Vectura and SQS Give Positive Updates

It's always nice to start the day with a couple of very good updates from your holdings. In this case it SQS Software's trading statement and a seemingly innocuous presentation from Vectura which actually, I believe, contains some potentially very good news.



Vectura VR315 US Licensing Deal?

Last year, after Novartis' Sandoz decided to hand over US deployment for VR315 (believed to be generic Advair) the share price immediately slumped over 20%  In addition, analysts called into question the commercial potential of VR315 in the US and, the possibility that it had been dumped in regulatory concerns. Whilst Novartis (Sandoz) continued to work with Vectura in VR315 for Europe, this update to the States effectively led to the market writing off VR315 in the US.

All of which, lead me to be optimistic over the statements made yesterday in a Vectura presentation at the 29th JP Morgan Healthcare Conference in San Francisco. You will find them at around 10:30 in the broadcast. I have replicated them here...

315 is not just a European asset, it's an asset that is going to be of value in both the rest of the World and US territories. We are currently negotiating and a late stage negotiations for  rest of the world with several players, with several players, and in the United States we have a great deal of interest and our advanced stage discussions, and deep into due diligence with a lead company, a lead company with whom, we feel very confident we can take this product forward

So it seems that a US deal is close! I hadn't heard anything about this -in such candour-before and think that we are headed higher when/if a deal gets done.



SQS Software Systems AG Trading Update

A very strong update. Adjusted profit before taxes is expected to be broadly in line with consensus. This is ok, however consider that

• there is a deferral of E500k of budgeted high margin software sales into 2011
• revenues for 2010 are expected to be ahead, due to winning Managed Services contracts

This means that the 2011 revenue and profit forecasts will probably need to be upgraded by analysts due to the E500k deferral of sales. Moreover, the managed services contracts won in 2010 tend to be low margin at the outset. This means that in 2010 they have seen a slight shift of high margin work (software sales) in to 2011 and taken on some initially lower margin work, yet they have hit consensus profit estimates.

I suspect this means that margins are caeteris parabus ahead of estimates. The managed services contracts give greater visibility and long term earnings and I would expect a re-rating after this statement.

I hold both these stocks.

SQS Software Quality Systems Trading Update Should Lead to Analysts Upgrades

SQS Trading Update

SQS Software Quality Systems AG gave a trading statement today. They style themselves as the world's largest pure play supplier of independent software testing and quality management services. I think this is an attractive market to be in because IP (and embedded software) is becoming an ever increasing part of a typical goods value. Therefore, software testing services should be able to grow at a faster pace than IT services in general. I should note that this is a German company but it is listed in the UK market. They report in Euros, so be careful when looking at analyst forecasts.


SQS Managed Service Contracts

The last point alludes to the fact that SQS is still a cyclical play and indeed, they were hit in 2008-09. However, the strategy of the company has been to try and move towards managed service contracts and away from purely project work. The problem with the project work is that it is short term and visibility is low. It therefore leaves SQS to be exposed to the cyclical nature of the economy and to suffering from having consultants under utilised.

Unfortunately, in 2008 they underwent an expansion in consultants at precisely the time when their end markets turned down. They learnt the lesson and, are now moving towards manged services as well as increasing the portion of their staff in offshore (lower cost) centres. It seems to be working...

The Company has recently won three new Managed Services contracts and extended three existing ones, such that order intake for the Managed Services division has exceeded €50 million in the year to date. A Managed Services contract can be expected to provide improved visibility of earnings and enhanced margins, compared to a traditional project, over the entire life cycle of the engagement, although it may involve lower margins in the initial phases as the majority of work is carried out by onshore consultants during this time.

...and this is a good update. SQS trades at a share price of 195p and a £53m market cap which-according to analyst forecasts- puts it on PE ratio of 10.3x and 8x for 2010 and 2011 respectively. I think that analysts will have to raise forecasts after this update, however a trading update is due in January.


Catalysts for a Re-Rating

There a catalyst for a re-rating due to a reduction in risk due to taking on more longer term managed services contracts. Furthermore, on evaluation grounds it is clearly undervalued. However, investors maybe overlooking the potential for some M & A activity. The management hold the stock tightly, but it's attractions to a bidder are obvious.

Firstly, it provides a high growth niche area of IT services. Secondly, for an Indian IT services company, it would present an ideal way to add scale in Europe and they should be able to increase margins by shifting work to their staff in India. Thirdly, the evaluation is compelling.

I hold a position.