Specialist tech and engineering recruitment agency Gattaca (GATC:AIM) implies it could have avoided a profit warning on 13 April by cutting costs. Instead it made the decision to continue investing in the business in the hope of longer-term gains.

Gattaca has suffered from a higher cost base and subdued net fee income amid softer demand, clients taking longer to make hiring decisions in the UK, as well as some projects being delayed.

Some of the higher costs relate to setting up overseas offices as well as delays in realising back office cost savings.

EYE ON LONGER TERM PRIZE

Chief executive Brian Wilkinson says he didn’t want to take short term actions on costs to maintain profitability, preferring instead to keep spending money if it puts Gattaca in a stronger position to capitalise on overseas opportunities down the line.

He says there is a growing demand for specialist recruitment firms in developing markets which is the driving force behind ongoing investment.

For example, an engineering operation has been established in China which the CEO forecasts to be one of the company’s key international growth drivers over the coming months alongside the US.

We note that another UK-listed staffing agency, Robert Walters (RWA), recently said ‘in Shenzhen and Guangzhao they need engineers, not lawyers’. That market backdrop should, theoretically, benefit Gattaca’s Chinese business given its engineering focus.

ACQUISITION SETBACK

Gattaca acquired former AIM-quoted rival Networkers in 2015 to boost its presence both at home and overseas. Unfortunately Networkers appears to have been a bit of mixed bag.

The business is highly dependent on a small number of telecom vendor clients and there has been volatility driven by changes in those clients’ workload.

Broker Numis describes the recent profit warning as ‘disappointing’ although retains its ‘buy’ rating.

It forecasts pre-tax profit falling 19% to £16.5m in the year to July 2017, before recovering to £20m in 2018.

CAN IT AFFORD THE DIVIDEND?

Gattaca is forecast to pay 23p per share dividend in 2017 and 2018, implying a prospective 8.2% dividend yield.

We would heed caution with prospective yields in excess of 6% as higher figures are the market’s way of saying it doesn’t believe the dividend is sustainable.

Numis’ financial model implies Gattaca will generate £9.1m in free cash flow in the year to July 2018, and pay out £7.2m in dividends. That doesn’t leave much room for further business investment unless it takes on more debt.

We are therefore sceptical over Gattaca’s ability to sustain dividends at 23p unless earnings really pick up. (DS)

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