No Pain, No Gain: It could at last be time to beam up Scotty's shares

A casual observer could be forgiven for believing that investors are ill-treating Scotty, one of the stock market's army of "penny dreadfuls". Its shares are currently bobbing along at just over one pence – close to their level when I discussed them 14 months ago.

Yet the company could for the first time be in the money. Its order book is standing at a peak and there are hopes that, given a fair wind in its final quarter, a profit – possibly comfortably exceeding £1m – will be achieved this year. Certainly more than £600,000 seems to be already in the bag.

So why are the shares so neglected? One reason, of course, is the punishment inflicted on many smallcaps. The arrival of the credit crunch appears to have panicked smallcap investors, prompting some to unload and switch into what they regard as safer havens, even interest-bearing deposits. The undercard has always been more risky than, say, blue chips. And prices are more volatile and spreads much wider. Even so, the sell-off has been nothing short of astonishing.

But perhaps there are more fundamental reasons for Scotty's failure to reflect its improved prospects. Too many false dawns must have blunted the enthusiasm of investors. I suspect they will want to see hard evidence that the group, which develops and produces sophisticated video and data equipment, really has plugged into a profits circuit. For example, long-time follower Tom Winnifrith, the internet tipster, says a case for buying the shares could be emerging, but he wants to see "evidence of Scotty's purported operational health" before changing his recommendation from "hold".

The company must also contend with its long-lost high-flying days when, during the dotcom boom, the shares flew to nearly 350p. Many investors from those madcap times are, I suspect, still on the share register. Others will have climbed on board in more halcyon days. With the tax year near its end, the shares provide an avenue for offsetting capital gains and could encounter weakness as investors' juggle with their tax position.

I first encountered Scotty, then called Motion Media, at a boozy presentation in a Fleet Street pub 12 years ago. Before floating its shares, it displayed its video telephones to assembled hacks. I was impressed. They were the sort of hi-tech gadgetry even I could appreciate. Unlike many other dotcom players, Scotty actually had a viable product. But making the profit connection proved elusive.

Scotty is still deep into video communications. But its offerings are now much more sophisticated and largely for Government or military use. Indeed, a merger between Motion Media and Scotty, an Austrian group, in 2004 resulted in a much wider and improved product range and allowed what is in effect a niche player to target high-powered customers.

In the past it has suffered from contracts being shelved or delayed. But with orders running at record levels, such setbacks should no longer distort its performance. Indeed, the group is now enjoying a run of civil and military contract wins that have involved the United States, Germany and Venezuela. A Nato presentation – to procurement officials – appears to have been well received, and, in the past month, the group's flag has been flown in Singapore and India, with a Chilean exercise due to take place soon.

I would not rush to buy the shares. Interim figures are due soon, but it would be wise to wait and see what is delivered over the full year. Certainly hopes are running high, and one profitable year could set a trend.

Since the merger, Scotty has run up losses of more than £15m. But with costs cut by some 30 per cent and the order flow still strengthening – and, being a niche player, Scotty's margins should be robust – there is reason for cautious optimism.

Now Scotty has got its act together it could even become a takeover target. After all, it is capitalised at only about £12m and would make an ideal add-on for a major electronics group. Of course, those heady days when the world went mad and hi-tech shares soared into the stratosphere will never return.

So any bid would offer little comfort to long-term shareholders. But the board, basking in the glory of moving from losses to profits, would surely insist on a considerable uplift from today's dismal level.

Independent Partners; request a free guide on NISAs from Hargreaves Lansdown

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