Investors are giving high-risk growth stocks a wide birth at the moment but that makes Dillistone’s (DSG:AIM) low valuation, strong growth trajectory, cash generation potential, robust balance sheet and promised dividend payouts all the more appealing. The London-based £18.1 million cap supplies enterprise resource planning (ERP) software specific to the recruitment industry. Its product Filefinder serves the headhunter market while the Voyager Infinity module sells into the short-term staff placement space.

While the company is small it is using the AIM listing to access funding to act as a consolidator in what remains a fragmented niche space. This buy-and-build strategy should add extra value to a stable and reliable organic growth story. The company chalked up its fourth year straight of double-digit revenue growth in 2013, delivering a 15% top line increase to £8.1 million. Pre-tax profits, adjusted for acquisition costs, rose 7% to £1.8 million while adjusted earnings per share (EPS) marched ahead 11% to 7.99p.

Timely mergers and acquisitions (M&A), combined with substantial investment in developing the software product suite, is clearly paying-off. That growth is particularly impressive considering parts of the wider executive search space are contracting, demonstrating Dillistone’s ability to grab market share.

Overseas growth

Growth opportunities exist globally in this fragmented market but especially outside the UK. Less than 25% of last year’s revenue was secured overseas, where the company has operations in the US and Australia. Further expanding that footprint remains a key goal. Having successfully completed the integration of its last buyout target, the rough £2 million purchase of FCP Internet Holdings a year ago, a new push for acquisitions looks likely sooner rather than later.

As part of the M&A drive the company will seek to grow recurring revenue streams. Of last year’s £8.1 million sales, nearly £5.3 million (roughly 65%) was accounted for by reliable, repeat business and what’s more, recurring revenues are rising faster than the overall rate, up 16% in 2013. That lends an increasing visibility to future sales and offsets some of the cyclicality in the company’s markets.

Analysts at broker WH Ireland believe Dillistone is trading at a rough 25% discount to its peers. UK-based competitor Bond International Software (BDI:AIM) enjoys a near 15% premium to the group despite its long-run struggle and a lower prospective dividend yield of 2.1% for 2014. Dillistone has a lengthening growth and profits track record, and remains debt free and highly cash generative, with £1.4 million net cash on the books.

WH Ireland anticipates a 10% free cashflow yield this year. As for income, Dillistone is expected to pay a 4.2p per share dividend in 2014, up from last year’s 3.85p, rising to 4.7p in 2015, putting the prospective yield at 4.2% and 4.7% respectively. A share price re-rating to 140p (WH Ireland’s target price) would imply a 3.4% yield for 2015, more appropriate for a clearly reliable growth stock.

Dillistone (DSG:AIM) 99.5p BUY

Stop loss: 79.5p

Market value: £18.1 million

Prospective PE Dec 2014: 11.8

Prospective PE Dec 2015: 10.6

1-month relative strength: -4.4%

1-year relative strength: +18.2%

Prospective dividend yield: 4.2%

Bid/offer spread: 4.9%

Acquisitions are being used to supplement organic growth and expand the firm’s geographic footprint

Risk: MEDIUM

Sub-scale operations and the model’s cyclicality remain issues, although rising recurring revenues should help offset the risks

Quality: HIGH

A good growth track record against a partly contracting market is impressive, while a robust balance sheet and attractive yield are a plus