How Should You Think About Carl Data Solutions Inc's (FRA:7C5) Risks?

For Carl Data Solutions Inc’s (DB:7C5) shareholders, and also potential investors in the stock, understanding how the stock’s risk and return characteristics can impact your portfolio is important. Generally, an investor should consider two types of risk that impact the market value of 7C5. The first risk to consider is company-specific, which can be diversified away when you invest in other companies in the same industry as 7C5, because it is rare that an entire industry collapses at once. The second type is market risk, one that you cannot diversify away, since it arises from macroeconomic factors which directly affects all the stocks in the market.

Different characteristics of a stock expose it to various levels of market risk. The most widely used metric to quantify a stock's market risk is beta, and the market as a whole represents a beta of one. A stock with a beta greater than one is considered more sensitive to market-wide shocks compared to a stock that trades below the value of one.

What is 7C5’s market risk?

Carl Data Solutions’s five-year beta of 1.14 means that the company’s value will swing up by more than the market during prosperous times, but also drop down by more in times of downturns. This level of volatility indicates bigger risk for investors who passively invest in the stock market index. Based on this beta value, 7C5 can help magnify your portfolio return, especially if it is predominantly made up of low-beta stocks. If the market is going up, a higher exposure to the upside from a high-beta stock can push up your portfolio return.

Could 7C5's size and industry cause it to be more volatile?

With a market cap of €6.39M, 7C5 falls within the small-cap spectrum of stocks, which are found to experience higher relative risk compared to larger companies. Furthermore, the company operates in the internet industry, which has been found to have high sensitivity to market-wide shocks. Therefore, investors may expect high beta associated with small companies, as well as those operating in the internet industry, relative to those more well-established firms in a more defensive industry. This is consistent with 7C5’s individual beta value we discussed above. Next, we will examine the fundamental factors which can cause cyclicality in the stock.

How 7C5's assets could affect its beta

An asset-heavy company tends to have a higher beta because the risk associated with running fixed assets during a downturn is highly expensive. I test 7C5’s ratio of fixed assets to total assets in order to determine how high the risk is associated with this type of constraint. Considering fixed assets account for less than a third of the company's overall assets, 7C5 seems to have a smaller dependency on fixed costs to generate revenue. Thus, we can expect 7C5 to be more stable in the face of market movements, relative to its peers of similar size but with a higher portion of fixed assets on their books. However, this is the opposite to what 7C5’s actual beta value suggests, which is higher stock volatility relative to the market.

What this means for you:

You may reap the gains of 7C5's returns during times of economic growth by holding the stock. Its low fixed cost also implies that it has the flexibility to adjust its cost to preserve margins during times of a downturn. I recommend analysing the stock in terms of your current portfolio composition before deciding to invest more into 7C5. What I have not mentioned in my article here are important company-specific fundamentals such as Carl Data Solutions’s financial health and performance track record. I highly recommend you to complete your research by taking a look at the following:

1. Financial Health: Is 7C5’s operations financially sustainable? Balance sheets can be hard to analyze, which is why we’ve done it for you. Check out our financial health checks here.
2. Valuation: What is 7C5 worth today? Is the stock undervalued, even when its growth outlook is factored into its intrinsic value? The intrinsic value infographic in our free research report helps visualize whether 7C5 is currently mispriced by the market.
3. Other High-Performing Stocks: Are there other stocks that provide better prospects with proven track records? Explore our free list of these great stocks here.

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Simply Wall St analyst Simply Wall St and Simply Wall St have no position in any of the companies mentioned. This article is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.