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Britain is no longer the workshop of the world, but don't sleep on London’s technology shares

London's occasionally under-celebrated technology sector has plenty to offer investors, especially those seeking capital appreciation over income yield

Software developers
Software accounts for 99 of London's 128 technology sector constituents

The days of Britain being the industrial workshop of the world may be long gone but when it comes to knowledge-based sectors such as technology, it still carries some clout.

London’s junior market has three sectors that could qualify as falling under the banner of technology: technology hardware & equipment; mobile communications; and software & computer services.

By far the biggest, with 99 representatives, is the software & computer services list, which includes some big names such as financial services-focused First Derivatives PLC (LON:FDP) and automation and robotics specialist Blue Prism Group PLC (LON:PRSM), both of which are billion pound companies.

Technology hardware & equipment

The technology hardware & equipment cadre comprises 20 companies, of which IQE PLC (LON:IQE), a supplier of advanced wafer products to the semiconductor industry, is by far the biggest, with a market capitalisation of around £920mln.

The mobile telecommunications division, meanwhile, contains just seven companies, with telephone and broadband specialist Gamma Communications PLC (LON:GAMA), valued at around £700mln, fulfilling the role of the 800 lb gorilla.

Not that big is necessarily beautiful in this sector; part of the appeal of investing in technology stocks is picking a winner with a brilliant idea that it can either scale-up very quickly – a case in point might be WANdisco PLC (LON:WAND), which has ridden the “big data” wave with its LIVE DATA platform – or can sell to a bigger, more established rival that might, perhaps, feel threatened by the new technology.

Intellectual property in incubation

Although Britain has yet to produce its own global technology blockbuster to rival Google, Facebook or Amazon – the nearest it has come is probably ARM Holdings, the chip designer that was taken over by Japan’s SoftBank for £24bn – it fares well in what might be termed, the niche areas.

In this regard, it is helped by the plethora of bright ideas coming out of Britain’s universities, many of which are being “incubated” by intellectual property (IP) companies such as Frontier IP Group PLC (LON:FIPP).

From an investor’s perspective, these IP companies are a bit of a “slow burn” in that it takes time to develop the incubator companies.

In this regard, investing in an IP developer is more like investing in an investment trust in that the net asset value, rather than profitability, is probably the key metric to watch.

The main problem here is that until what is usually termed a valuation event – such as an outside investor buying a stake in one of the portfolio companies – it is difficult to place a fair valuation on the assets.

Patience is the watchword and it is wise to go with an IP development company that has a track record in bringing home the bacon.

Investment skewed towards capital appreciation

Outside of the IP developers, it is often the case, seen across the whole of the technology sector, of a company engaging in a land grab, almost always at the expense of profitability, in an attempt to establish itself as the dominant player in a sector.

Simply put, the number of technology companies on AIM that pay dividends is small - there are half a dozen among the technology hardware & equipment players, 30 or so among the software companies and just one among the mobile telecommunications crew.

As such, it is a sector for investors that prefer to go for capital appreciation.

We can all think of companies that have earned a high valuation without having yet made a bean – has Twitter made a profit, yet? - and as mentioned in the opening paragraph, this is a field where Britain has a decent track record.

According to data from London & Partners, the Mayor of London’s promotional company, the UK’s technology sector drew more investment than that of any other European country in 2016.

AIM's relatively bureaucracy-free set-up, almost makes it appealing to technology companies from overseas, particularly those from the US and Israel.

Things move quickly in the technology sector and for investors, the motto might be the phrase they used to cry out at funfairs (and possibly still do, for all I know): hold on tight for a fast ride.

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