ASX small caps with a strong growth trajectory: Close the Loop

The world's biggest central banks are set to reverse a record string of rate hikes and stocks towards the small end of town are widely expected to benefit. In this series, we're going to take a deep dive into profitable small caps with unique businesses, strong balance sheets and a positive outlook.

Close the Loop (ASX: CLG) a global leader in the fast-growing circular economy, recovering a wide range of materials like electronics, printer cartridges, cosmetics, plastics, paper, and cartons.

CLG embraces a "zero waste to landfill' approach. They don't just recycle – they reuse materials, such as turning toner cartridges into new ones and even transforming soft plastics into an asphalt additive. Their focus is on providing end-to-end solutions across packaging and global expansion, with locations currently across Australia, Europe, South Africa and the United States.

Close the Loop at a glance

• Market cap: $167.5 million

• Cash on hand: $55.7 million as at 31 December 2023

• Debt: $26.2 million

• Shares on issue: 530 million

• Share price performance: Down 17% year-to-date and down 12.5% in the past twelve months

• Management: Chief Executive Joseph Foster has over 40 years of experience in the packaging industry. He beneficially owns 127 million shares in the company (64.3m via Foster Packaging and 65.0m via his co-founded company OF Packaging Group)

Close the Loop 12-month price chart (Source: Market Index)

Latest results

The latest half-year FY24 results observed strong revenue and earnings growth, lower debt and an upgraded EBITDA guidance for the full-year. However, management flagged some volatility for the company's packaging business (approximately 31% of 1H24 revenues).

"... the second quarter of 1H24 presented several challenges for Packaging, including disruptions to shipping lines, volatility in commodity pricing, and dampened sales volumes due to deteriorating economic conditions, we are pleased to report that Packaging maintained its EBITDA profitability," said Foster.

• Revenue up 76.2% to $103.1 million

• Gross margin up 340 bps to 36.2%

• EBITDA up 140% to $22.6 million

• Net profit after tax up 25% to $5.0 million

• Cash and cash equivalents up 12.6% to $55.6 million

• Upgraded FY24 EBITDA guidance to $44-46 million

It's also worth noting that CLG acquired American refurbished electronics business ISP Tek Services in March 2023 for US$66 million. ISP recorded revenue of US$49 million for the trailing 12 months to October 2022 and a net profit after tax of US$13.7 million.

What makes CLG interesting?

Fast-growing, profitable and paying down debt: CLG doesn't have the longest track record (listed in late 2021), but during this time, it has more than doubled revenue and tripled its net profit (from $4.5m in FY22 to $12.1m in FY23). In its 1H24 results, the company retired over $10 million of net debt while upgrading its FY24 EBITDA guidance.

Bullish brokers: Shaw and Partners has a BUY rating on the stock with a 70-cent target price. "Recent selling pressure is creating an opportunity for medium-term investors considering CLG. The stock is now trading on an inexpensive 3.6x FY25 earnings even after delivering a solid 1H24 whereby CLG retired over $10m of net debt and upgraded FY24 EBITDA guidance," the analysts said in a note dated 15 March.

Packaging vs. end-to-end: The above note highlighted how investors view CLG as a "mere packaging company with an overseas computer refurbishment business," adding that "CLG is not seen as a platform to build out the company strategy." The broker believes management can build out this vision and execute.

Cheap valuation: "In the meantime, while we await CLG's strategy to unfold, CLG is delivering solid free cash flow. If an investor holds this stock for 12 months, and the share price does not change upward, CLG could reflect an absurd valuation of 3x EBITDA with no debt," the analysts said.

Classic small caps

Small caps can often remain undervalued longer than you can stay sane. The price action for CLG has been far from bullish. The stock has consistently faced selling pressure, struggles to push through key levels and tends to react unfavourably to positive news.

The best example of the latter was how the stock performed following its FY23 results announcement on 28 August 2023. Some of the key highlights from the result include:

• EBITDA up 70% to $24.3 million

• Cash balance of $49.5 million and no debt

• Strong operational cash flows

• Successfully completed ISP Tek acquisition

CLG shares rallied as much as 15% in early trade but finished the session up just 1.1%. There's clearly a sticky seller somewhere, keeping the share price at bay.

Close the Loop price chart with earnings sell-down circled (Source: TradingView)