The investing world is often broken down into two broad camps: growth and value. The growth group looks for companies with earnings that are advancing at a material clip. The value camp, meanwhile, looks for stocks that are trading on the cheap. The desire to find undervalued stocks is both emotionally and intellectually appealing—after all, who doesn’t like to take advantage of a sale? Moreover, value investing follows one of the oldest, and most obvious, sayings on Wall Street, “buy low, sell high.”
The problem is that everyone is trying to buy low and sell high, even the growth investors. So it’s important to properly define “cheap” and have a systematic way of identifying candidates that meet that criteria. Equally paramount is remembering that some merchandise winds up on the sale heap because it is damaged in some way. A fact that is as true for stocks as it is for consumer goods.
To help investors cull through the list of potential investments, Value Line provides weekly screens. One of the more useful screens for value investors is the Bargain Basement Stocks screen. The screen is fairly simple, highlighting companies with price to earnings multiples and price to “net” working capital ratios near the bottom of the Value Line universe. The idea is to identify companies that are trading cheaply relative to earnings and to the money that would be “left over” if the company were to be liquidated. Note that most stocks never trade below their liquidation value, but even trading at two or three times that value is noteworthy.
This screen is available every week in the Index section of The Value Line Investment Survey. Subscribers can access the most recent Index here. Some recent names of interest that moved to the top, or the bottom as the case may be, were Veeco Instruments (VECO), Dreamworks Animation SKG, Inc. (DWA), and Benchmark Electronics Inc. (BHE).
Veeco Instruments designs, manufactures and markets equipment used primarily in the making of LEDs, solar panels, and hard-disk drives. It has two operating segments: LED & Solar Process Equipment (85% of 2010 sales) and Data Storage Process Equipment (15%). The company derives more than 90% of its sales from overseas customers including LG Innotek, Seoul OptoDevice, and Seagate Technology.
Veeco has posted strong results following the 2007-2009 recession, achieving significant top- and bottom-line gains in 2010, as increased global capital spending created strong demand for its HB LED products, and several new devices gained sales traction. Indeed, the company could well continue to benefit from strong global demand for LED products, particularly in emerging-market economies, over the longer term. Despite a strong first-quarter showing and solid full-year 2011 earnings outlook, however, Veeco's stock price has fallen around 30% since the beginning of June. In our view, this may present an attractive longer-term investment opportunity for those willing to deal with some volatility-related risk.
Dreamworks Animation SKG, Inc.
DreamWorks Animation, a former division of DreamWorks Studios, is primarily engaged in the development, production, and distribution of computer generated (CG) animation films. The company maintains full rights to all of its CG films, but shares in the distribution revenues. DreamWorks’ films include the Shrek, Kung Fu Panda, and Madagascar franchises, among others.
The company delivered disappointing first-quarter results, and is unlikely to top its 2010 earnings per share this year owing to fewer scheduled film releases and a disappointing box office performance for Kung Fu Panda 2 (despite critical acclaim), which has caused the shares to plummet 22% since late May. Nonetheless, the company has good longer-term prospects due to its 2012 lineup and the rising popularity of computer generated films, in general. Moreover, with a stock price that has more than halved since early 2011, the current quotation may present an attractive opportunity for patient investors.
Benchmark Electronics Inc.
Benchmark Electronics provides electronics manufacturing services to producers of computers and related products for business enterprises, medical devices, and industrial control equipment. Its integrated services include design, production, and order fulfillment. In 2010, the company generated 36% of its sales abroad.
Due to inventory corrections in the first quarter, we have lowered our top- and bottom- line expectations for 2011. However, bookings are demonstrating signs of a recovery and we believe Benchmark is winning new business, which ought to help 2012 results. Although the stock is unlikely to outperform the broader market over the coming year, its nearly 30% decline since early 2010 may present an attractive longer-term entry point.
At the time of this article’s writing, the author did not have positions in any of the companies mentioned.