator of future dividends.

We think the group is well placed to take advantage of long-term growth drivers. It’s the number two market player in Language Service Provision, but has less than a 2% share. This suggests an opportunity to grow that share both organically and through acquisitions.

The market continues to enjoy strong growth driven by factors including an increasingly complex regulatory landscape in the industries many RWS clients work in, and improving internet availability in non-English speaking emerging markets.

The increasing availability of sophisticated translation software, like ChatGPT, can be seen as a threat. However, RWS clients require very high levels of accuracy which we think could reduce this risk. RWS is also a company that embraces technology, having acquired SDL in 2020, enhancing the group’s software, machine translation and AI capabilities. This means it’s less likely to be left behind as the industry evolves.

See the latest RWS share price and charts

Gamma Communications – a ‘steady Eddie’?

Gamma Communications is a business-to-business provider of internet telephony services. It’s core offering allows companies to make calls using only an internet connection, and manage their telephone traffic using a cloud-based telephone exchange.

It can even go as far as providing a cloud-based contact centre. This allows companies to run their own call centre with minimum technical infrastructure, opening up a much broader range of potential users, including smaller businesses.

Gamma benefits from recurring revenue of nearly 90%, reflecting the business critical nature of the services it provides. That makes for excellent earnings visibility. The business also enjoys healthy margins, robust cash generation and has a strong balance sheet.

Gamma Communications free cash flow (£m)

Source: Refinitiv Eikon, 03/03/23.

Gamma has adapted well to trends in how companies communicate both internally and externally with customers, and it’s now positioned as a provider of unified communication. This allows businesses to manage the likes of voice, video, messaging, and file sharing from a single platform.

One of Gamma’s fastest growing products is its integration with Microsoft Teams. The world’s most popular business communication doesn’t have an inbuilt ability to connect to the telephone network. We think this could be an important driver of future growth.

Gamma currently has a commanding market position in the UK and is trying to replicate its success in Europe. But this comes with some execution risk, and its EU operations are currently delivering mixed performances.

That said, the group’s valuation has fallen in line with the wider technology sector, and now sits some way below the long-term average.

We see this as undemanding for a company set to report underlying earnings per share growth of up to 17% for 2022. We’re also positive on the longer-term outlook. However, with economic storm clouds yet to disperse, there could still be challenges ahead.

See the latest Gamma Communications share price and charts

GB Group – who are ya?

GB Group (GBG) is a provider of identity and location data intelligence services. That’s been a good place to be in recent years. That’s because the threat of identity fraud has ballooned, as more businesses and organisations embrace the shift to digital in both the public and private sectors.

GBG enjoyed some additional tailwinds from the pandemic as ecommerce and cryptocurrency usage both surged in popularity. That now seems to be going the other way which was the main driver behind the group’s recent profit warning. However, GBG services a wide spread of sectors, with crypto in particular only accounting for a small slice of revenues.

GB Group Revenue Split

Source: GB Group Half Year Results, September 2022.

Earlier this year, GBG reiterated its medium-term targets to grow revenue more than 40% by 2026. It expects this to drive underlying profit growth of around 60%.

However, the more modest growth seen of late, as well as the termination of a potential takeover by a private equity house has dented investor confidence. Because of that, GBG’s current valuation is well below the long-term average.

But the threat of identity fraud isn’t going anywhere. Criminals are becoming ever-more sophisticated, and regulators are implementing stricter verification rules which could drive more demand for GBG.

Given the sensitivities surrounding personal data, organisations will need to lean on their ID authentication partners. GB Group has already won the trust of an impressive list of blue-chip customers. And its impressive cash flow generation has also helped it to bring in additional capabilities via a string of acquisitions.

Looking through the disappointment with current trading, we think GB Group is well placed to prosper. But the market has a long memory. If the company drops the ball again, the valuation will be punished.

Sales negotiations have taken longer of late, and the looming threat of a recession means that could remain the case for some time to come. We could therefore see further ups and downs while economic headwinds remain.

See the latest GB Group share price and charts

This article isn't personal advice. If you’re not sure if an investment is right for you, seek advice. Investments and any income they give you can fall as well as rise in value, so you could get back less than you invest.

Unless otherwise stated, estimates are a consensus of analyst forecasts provided by Refinitiv. These estimates aren’t a reliable indicator of future performance. Investments rise and fall in value so investors could make a loss.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research disclosure for more information.

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    Important notes

    This article isn’t personal advice. If you’re not sure whether an investment is right for you please seek advice. If you choose to invest the value of your investment will rise and fall, so you could get back less than you put in.

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