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3 compelling growth stocks that directors are buying

As the old saying goes, directors sell for many reasons, but buy for only one. Though some directors buy symbolic and small parcels of shares in order to give the impression of supporting the company, generally speaking, extensive director buying is a signal that insiders have confidence in the business. You won’t often see directors of blue-chip companies like Rio Tinto Limited (ASX: RIO) buying shares at market prices, and too few investors question why that is.

One company that has seen its boss buy on market recently is Paragon Care Ltd. (ASX: PGC), a growing supplier of surgical instruments, medical equipment and medical consumable products. In the last nine months the Managing Director, Mark Simari, has bought almost $50,000 worth of shares (though in July last year a different director sold far more – at slightly above current prices). Director Mark Newton has also been buying small parcels of shares.

The company is in the process of integrating its recent acquisition, and says that the current annualised EBITDA of the business is approximately $2.8m. If you set aside $800,000 for Interest, Depreciation and Amortisation, this suggests annualised earnings would be around $2 million, considering the company has accumulated losses, and may not have to pay much tax. At a glance, it looks quite cheap with a market cap of $18 million plus debt of around $4 million. Pleasingly for shareholders, the company has begun paying a dividend.

My main concern with Paragon is that future cashflows and dividends are hard to predict because sales are primarily driven by capital expenditure orders and therefore quite lumpy. Certainly, the indifference of the federal government to healthcare needs does not bode well, in the short term.

I think the company’s strategy to acquire other medical suppliers is sensible, because it will bring synergies and economies of scale. However, it is important that the price paid is reasonable, especially given the company has stated its intention to take on more debt to fund “a key acquisition” after undertaking due diligence. I don’t like debt funded acquisition strategies as a general rule, although the low interest rate environment should help.

Personally, I’m more excited about Pro Medicus Limited (ASX: PME), a healthcare-focused software engineering company that sells Picture Archive Communication Systems (PACS) and Radiology Information Systems (RIS). Director Roderick Lyle bought over $15,000 worth of shares at the end of 2012, and in April this year, chairman Peter Kempen bought about $25,000 worth. CEO Sam Hupert bough $28,000 worth less than two months ago, albeit at slightly below today’s prices.

One of the main reasons I like the company is that 80% of its revenues are recurring in nature. Also, the PACS system is perfect for an environment where medical image file sizes are continually increasing, because it allows physicians to view the images without downloading them to their particular device. The company already pays a dividend and can afford to keep paying that dividend as it has over $15 million in cash. Finally, cashflow is considerably stronger than actual earnings, due to significant amortisation.

However, there are significant risks because the company faces deep-pocketed competitors like Siemens, General Electric, Phillips, and McKesson Corporation. Furthermore, governments often try to restrict diagnostic imaging because it is expensive (and they want to reduce public health expenditure). Of course, this often backfires because it can delay treatment where it is required. Do recall that the company is priced for growth.

Finally, Redflow Limited (ASX: RFX) looks like it may succeed in commercialising its zinc-bromine battery modules. A recent oversubscribed capital raising saw three out of four directors participate. Director Richard Aird spent $50,000 on new shares while chairman Howard Stack spent over $230,000. There is no doubt he is a champion of the new technology. Please note that these purchases were made at 11c – less than half the current share price.

Redflow’s share price is up a whopping 50% since I mentioned its prospects about two weeks ago. I would not rush in while the shares are hyped up (i.e. now), but I do have to say that the recent master supply agreement with Schneider Electric bodes well. The fact that Redflow has also done trials with Emerson Network Power and Raytheon suggests that its battery technology has practical (and profitable) uses.

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Motley Fool contributor Claude Walker (@claudedwalker) owns shares in Pro Medicus, and has an indirect interest in Redflow.

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