How to Find 'Cheap' Stocks With the Enterprise Value-to-EBITDA Ratio
03/24/08 - 01:35 PM EDT
Tim Melvin
As you can imagine the current list is littered with companies that are in out-of-favor industry groups. Insurance and reinsurance companies are the biggest component of the 82-stock list my screen produced.
Names like The Hartford Financial Services Group (HIG Quote - Cramer on HIG - Stock Picks), Arch Capital Group (ACGL Quote - Cramer on ACGL - Stock Picks) and CNA Financial Corporation (CAN Quote - Cramer on CAN - Stock Picks) make the list. So do Endurance Speciality Holdings (ENH Quote - Cramer on ENH - Stock Picks) and Aspen Insurance Holding (AHL Quote - Cramer on AHL - Stock Picks), two reinsurance companies. This is not really surprising as the insurance market has been very soft and many of the companies have taken large losses due to the sell off in mortgage-backed securities
in the last six months.
The sheer number of insurance and reinsurance companies trading at low levels of enterprise value-to-EBITDA would seem to me to be a sign that consolidation in the sector is a foregone conclusion. It is easier right now to grow your book of business on the stock exchange than in the field through strategic acquisitions and combinations.
An old favorite made the list as well. King Pharmaceuticals (KG Quote - Cramer on KG - Stock Picks) has been hurt by the loss of a patent dispute last year for the key ingredient in its hypertension drug Altace. The result has been generic competition for the drug much sooner than anticipated and this is having a negative effect on revenues and margins. As a result King has laid off 20% of its work and refocused its efforts on the neuroscience, hospital and acute care markets. The neuroscience division in particular could be very attractive should they receive FDA approval for their abuse resistant pain drug Remoxy. They hope to have the drug to market by 2009 and it is a potential blockbuster. The stock trades just off its 52-week lows and has a bulletproof balance sheet with over 60% of the stock price in cash. The EV/EBITDA ratio is just 1.5 and equally attractive to the asset-loving side of me, it trading at 85% of book value. It is worth a look at these levels.
I don't have room to write about all 82 companies (and some of them are too small to ever write about), but two others that stood out and seem worthy of attention were Charles Schwab (SCHW Quote - Cramer on SCHW - Stock Picks) and semiconductor company Micron Technologies (MU Quote - Cramer on MU - Stock Picks).
It is important to understand that a screen is a starting point. Rather than just buy the list of stocks above, keep in mind the words of Chris Browne of Tweedy, Browne. He told me years ago to underwrite and then investigate.
Running the screens is just a starting point. The real work is digging into the list of companies that you produce with the screen.
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