How to hunt for the best quality AIM shares
1st July 2015 13:40
by Ben Hobson from Stockopedia
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The Alternative Investment Market recently celebrated its 20th anniversary, but not everyone cheered. Set up as a venue for fast growing companies to access public equity, AIM has become a magnet for private investors seduced by tax breaks and blue-sky stories. Yet the market's ability to generate decent returns for investors has been criticised despite some notable successes. So how should investors avoid disaster in the search for tomorrow's growth stars?
Since floating on AIM in 2001, fashion retailer has seen its market cap grow from £12.3 million to £3.24 billion, making it AIM's best ever performer. Another high-flier was , which floated on AIM in 1999 with a market cap of £25 million. It grew fast, stepped up to the Official List and is now worth £1.29 billion.
These types of high quality growth stock successes are few and far between. With around 1,074 companies currently quoted on AIM, more than half have a market cap of less than £25 million. These shares typically attract the lowest levels of broker research and share liquidity, making them risky to buy and potentially expensive to trade. Nevertheless, they remain popular.
While large size isn't necessarily a proxy for quality, it's worth looking at the difference between the performance of the AIM All-Share and the AIM UK 50 Index of the market's largest companies by market cap. Over three years the larger, better quality companies have produced an average 38% return, versus 12% for the All-Share.
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The trend shows that a focus on better quality companies has more chance of paying off on average. With that in mind, Stockopedia created a screen for Interactive Investor that looks for companies with the strongest blend of profitability, financial improvement and safety.
Screening for quality AIM shares
| Name | Mkt Cap £m | ROCE % | Piotroski F-Score | Yield % Rolling | Quality Rank |
| Brainjuicer | 53.9 | 53.3 | 8 | 1.06 | 100 |
| Bioventix | 44.3 | 44.6 | 8 | 3.01 | 99 |
| 32Red | 43.7 | 56.2 | 8 | 4.13 | 99 |
| EMIS | 583.7 | 21.4 | 8 | 2.10 | 99 |
| Character | 98.9 | 1125 | 9 | 1.78 | 99 |
| James Halstead | 833.3 | 36.7 | 7 | 2.74 | 99 |
| Zytronic | 42 | 16.9 | 8 | 3.91 | 98 |
| Animalcare | 46.5 | 14.5 | 8 | 2.51 | 98 |
| Red24 | 11.9 | 23.7 | 6 | 2.11 | 98 |
| Somero Enterprises Inc | 82.8 | 39.4 | 8 | 2.47 | 98 |
At Stockopedia these factors are scored and ranked using a Quality Rank (where 100 is high quality and zero is poor). But you can get an idea about the profitability of a company by looking at the strength of its Return on Capital Employed (ROCE), which is a measure of how good it is at generating a return. In addition, the screen shows the Piotroski F-Score, which is a nine-point accounting checklist that scores companies on their improving financial strength.
Among the highest ranked companies on the list are , a marketing and brand consultancy, and , a highly profitable biotech company that supplies antibodies. Also ranking well are gaming and casino operator , touch sensor technology company, , veterinary supplies business, , and , which specialises in equipment used to spread and level concrete.
The smallest stock on the list is security risk management company, , although its shares are reasonably liquid despite its size. The largest companies by market cap are flooring manufacturer, and healthcare software company, .
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In the year to date, this portfolio of stocks would have produced a return of 30.1%, way ahead of the 16.5% seen on the FTSE UK AIM 50.
A focus on quality
As well as celebration, AIM's 20 year anniversary served as a reminder of the risks of investing in high risk but potentially high growth shares. There is no doubt that the tax advantages are appealing - including ISA-able investments, no stamp duty on purchases and potential inheritance tax relief. But the market is still criticised for sluggish performance, the risk of companies de-listing, going bust or turning out to be fraudulent. For those investors content with those risks, a focus on finding the best quality companies in the market could be a good place to start.
About Stockopedia
Interactive Investor's Stock Screening series is written by Ed Page Croft of Stockopedia.com, the rules-based stockmarket investing website. You can click here to read Richard Beddard's review of Stockopedia.com and learn more about the site.
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About the author
Ben Hobson is Strategies Editor at Stockopedia.com. His background is in business analysis and journalism.
Ben writes regularly on investment strategy performance and screening ideas for Stockopedia. He is the author of several ebooks including "How to Make Money in Value Stocks"
This article is for information and discussion purposes only and does not form a recommendation to invest or otherwise. The value of an investment may fall. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.