Investing in smaller companies inevitably comes with relatively high risks. They lack the size and scale of larger companies and this can mean less consistent earnings growth, as well as the potential for higher losses. However, smaller companies may also deliver higher rewards in the long run. Their shares may have flown under the investment radars of many investors and this can lead to low valuations. With that in mind, here are two companies which could be worth a closer look.
The recent half-year results from Colefax(LSE: CFX) showed that the company is experiencing challenging trading conditions. The international designer and distributor of furnishing fabrics and wallpapers recorded a decline in its earnings which is expected to lead to a fall in its bottom line of 39% in the current year. Much of this is due to the challenging trading conditions experienced in its core US market, while the hedging of the US dollar proved to be a disappointing decision.
However, an investment in the business via significant one-off capex this year should provide a boost to the company's performance. Its new US showrooms and new Decorating Division premises in London may also positively catalyse its financial performance. As such, the company is expected to record a rise in its earnings of 20% in the next financial year. This is due to be followed by further growth of 12% the year after.
With Colefax trading on a price-to-earnings growth (PEG) ratio of 1.5, it seems to offer a sufficiently wide margin of safety to merit investment. Although its shares could remain volatile and its earnings outlook may deteriorate depending on its operating environment, the risk/reward ratio on offer appears to be favourable.
The recent results from advanced surveillance technology solutions provider Synectics(LSE: SNX) showed that its strategy appears to be working well. It was able to increase revenue by 4% and underlying profit by over 80% in the most recent financial year. Much of this was due to the actions it has taken to improve its business model and invest for the future. It now has a strong position in a variety of sectors and seems to be well-positioned to deliver high growth in future.
Looking ahead, Synectics is forecast to record a rise in its bottom line of 10% this year and 33% next year. This puts it on a PEG ratio of just 0.3, which indicates that it offers high growth at a reasonable price. As well as this growth potential, the company is also expected to yield 2.6% next year from a dividend which is due to be covered three times by profit. This suggests a rapidly-rising dividend could be on the horizon, which further enhances the attraction of the company's shares.
Certainly, neither Synectics nor Colefax are risk-free. Both stocks are relatively small and could experience disappointments over the medium term. However, with wide margins of safety, they may be worthy of a closer look.
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Peter Stephens has no position in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.