Implied Prices Target Bargains

6/30/2014


Recently, we set off to find cheap stocks based on implied prices — target prices that show where a stock would trade if a valuation metric moved to a historical norm or peer-group median.

Not surprisingly, after a 37% gain in the S&P 500 Index since year-end 2012, bona fide bargains are in short supply. Only 22% of S&P 500 companies trade at discounts to their five-year median trailing P/E, with 31% below 10-year norms. Only 17 stocks (3% of the index) trade at discounts to five and 10-year norms across all of our four selected valuation metrics.

Fortunately, our Monitored List is home to several attractively valued growers. To gauge return potential, we calculated 16 implied prices using five- and 10-year norms and sector and industry medians for four key ratios that have been effective in Quadrix:

• Price/earnings based on trailing profits, a widely used and consistently effective metric.

• Price/sales, which has the advantage of not being distorted by negative numbers.

• Price/cash flow, using cash provided by operations (CPO), from the statement of cash flows.

• Enterprise ratio, which is enterprise value (the value of equity and debt, minus cash) divided by EBITDA (earnings before interest, taxes, depreciation, and amortization).


Implied prices and Dow Jones averages

Using historical norms and sector and industry medians to calculate 16 implied prices, 14 of the 30 stocks in the Dow Jones Industrial Average had upside potential based on average target price, with the average gain for those 14 a solid 20%. At 61%, J.P. Morgan Chase ($57; JPM) has the most implied upside potential, followed by Wal-Mart Stores ($76; WMT) at 32%. Across all 30 stocks, the average upside is just 1%.

Of the 20 Dow Transports, 11 would have upside potential (averaging 21%) based on an average of 16 implied prices. For all 20 stocks in the Dow Transports, the average implied upside is 6%, paced by a 70% implied gain for ocean shipping firm Matson ($25; MATX).


The 17 A-rated stocks in the table below, including the four reviewed in the following paragraphs, trade at a discount to the prices implied by at least one-half of our 16 variations of target prices. All 17 have at least 10% upside based on an average of all 16 prices. Finally, the stocks earn above-average Quadrix Value scores — the most effective category score.

Apple ($90; AAPL) has an average implied price of $101, indicating roughly 12% upside. That price seems reasonable and matches the all-time high set in September 2012. If the stock returned to its 10-year norm for price/cash flow or trailing P/E, the share price would go to $138 or $129, respectively. In our view, Apple is capable of topping $105 over the next 12 months.

Product launches and market-share gains should help fuel Apple's growth engine. Recently, the company introduced an entry-level model of its popular iMac computer. Apple is also considering rollouts of a smartwatch, an iPhone with a larger screen, and a retooled set-top box. Expansion in foreign markets, particularly China, should help sustain growth. A pending update of the iPhone 6 should drive sales for its partner, China Mobile ($48; CHL). For fiscal 2014, per-share earnings are expected to increase 11% on 6% sales growth — estimates that could prove conservative given recent operating momentum. Apple is a Buy and a Long-Term Buy.


Cisco Systems ($25; CSCO) is putting a tiny fraction of its $50 billion cash pile to work and acquiring Tail-f Systems for $175 million — a deal intended to expand the company's cloud-based products. The networking giant could use a spark, as shares have risen only 5% over the past year, below the 27% gain for the S&P 500. Increased competition along with two consecutive quarters of sales declines and lower profit margins have given investors pause. But product launches and cost-cutting initiatives should eventually jump-start growth. Per-share earnings are expected to climb only 1% in fiscal 2014 ending July but increase 6% in 2015.

Based on historical P/E ratios, Cisco is worth $29 to $38, implying at least 16% upside. Shares have upside potential on 11 of our 16 implied prices, with the average at $32. Though above the five-year high price of $27, that target price seems achievable looking out 24 months. A Value score of 87 is above the average of 47 for the 79 telecom-equipment stocks in our research universe. Cisco is a Long-Term Buy.


Shares of J.P. Morgan Chase ($57; JPM) have upside on 11 of our 16 target prices, with an average price of $92, implying 61% upside. Based on sector and industry medians for P/E ratio, implied prices range from $79 to $101. Shares trade at only 10 times trailing earnings and 11 times the 2014 consensus estimate. A Value score of 93 is bolstered by strong marks for P/E, enterprise ratio, and price/cash flow. 

J.P. Morgan has rebounded 6% since May 5, when it warned investors to expect June-quarter trading revenue to fall about 20% versus a year earlier. A lack of market volatility, particularly in the U.S., has hampered most investment banks. In addition, low interest rates and weak mortgage-origination activity has weighed on earnings. For 2014, consensus profit targets for J.P. Morgan have fallen 9% over the last three months to $5.37 per share. Still, that figure implies healthy 23% growth. J.P. Morgan Chase, capable of approaching $65 in the next 18 months, is a Long-Term Buy.


ManpowerGroup ($84; MAN) operates in 80 countries, recruiting skilled labor and professionals for both temporary and permanent positions. Hiring is picking up in many markets around the world, with gains led by increased industrial demand as manufacturing accelerates, particularly in Europe. Aided by improved sales growth and expanded profit margins, Manpower expects per-share earnings to jump 20% to 28% in the June quarter, on top of a 37% increase in the March quarter. For 2014, Wall Street targets per-share earnings of $5.19, up 17%. 

Manpower has upside on nine of our 16 target prices, with an average price of $111, indicating 33% upside. Hitting that price in the near term might be a stretch, but we believe shares can approach $100 over the next 18 months, partly reflecting a Value score of 78 that is above an industry average of 55. The stock earns above-average Quadrix scores for price/earnings, price/sales, and enterprise ratio. Manpower is a Focus List Buy and a Long-Term Buy.

17 VALUE PLAYS WITH PLENTY OF UPSIDE
Using five and 10-year historical norms and industry and sector medians for four key valuation metrics, we calculated target prices 16 ways. The 17 A-rated stocks below trade at discounts to the prices implied by at least one-half of the 16 variations and have at least 10% upside based on an average of all 16 implied prices. In addition, all 17 earn above-average scores for Quadrix Value. Our implied prices offer a handy gauge of upside potential but should not be viewed as target prices. Stocks recommended for purchase are listed in bold.
No. Of
Implied
Prices
W/Upside
------------------- Implied Prices -------------------
Estimated
--- Current Year ---
Quadrix Scores
Company (Price; Ticker)
Average
Price
($)
% Upside
Using
Average
High ($)
(% Chg.)
Low ($)
(% Chg.)
EPS
($)
Chg.
(%)
P/E
Value
Overall
Industry
Apple ($90; AAPL)
11
101
12
138
(52)
47
(-48)
6.32
11
14
85
99
Tech. hardware
AT&T ($35; T)
11
39
11
60
(71)
28
(-20)
2.64
6
13
95
76
Telecom svcs.
Caterpillar
($108; CAT)
9
124
15
246
(128)
91
(-16)
6.19
7
17
77
89
Heavy equip.
Cisco Systems
($25; CSCO)
11
32
30
44
(79)
17
(-31)
2.04
1
12
87
94
Telecom equip.
Corning ($22; GLW)
8
25
13
44
(102)
13
(-41)
1.52
23
14
70
85
Elect. compon.
Deere ($91; DE)
14
120
32
194
(114)
89
(-2)
8.55
(6)
11
90
85
Farm machinery
EMC ($26; EMC)
13
32
23
48
(85)
18
(-29)
1.91
6
14
90
83
Tech. hardware
Hewlett-Packard
($34; HPQ)
13
60
78
150
(341)
29
(-14)
3.72
4
9
95
94
Tech. hardware
IBM ($181; IBM)
10
217
20
339
(87)
161
(-11)
17.85
5
10
94
83
Tech. consulting
Intel ($31; INTC)
8
37
23
69
(126)
21
(-31)
2.03
7
15
71
96
Semiconductors
J.P. Morgan Chase
($57; JPM)
11
92
61
216
(277)
40
(-30)
5.37
23
11
93
56
Banks
Kellogg ($66; K)
12
77
16
106
(60)
57
(-13)
4.01
6
16
79
89
Packaged food
ManpowerGroup
($84; MAN)
9
111
33
361
(331)
58
(-31)
5.19
17
16
78
96
Human res.
National Oilwell
($80; NOV)
12
90
13
121
(52)
67
(-16)
5.96
8
13
95
86
Oil & gas equip.
Travelers ($95; TRV)
10
120
26
245
(159)
75
(-21)
9.33
(1)
10
97
100
Ppty. & cas. ins.
WellPoint
($108; WLP)
9
152
41
635
(489)
61
(-44)
8.57
1
13
89
77
Managed care
Wells Fargo
($52; WFC)
10
58
10
99
(88)
30
(-43)
4.10
5
13
80
90
Banks
Note: Quadrix scores are percentile ranks, with 100 the best.

 


Current Hotline

Stock Spotlight

Individual Stock Reports

ISRs make stock research easy!

Perhaps the most valuable two page reports available anywhere.

All the data you would normally have to plow through years of 10-K filings, earnings reports, and reams of market data to assemble — yours all in one concise report.

ISRs contain our proprietary Quadrix scores — find out how we rate all the stocks in the S&P 500.

Visit us at individualstockreports.com