Gamble of the week: A beaten-up set-top box stock

Life hasn’t always been easy for this company, which is best known for making television set-top boxes for companies such as BSkyB. For much of the last decade, it has been struggling with one problem or another.

In the mid to late 2000s the company could best be described as a mess. It was losing money and cash was pouring out of the door at an alarming rate. Then, in 2011, it issued three profit warnings which saw its share price come crashing down.

2012 saw the beginnings of a turnaround plan which has restored the company to good health. The company’s prospects now look a lot better.

However, that doesn’t mean that investors still haven’t had a rocky ride. The shares are down by a third from their 2014 peak and sentiment towards them hasn’t been helped by the recent departure of the company’s finance director.

Yet, I can’t help thinking that Pace (LSE: PIC) shares are looking very cheap just now. It has strong positions in the TV set-top box market with customers such as BSkyB, Canal+ and Virgin Media in Europe.

These are complemented by major operators such as Comcast, DirecTV and AT&T in the US as well others across the globe. This market is evolving fast, which could be good news for Pace. 

Most of Pace’s TV customers are now offering their customers the ability to do more with their boxes. It is no longer enough just to offer hundreds of TV channels, the boxes have to become media centres which can access the internet. This is where Pace’s recent acquisition of Aurora Networks could come in handy.

Pace share price chartThis business specialises in allowing consumers to use more data by boosting bandwidths. This could be very attractive, considering that households increasingly want to stream stuff over the internet on different devices at the same time.

Add on the cost savings from integrating Aurora into Pace and it looks as if there’s potential for some decent profits growth over the next few years. And Pace has
the added attraction of being able to generate lots of free cash flow.

So how does this all stack up? Well, at 290p, the shares trade on a prospective 2014 price/earnings ratio of 9.4 times falling to 8.7 times in 2015. With expected free cash flow of over $200m in 2014 they also offer a chunky free cash flow yield (free cash flow per share divided by the share price) of 12.9%.

Yes, there are risks. The likes of Amazon and Apple want to grow their streaming businesses and have lots of firepower and customer clout. That said, Pace
shares look cheap enough for a punt.

Verdict: buy at 290p