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Companies That Serve as Buyout Targets

BOSTON ( TheStreet) -- When evaluating small-cap stocks, individual investors would do well to emulate private-equity professionals.

Focusing on balance sheets and private-market valuations of small companies cuts through the noise sounded by volatile stock markets like today's. After all, price isn't always indicative of value. The difference between the two can mean big profits for discerning investors, says Mark Travis, chief executive officer of Intrepid Capital Funds.

Travis uses such a strategy to determine the price that a rational buyer, paying cash, would offer for a company. Many companies he follows are growing fast and generating a lot of cash, but retail investors know very little about them because they fly under Wall Street's radar.

"We tend to be shopping where most retail investors -- and even some institutional ones -- aren't looking," Travis says. "Most of the market focuses on S&P 500 companies. We tend to be a small-cap buyer historically, so we don't spend a lot of time trying to guess Cisco's (CSCO) next quarter or Exxon's (XOM) margins."

Travis says companies that generate cash consistently attract suitors, either larger companies in their industry or private-equity firms. If neither comes forward, Travis is happy knowing the investment will continue to grow as the company's cash builds up.

Stable businesses with little debt tend to be winners, Travis says.

"That makes them durable when you go through some of the bumps we've been through in the last three to five years," he says. "We're not trying to front-run Steve Schwarzman at Blackstone (BX). We just happen to like the characteristics of cash generators."

Patience is key, though, as there are risks to this trading style, Travis says.

"You're probably going to buy when no one else thinks it's a good idea," he says. "It tends to be not as correlated to the market. When everyone else is partying, you may not be. If the market races ahead, these types of businesses and share prices tend to lag."

For those investors looking to capitalize on the gap between price and value, Travis delivers a list of five stocks that he owns through Intrepid Capital Funds.
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