As I predicted a few months ago, Adacel has experienced a...

As I predicted a few months ago, Adacel has experienced a significant re-rating on the back of solid profits, increased margins, plenty of cash reserves, and a positive outlook.

Also as I predicted a few months ago, a number of brokers are now recommending the stock, including Intersuisse, Pattersons, and Shaw (I understand that these three brokers, and not short term traders on etrade or comsec, are behind most of the recent buying. Because ADA is relatively thinly traded, these brokers are buying in small parcels so as not to cause price spikes).

Following the AGM, Intersuisse put out a new note reiterating its buy recommendation. The analyst expects NPAT to improve this FY over 06 largely on the back of dramatically improved margins. The analyst also notes that if Adacel can repeat its 06 June half performance in both the dec and June halves of FY07, the company will generate an after tax result of $6.9mill. (The analyst notes that ADA has significant tax credits available and is not expected to pay any tax for 2-3 years). Based on today's share price, this has Adacel trading on a foward P/E ratio of just 8.75. After 2 years of solid profit growth, the market (including small-cap funds) should feel quite comfortable with Adacel. This will likely see Adacel trading on an earnings multiple of around 18. Thus, if FY07 does come in at around $6.9mill, assuming a p/e of 18, the share price is likely to find support at around $1.42 following the the FY07 full year results.

A p/e of 18 is easily justified for ADA because significant earnings growth can be expected. (Indeed, ADA is likely to out-perform Redflex over the next 2-3 years in terms of profit growth, yet Redflex is currently trading on a p/e of around 24). As Adacel's new CEO said the AGM, the company expects significant growth in its traditional MaxSim ATC simulator markets (keep in eye out for a possible new contract with Airservices Australia in the short term), as well as growth in 2 new markets: (1) virtual pilot training (e.g., Airbus' latest pilot training simulators now employ Adacel software and databases), and (2) cokpit voice recognition (including fighter aircraft, helicopters, and UAV's). (NB. I have to spell 'cokpit' incorrectly because of Hotcopper's profanity filter).

In summary, the fundamental's for Adacel are excellent. The stock is still significantly undervalued relative to its peers, yet has an excellent outlook. Best yet, there is the potential for Adacel to significantly surprise to the upside.

I'm predicting, on the basis of expected profit from existing contracts, that the SP will steadly rise to around the $1.40 mark over the next 9 months. However, Adacel's valuable IP and low earnings multiple makes it an obvious takeover target for North American private equity. (Adacel's ASX listing costs and Australian office cost the company around $3mill per year. Privatizing the company and basing it in North America would effectively add $3mill to the bottom line). In the event of a bid for Adacel, Thorney and Silvio (ADA major shareholders) are unlikely to let the company go over the next 12 months for less than $2 per share.

Adacel is certainly one to watch.