5 of the top ASX small-cap stocks for investors to watch

What are small-cap stocks?

While they involve greater risk than their large-scale peers, small-cap stocks also bring the promise of more lucrative rewards given their higher growth potential as modest-sized companies.

A small-cap stock is generally defined as a company with a market capitalisation of between several hundred million to $2 billion.

As a result of this smaller size, they are often overlooked by both institutional and retail investors – especially given that players such as mutual funds will only invest in companies that have exceeded a certain market capitalisation threshold.

Small-cap stocks are also often overlooked by pundits and financial reporters, who prefer instead to focus on bigger companies with higher profiles and much larger market values.

Investors should still lend some attention to small-cap stocks, given their modest scale comes with potential advantages. By definition, they have far greater growth potential than large-scale companies that may have already maxed out in size. For this reason, small-cap stocks have the potential to deliver far greater capital gains.

Investors should also remain well aware, however, of the risks that accompany this greater growth potential. These include greater volatility during periods of market uncertainty and lower liquidity due to a smaller pool of interested buyers and sellers.

Smaller, fledgling companies can also be riskier investment propositions than larger companies, given they may not have established markets or access to favourable financing terms.

Despite the comparative lack of attention given to them, most of the roughly 2,000 companies that are listed on the ASX are categorised as small-cap shares. The benchmark indicator for the ASX small-cap share market is the S&P/ ASX Small Ordinaries Index (ASX: XSO), which is designed to measure companies included in the S7P/ASX 300 but not in the S&P/ASX 100.

The top 5 ASX-listed small-cap stocks to watch

Here is a list of five of the top ASX small-cap stocks to consider, for those investors who consider them an acceptable choice given their current risk/reward preferences.

1. Capitol Health Ltd (ASX: CAJ)

2. Kelsian Group Ltd (ASX: KLS)

3. AVITA Medical Inc (ASX: AVH)

4. Frontier Energy Limited (ASX: FHE)

5. Universal Store Holdings Ltd (ASX: UNI)

Capitol Health Ltd (ASX: CAJ)

Capitol Health Ltd is a medical imaging network with 66 practice locations situated in communities around Australia. The company has more than 1000 staff, including over 100 radiologists, who provide diagnostic imaging and related services via its nationwide network. Capital Health conducts over 1.2 million procedures each year for health clients.

Bell Potter has reaffirmed its buy rating and 29 cents price target for the company. Analysts from the broker expect the company to pay dividend yields of 4.1% each year over the next several years.

While Bell Potter expects earnings to falter under inflatinoary pressures, analysts believe this is already factored into current valuations.

Kelsian Group Ltd (ASX: KLS)

Public transit provider KLS-AU recently acquired All Aboard America, in a move that analysts have described as potentially transformational, granting the company access to the vast US market.

The company now has operations in Australia, Singapore, the UK and the US, covering the provision of charter services and transit services to clients from the government, corporate, education, LNG and tourism sectors.

Australian find manager IML is optimistic about the company, higlighting the potential for increased US earnings next year, making it one of the cheaper defensive and low risk growth stocks on offer.

AVITA Medical Inc (ASX: AVH)

Avita Medical Limited is a regenerative medicine company that develops and markets a range of regenerative products in markets including Europe, the Middle East, Africa and Australia.

Its flagship product is the ReCell spray-on skin used for the treatment of burns and skin defects. The technology works by using small samples of a patient's own cells in a procedure that takes less than half an hour, and does not require off-site tissue cultures, laboratory facilities or specialised technical staff.

Analysts at Morgans are bullish about AVITA, on its plans to expand into treatments for full thickness skin defects and vitiligo, which represents a total addrssable market of around USD$5 billion.

Morgans currently has an add rating at a $6.40 price target for AVITA's shares.

Frontier Energy Limited (ASX: FHE)

Frontier Energy is another ASX-listed penny stock that could see its share price rise on mounting demand for clean energy alternatives. The company focuses on the generation of hydrogen as a fuel source using solar energy facilities, in a process dubbed 'green hydrogen.'

Frontier's flagship Bristol Springs project in Western Australia has potential hydrogen production of 4.4 million tonnes per annum at a cost of $2.83 per kilogram, according to a pre-feasibility study conducted in 2022.

Frontier also enjoys baacking from Western Australia's state government, which issued a statement of support for Bristol Springs after the company entered a binding agreement with Water Corporation to secure water for the project in March 2023.

Universal Store Holdings Ltd (ASX: UNI)

Universal Store Holdings Limited is a specialist retailer of casual apparel, footwear and accessories for the youth market. The company's key brands include Universal Store, Thrills and Perfect Stranger, with nearly 100 outlets around Australia.

Analysts from Bell Potter are upbeat about Universal due to its rollout of new stores and opportunities to improve margins via the sale of majority private label sales.

The broker has a buy rating for Universal, with a price target of $6.15. Bell Potter expects over 5% dividend yields for Universal both this year and next year.

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