When Looking for Diamonds in the Rough, Small Cap Hunting is the Name of the Game

Many investors are looking for a diamond in the rough — a company to invest in that has the potential for immense growth. Finding overlooked growth potential before the market can lead to significant returns.

When looking for diamonds in the rough, Yazan Al Homsi recommends investors focus on small-cap investments. Al Homsi is a small-cap specialist and an experienced managing partner in the venture capital market. He has helped many innovative, emerging companies grow and gain the momentum required to succeed.

These are Al Homsi’s insights into the small-cap investing space.

The Growth Potential of Small-Cap Investments

Before focusing on small-cap investing, Al Homsi worked with PricewaterhouseCoopers (PwC) for over 10 years. During this time, he investigated the large-cap investment space, looking for areas to generate alpha.

Through his research, Al Homsi realized that small caps often have a much stronger ability to beat the market than large caps. Investors tend to overlook small caps, which presents the opportunity to invest in these ventures early at a lower price. Early investment can result in higher profitability when the market catches up to the company’s growth potential.

Few investors look at small caps “because the space requires a lot of work.” There is also “an element of inconvenience that has an impact.” Small caps aren’t as easy to buy as large caps, which investors can typically access through stock exchanges like the NASDAQ. But the right small cap can make this effort worth the investment.

Medicago: Finding the Right Diamond in the Rough

One of the earliest small-cap successes Al Homsi oversaw was the growth of Medicago, a Canadian pharma company.

When Al Homsi became involved in the company, Medicago had a market cap of less than $10 million. In 2013, Philip Morris and Mitsubishi Pharma acquired Medicago for $357 million.

Medicago’s success proved to Al Homsi that the small-cap space was the place to search for more investment opportunities.

“It showed me how much significant alpha you can create if you find the right diamond in the rough,” he says. However, these small-cap investments are “very difficult to find.”

Important Small-Cap Investing Factors: Timing and Business Models

Pairing The Right Investment Thesis With the Right Timing

Al Homsi says that “timing is everything” when it comes to discovering small caps with vast growth potential.

During the Covid-19 pandemic, companies like Teladoc and Shopify offered huge returns. However, these returns swiftly diminished as soon as government regulations tightened.

Nevertheless, Covid-19 reshaped the small-cap investments landscape, ushering in numerous new trading platforms. This sparked an increase in the valuations of several small-cap stocks.

This is a positive development for small-cap investors who once faced significant hurdles when attempting to invest in nano- and micro-cap stocks. In the past, these stocks were only accessible through full-service brokers.

Sustainable Business Models

Al Homsi cautions investors that a high market valuation doesn’t necessarily indicate a sound investment.

For instance, after Canada began to legalize cannabis in 2016-18, many companies entering the cannabis space received “massive valuations” just because they had a license. Many of these companies developed pharma-driven business models, but not all of these models promised to generate revenue.

“It made no sense to me,” Al Homsi says. A sustainable model must involve “a path to make revenue.” As he had seen with Medicago, a pharma-driven business model can often present difficulties. The alternative was to generate sales by creating a product.

Because of Al Homsi’s experience overseeing the Medicago acquisition, other businesses sought his help and expertise. Al Homsi still has a stake in one of these cannabis enterprises, which has evolved from its inception to generating close to $9 million in revenue.

In addition, Al Homsi assisted a company in the emerging field of remote patient monitoring. When he came aboard, the company was in the initial phases of developing its patient software. Thanks to his guidance, the company successfully secured contracts and gained traction in the U.S. The small-cap market subsequently became aware of the company, propelling its growth.

Yazan Al Homsi’s Small-Cap Advice for Investors

There are several things investors can do to discover valuable small-cap investment opportunities. In particular, Al Homsi looks for emerging companies with robust business strategies, compelling stories, and exceptional management.

When it comes to investigating the growth potential of a business, investors may want to speak to the company’s management team.

By talking with management teams, investors can gain a better understanding of the company’s broader context and its chances of success. In the case of a tech company, investors may wish to speak to the chief technology officer or request a demo of their software.

While it’s feasible to find information about large or mega caps online, delving deeper often requires direct communication with the company. However, it can be tricky for investors to schedule time with the leaders of large or mega caps.

Meanwhile, it’s often easier to speak directly to the management teams of small caps. Al Homsi highlights this difference in accessibility by comparing the likelihood of scheduling a call with the CEO of a smaller company with, for instance, the CEO of Apple.

Al Homsi says this improved access to small caps “really makes a big difference” as it allows investors to “actually do better due diligence.”

About Yazan Al Homsi

Yazan Al Homsi is an entrepreneur, investor, and chartered financial analyst (CFA). He is currently a managing partner of Founders Round Capital and Catalystwire Communications DMCC.

Before managing these companies, Al Homsi worked with PwC for more than a decade. He started with the company in a mergers and acquisitions (M&A) and initial public offering (IPO) advisory role and became a director in 2015. He also has experience working in sales for Imperial Oil.

Yazan Al Homsi’s Small-Cap Experience in Vancouver, Canada

Al Homsi has worked in Canada for years and developed a network of small-cap contacts both in Canada and abroad. Vancouver’s knowledge-based economy, characterized by high growth and a low carbon footprint, presents investors with many excellent opportunities.

Al Homsi launched his investment company Founders Round Capital in Vancouver in 2017. The company invests in small-cap stocks and guides these companies through the private to public route.

Follow Yazan Al Homsi on LinkedIn.

This article does not necessarily reflect the opinions of the editors or management of EconoTimes