And you thought we were finished with the third quarter…
In a quest for profitability + value, contributor Dave Sterman studied the numbers from the most recent earnings season and found two strong companies sporting crazy-cheap price-to-earnings ratios. Why is this important? If the market takes a dip (and even if it doesn’t) low-multiple stocks typically hold up better than most others.
— Bob Bogda, Editor
P.S. Like what you see? Don’t like what you see? Let me know.
Sometimes, you look at the numbers and can only scratch your head. We know we’re in the middle of a pandemic with high levels of unemployment, disrupted office environments and cautious consumer sentiment.
Yet, corporate profits remain surprisingly robust.
Earnings for companies in the S&P 500 fell a mere 6.3% in the third quarter compared with a year ago, according to FactSet Research. In fact, the industries of Software, Interactive Media & Services and Autos showed a combined $12.1 billion increase in profits. The only real weak spots in the economy are energy, airlines and hotels. Exclude those three industries and S&P 500 profits in the third quarter would have actually been 4.3% higher than a year ago. Which is truly stunning.
I am impressed that so many firms are able to boost their sales and profits during such hard times. It partially helps explain why the stock market has been so strong these past few months.
With all this in mind, I went in search of companies that posted strong earnings yet still possess reasonably priced shares. I was specifically looking for firms that are both boosting profits and also have price-to-earnings (P/E) ratios well below the S&P 500 average of 36.3.
That is not a misprint. The S&P 500 was valued at less than 15 times earnings in the first few years following the Great recession of 2008. And that figure stayed below 25 for the entire past decade. Until now.
With that lofty current market multiple in place, finding low-multiple stocks is all the more important in case we get a big market pullback. Low-multiple stocks tend to hold their ground better during such times. Here are two firms with solid earnings momentum and lower-than-average P/E multiples.
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This past October, BorgWarner merged with fellow auto parts supplier Delphi to help create a $14.4 billion (in sales) industry titan. The firms are joining forces at a fortuitous time. BorgWarner already had ample momentum, beating the consensus profit forecast by an average 41% in the past two quarters. And the outlook for the entire auto industry has clearly started to strengthen as investors looked beyond the current pandemic.
In late August, I recommended shares of automaker GM (GM). Those shares have surged 49% in just three months (compared with a 5% gain for the S&P 500 in that time). Sadly, shares of GM are no longer the clear bargain they were just a few months ago.
Shares of BorgWarner have barely budged in that time and now sport the perfect set-up for investors looking for value and growth. Strong earnings and a flat share price mean that shares now trade for just 10 times projected 2021 profits of $3.74 a share. Analysts at Bank of America predict that this firm’s profits will soar to $5.75 a share by 2023. So, the P/E ratio on that forecast is just 6.7
One of the things I like about mergers such as BorgWarner and Delphi are the cost-cutting synergies they can obtain. Management says at least $100 million will be shaved from the combined cost structure. Meanwhile, the firm’s research teams have been combined, and are now working together to create drivetrains (motors, transmissions, etc.) that will power the electric cars of the future.
Action to Take: Consider buying shares of BorgWarner under $42 and be prepared to sell when they reach $55.
Cardinal Health (CAH)
As is the case with e-commerce, drug distributors are also taking market share from traditional drug stores when it comes time to get prescriptions filled. Acumen Research and Consulting predicts that the ePharmacy market will grow 14.5% per year through 2026 and reach $155.4 billion.
Cardinal Health is one of the nation’s biggest drug and medical product distributors. And it stands to boost sales as more web-based pharmacies tap into its massive network of regional warehouses for just-in-time delivery.
Meanwhile, this firm sports some terrific numbers. Third-quarter profits of $1.51 a share were a hefty 34% ahead of forecasts, leading to rising earnings estimates. Shares now trade for less than nine times the upwardly revised 2021 profit forecast of $6.16 a share. I also like that investors are getting a dividend that produces a 3.6% yield. That’s double the yield on the average firm in the S&P 500.
Action to Take: Consider buying shares of Cardinal Health up to $59 and sell when they reach $80
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