Worn out from 2022’s unremitting bear market? Well, good news. According to Bank of America, the scene is set for a 2023 bull run. But more intriguingly, given the current conditions, the market leaders are not invited to this party with those further down the food chain set to the lead the way.
Or as BofA’s Chief Investment Strategist Michael Hartnett puts it, “Secular trends of stagflation, reshoring, localization, fiscal stimulus = small cap bull in 2023.”
Hartnett has history on his side. Similar to how the market behaved in the 1970s’ high-inflationary era, after almost two decades of ruling the roost, Nasdaq 100 domination is starting to significantly wane, and Hartnett is expecting a repeat of past events. “Stagflation continued through late-1970s but once inflation shock of 1973/1974 over, US small cap entered one of the great bull markets of all-time,” Hartnett added.
With this in mind, we delved into the TipRanks database and pulled up two small-cap stocks that are rated as Strong Buys by the analyst consensus. It also doesn’t hurt that both offer investors double-digit upside potential, and a small dividend as a bonus. This makes them ideal candidates to push ahead, should BofA’s thesis play out.
H&E Equipment Services (HEES)
There are many jobs that only require equipment on a temporary basis, particularly for large-scale industrial work; this is where H&E Equipment Services enters the frame.
H&E is one of the largest equipment rental companies in the U.S. and makes the bulk of its revenue from renting out miscellaneous construction and industrial equipment such as earth-moving tools, aerial work platforms, industrial carts, air compressors and material handling equipment, amongst others. The company also offers a range of different services such as new and used equipment sales and repairs and maintenance.
Seeing out 2021, the company had 102 branch locations spread out across 24 states. Just to get an idea of the size, H&E’s portfolio boasts 42,725 pieces of equipment, which on average are less than 3.5 years old.
After a somewhat uneven period, revenues have been steadily rising throughout 2022 and that was evident in Q3 too. The top-line showed $324.3 million, amounting to ~18% year-over-year increase while also beating the Street’s estimate by $20.34 million. Gross margin rose to ~47% vs. the 41.4% seen in 3Q21, while net income saw a ~55% uptick to $38.4 million. This resulted in EPS of $1.05, far higher than the $0.82 predicted by the analysts.
Thanks to the solid earnings growth, the company has been able to easily maintain its $0.275 per quarter common share dividend. The payment has been held at this level since May of 2015. At its current rate, the payment annualizes to $1.10 per common share and yields 2.7%.
Stifel analyst Stanley Elliott believes that H&E is a go-to story for investors, and outlines why: “HEES continues to execute on its warm start strategy and still expects at least 10 openings in 2022. We view the accelerated growth potential from warm starts as a relatively unique attribute relative to peers which have less runway. We remain positive on the shares given this warm start strategy as well as a favorable footprint. We also see improving non-resi construction activity, rebuilding in FL, and infrastructure bill benefits as tailwinds into 2023. Despite these attractive growth drivers for the company, shares trade at a meaningful discount to peers while carrying a ~3% dividend yield.”
These bullish comments underpin Elliot’s Buy rating on HEES, while his $60 price target suggests shares will climb 47% higher over the coming months. (To watch Elliot’s track record, click here)
Looking at the consensus breakdown, other analysts are on the same page. With 4 Buys and no Holds or Sells, the word on the Street is that HEES is a Strong Buy. H&E shares are priced at $40.73 and their $52 average target implies a gain of ~28% gain in the next 12 months. As for small-cap credentials, H&E’s market cap stands just under $1.5 billion. (See H&E stock forecast on TipRanks)
Patrick Industries (PATK)
The next small-cap stock we’ll look at is Patrick Industries, a leader in the field of component products and building materials. These are made and sold by the company and geared toward several industries such as recreational vehicles (RV), manufactured housing (MH), marine and numerous other Industrial segments. The offerings include everything from countertops, flooring and bathroom/kitchen fixtures and laminated products to furniture, electronics & audio systems, appliances and more.
Via its nationwide manufacturing and distribution network, last year, the company delivered sales of +$4 billion, derived from its 70-plus subsidiaries, of which over 75% came from the RV/marine industries.
The company is on course to beat that figure this year in spite of the tough macro backdrop. In the latest quarterly report, for Q3, the company generated revenue of $1.11 billion, representing a 4.7% year-over-year increase. While that amounted to a sequential drop from the $1.48 billion generated in Q2, the figure came above Street expectations by $20 million. The company has also made a habit of beating the EPS forecasts and that was no different in Q3. The analysts were calling for EPS of $2.03 but Patrick delivered $2.43.
The company also declared a Q3 dividend, in August, of $0.33 per common share. This payment gives an annualized common share dividend of $1.32, which in turn makes the yield 2.75%.
Among the bulls is Truist’s 5-star analyst Michael Swartz, who is convinced the market has “yet to fully appreciate the structural enhancements PATK has made to its margin profile over the past 3-4 years.”
“Case in point,” the 5-star analyst went on to explain, “despite a worsening production outlook across all of PATK’s key end markets since it last reported (July), the company actually raised its full year margin expectations. While we do expect some YoY pressure on gross margin to continue into 1H23, we increasingly believe that the company can maintain 20% gross and 10%+ EBITDA margins even in a worsening macro environment.”
What does this all mean for investors, then? The analyst rates PATK shares a Buy backed by a $60 price target. Should the figure be met, investors will be pocketing gains of 25% a year from now. (To watch Swartz’s track record, click here)
Similarly, other Wall Street analysts have been impressed by PATK. It earns a ‘Strong Buy’ consensus rating thanks to the 3 Buys and 1 Hold assigned in the last three months. In addition, the average price target of $62.50 implies ~30% upside potential. (See PATK stock forecast on TipRanks)
To find stocks that have received the most bullish recent ratings from the Street, visit TipRanks’ Analysts’ Top Stocks tool. The tool also reveals which stocks have dropped the most over the last three months – enabling you to pinpoint the best stocks trading at compelling levels.
Disclaimer: The opinions expressed in this article are solely those of the featured analyst. The content is intended to be used for informational purposes only. It is very important to do your own analysis before making any investment.