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Why Investors Should Be Wary Of This Massive 2,160% Winner

ISR Capital Ltd (SGX: 5EC) has got to be one of the best performing stocks – if not the best – in Singapore’s market in the month of May.

Starting from a price of S$0.005 on 1 May 2016, ISR Capital’s shares have gone on to gain an astounding 2,160% with them exchanging hands at S$0.113 apiece right now.

Investors may want to tread with caution with this big winner however.

One big reason is the company’s valuation. At its current price, it is valued at 42 times trailing earnings and 15 times its book value. For perspective, the SPDR STI ETF (SGX: ES3) – an exchange-traded fund that tracks the fundamentals of the Straits Times Index (SGX: ^STI) – has a price-to-earnings and price-to-book ratio of just 11.6 and 1.1, respectively.

Moreover, ISR Capital has hardly had any operating track record. According to data from S&P Global Market Intelligence, the company’s highest revenue over the past five years from 2010 to 2015 was just S$1.2 million. That was achieved in 2013, a year in which ISR Capital had also clocked a loss of S$43 million.

The company made an announcement on 20 May 2016 that it had signed a memorandum of understanding (MOU) with REO Magnetic Pte Ltd. The MOU could see ISR Capital and REO Magnetic enter a formal agreement that would see the former either invest in the latter, or buy over a part of the latter’s stake in a mining company in Madagascar.

The mining company has a “current permit to explore, develop and operate a concession” in a province of the Republic of Madagascar. According to studies by SGS Canada Inc., the concession has “significant mineralization of rare earth elements.”

In ISR Capital’s announcement on the MOU, the company stated that the global rare earth metals market is predicted to grow by 13% annually to hit US$8.19 billion by the end of 2018. These figures make it seem like ISR Capital has significant room to grow.

But, it’s worth noting that mining for rare earth elements is a tough business. Australia-listed Lynas Corporation Limited prides itself as the “only sustainable miner and producer of Rare Earth products outside of China.” Yet, the company has had a painful operating history.

It has clocked a loss in its last two completed fiscal years and in iis most recent half-year earnings, the company continued with its loss-making ways, spilling A$66 million in red-ink on its profit-and-loss statement. Positive operating cash flow has also been largely elusive for Lynas, with it burning through a total of A$135 million in operating cash flow in its last two fiscal years.

Just to be clear, I’m not trying to showcase how good or bad Lynas Corporation is. The point is to highlight how challenging the rare-earth mining business can be.

A Fool’s take

In sum, ISR Capital is a company that has (1) a poor track record, (2) expensive valuations, and (3) a new business opportunity that may not be easy to achieve success in. When these are all put together, investors may want to approach ISR Capital with their eyes wide open to the risks involved.

(And interestingly, ISR Capital was also found to have links with the trio of companies that were part of Singapore’s infamous October 2013 penny stock saga.)

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore writer Chong Ser Jing doesn't own shares in any company mentioned.