By KRYSTLE CHOW
Published in the Ottawa Business Journal newspaper and website.
Jan. 28, 2008

Allen-Vanguard, Enablence, Orezone to build strength in share prices

2007 was a rollercoaster year for the three stocks we’ve chosen as the ones to watch in 2008, with both good and bad news aplenty.

Allen-Vanguard Corp., Enablence Technologies Inc. and Orezone Resources Inc. all saw huge price movements last year on announcements of key acquisitions, but insider trading investigations and contract awards to competitors, among other news items, spooked investors and led to a bumpy ride or two.

So what’s ahead for 2008? The OBJ spoke to the experts to get the inside scoop.

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ALLEN-VANGUARD

What happened in 2007:

The bomb-disposal equipment maker was flying high in 2007, as it announced a number of high-profile deals and acquisitions, until investors got the jitters late in the year.

Investors were clearly impressed by the company’s strong revenues, which jumped 69.2 per cent in fiscal 2007 to $96.2 million, its ability to raise financing, including a $300-million public offering in September, and its strategic acquisitions strategy, which led to the $650-million merger with local competitor Med-Eng Systems Inc.

However, on Dec. 10, Allen-Vanguard’s stock took a 40-per-cent tumble, falling to a low of $4.05 following the news that the U.S. Department of Defense had awarded a contract for electronic bomb jammer systems to Northrop Grumman, ITT and Sierra Nevada Corp., instead of to Allen-Vanguard’s partners Lockheed Martin and General Dynamics.

Allen-Vanguard CEO David Luxton called the heavy trading of the company’s stock an “extraordinary overreaction,” and the company said the announcement would have little impact on its revenues and earnings for fiscal 2008.

The experts’ prognosis for 2008:

Analysts who follow the company agree with Mr. Luxton, predicting that Allen-Vanguard’s stock price will rebound before long.

“The market got it wrong (in selling off the stock),” says Doug Cooper of Paradigm Capital, which has an investment banking relationship with Allen-Vanguard. “They are the incumbent technology; there are only a few companies in the world which supply this type of product and it makes sense that the U.S. wants to expand their suppliers, but it doesn’t jeopardize the relationship with Allen-Vanguard because it’s one of the leading products in the field today.”

Mr. Cooper also thinks the counter-terrorism market will stay strong, despite fears that the U.S. troops may pull out of Iraq if and when the Democrats take over the White House in 2009.

“I don’t see the commitment to counter-terrorism lessening … I think they’re actually going to increase the troops in Iraq,” he says, adding that he thinks the company’s stock is currently discounted to less than 50 per cent of its potential value.

Neil Linsdell of Versant Partners, who personally owns Allen-Vanguard stock, says even if a pull-out does occur, the concern that not as many jammers will be needed “doesn’t make sense” because the United States will then need to put the equipment in the hands of the Iraqi forces who will take over.

“Investors right now are much more cautious than they really need to be. There’s a significant amount of ongoing business,” says Mr. Linsdell, who forecasts that the stock will rise to the $6 to $8 range by February, and then comfortably hit his target price of $10.50 before year-end.

“The company’s participation in the CREW3 (jammer program with the U.S. military) seemed like almost a slam dunk previously and now there is uncertainty, but Allen-Vanguard’s still got a very significant program going with the U.S. Marines until 2013, equipping 15- to 20,000 vehicles, and then there’s service and maintenance revenues, so it’s still a $120-million business after the jammers are installed,” Mr. Linsdell added.

Catalysts to watch:

Allen-Vanguard’s first-quarter results in mid-February, which will show the impact of its acquisitions and any follow-on orders from the U.S. military; new large partnerships like the General Dynamics and Lockheed Martin agreements; the company’s ability to refinance its $200-million in debt at a lower interest rate.

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ENABLENCE TECHNOLOGIES

What happened in 2007:

Enablence started off last year with a string of major customers under its belt, even though the company was not quite ready to begin high-volume production of its optical modem component products.

The Fibre-to-the-Home (FTTH) product maker’s stock opened 2007 at 60 cents on the TSX Venture Exchange and it proceeded to make its presence known by ramping up production and completing a $15-million financing round.

In March, its stock rose past the $1 mark as it announced its US$4.1-million acquisition of Swiss company Albis Optoelectronics, which makes the high-performance photodiode chips used in Enablence’s planar lightwave circuit (PLC) transceivers, with the share price rising as high as $2 in the spring of 2007.

But news that the company was under investigation by the Ontario Securities Commission for the timing of stock options granted to directors, officers and employees stalled plans to raise $55 million in a public offering and pushed the share price back down to a low of $1.01 at the beginning of June. The investigation ended without any suggestion of wrongdoing.

In October, Enablence proceeded with its offering and raised $57.5 million, more than it had previously expected. Its share price then began a steady climb, helped along by its December announcement that it had completed the key Telcordia qualification which indicated that its low-cost PLC product was highly reliable. The stock reached a peak of $2.99 on New Year’s Eve.

The expert’s prognosis for 2008:

“We think this is the most compelling small-cap story on the Canadian telecom landscape,” says Dev Bhangui, an analyst with Haywood Securities.

His target price for Enablence’s stock is $3.50, although he notes that he “won’t be surprised” if it jumps beyond $6 by the end of the year.

Mr. Bhangui, who personally owns Enablence stock and whose company was involved in the $57.5-million financing deal, says Enablence’s product is a “key enabler to the FTTH dream coming true,” as its rugged, simplistic and relatively inexpensive-to-produce design is a boon for telcos who are currently forced to rely on FTTH products which are extremely fragile and require special enclosures, making them more expensive to produce and ship.

He also pointed to the recent Telcordia qualification as the “final stamp of approval” for Enablence’s product and a top factor for the stock’s recent surge.

“The product already had commitments but no one could install it formally, though it was well-known. The stock price just shot up because now Enablence can ramp its production volume and deliver it to tier-two and tier-one telcos,” Mr. Bhangui says, adding that he expects the company’s production levels to increase to 100,000 chips per month by the mid-year mark, from just 10,000 chips a month at the moment.

Enablence has also cut off its competition with its purchase of Albis Optoelectronics, since the Swiss company is one of the very few high-quality suppliers of the photodiodes needed for FTTH products like Enablence’s. The acquisition also allows the company to gain total control of its intellectual property, as well as to get its product out in the shortest possible time.

“It’s an industry-disruptive solution and a category-killer; others are still trying to develop similar next-generation products … (but) Enablence can already gallop ahead and start shipping to tier-one customers such as Verizon by an April timeframe,” says Mr. Bhangui, who notes that his research has indicated the closest competitor will likely only get to where Enablence was in October 2007 by mid-year.

Catalysts to watch:

Enablence had already started 2008 with another acquisition to cement its hold on critical IP and head off the competition. Earlier this month it bought California photonics products manufacturer ANDevices Inc. for US$33 million in cash and shares. ANDevices supplies the wafers used in Enablence’s transceivers.

But to drive market domination, Enablence’s product must have “absolutely no flaws” as telcos have to guarantee that their networks are 99.9999 per cent reliable. Another risk factor is how quickly people will adopt optical modem technology and how much they are willing to pay for it. Also, a significant slowdown in the U.S. housing market may cause key customer Verizon to scale down FTTH rollouts.

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OREZONE RESOURCES

What happened in 2007:

The gold mining company’s stock saw quite a few peaks and valleys in 2007, climbing from its opening price of $1.65 last January, to an all-time high of $2.99 at mid-year, before dipping to a $1.10 close at the end of 2007.

While Orezone did see several small developments at its mining projects throughout western Africa, the biggest story of the year came when the company bought out its larger partner at a time when gold prices hit record highs. Its partner, gold giant Gold Fields Ltd., owned a 60-per-cent share in Orezone’s main gold mine in Burkina Faso.

The buyout deal, completed in November after Orezone successfully raised more than US$200 million in financing for the transaction, graduated the Ottawa firm from junior exploration firm to intermediate producer.

And with production costs at only US$356 per ounce of gold, and gold prices surging beyond the $900-per-ounce mark, 2008 is set to be a good year for Orezone investors.

The experts’ prognosis for 2008:

Analysts say Orezone’s stock price is likely to play catch-up this year and rise to around US$2.20 or $2.30 per share, especially as it has managed to allay some fears about its financing risks after the Gold Fields buyout.

“In the past few months, there’s been a lot of pressure on the stock because (the Gold Fields buyout deal) was a large transaction announcement, with a small company taking a very large bite … people were concerned it was too big of a bite,” says Brad Humphrey of CIBC World Markets in explaining why Orezone’s stock has dropped so low recently. “But now that’s behind them, the deal is done and they’ve purchased the asset and they’re … partway through their financing risk, so it should be better this year.”

Mr. Humphrey, whose 12-month to 18-month target price for Orezone is US$2.35, says the transaction makes the company a “more relevant player” in the gold mining space, although it also means Orezone is “driving (its) own destiny” – which could also lead to it owning 100 per cent of a project gone wrong instead of only 40 per cent.

“Orezone is at the smaller end of the market capitalization scale as a developer-category company; the large and liquid companies are producers, while the smaller stocks are harder to exit,” adds Raymond James analyst Paul O’Brien.

“The further away a company is from production, the more penalized you are when volatile moves in gold occur.”

However, Mr. O’Brien has an “outperform” rating on Orezone’s stock and expects its price to reach US$2.20, especially with the 20-per-cent increase in the price of gold heading into the first quarter of 2008.

“The whole sector had a big move in 2007, but 2008 ought to play out pretty well for gold and equities,” says Mr. O’Brien, who notes that gold equities underperformed actual gold prices in 2007 and fell by an average of four to five per cent.

“As the market becomes more comfortable, Orezone’s stock price will likely move back to where it was before the buyout deal was announced, or higher,” Mr. Humphrey says. “I think they’ll be successful at getting financing at attractive rates and at building the mine, so the stock should see a positive 65-per-cent or 70-per-cent movement over the next year or year and a half.”

Catalysts to watch:

The price of gold; what’s left of Orezone’s financing needs and its success in raising the funds; the catching up of gold equities.