This Day On The Street
Continue to site right-arrow
ADVERTISEMENT
This account is pending registration confirmation. Please click on the link within the confirmation email previously sent you to complete registration.
Need a new registration confirmation email? Click here
EXCLUSIVE OFFER: Jim Cramer's Protégé, Dave Peltier, only buys Stock Under $10 that he thinks could potentially double or triple in the next 6 to 12-months. See what he's trading today with a 14-day FREE pass.

Melvin: Wait for Quality and Price to Meet

Stocks in this article: RGRSWHCMMSLQDT

Editor's Note: This article was originally published at 3 p.m. EDT on Real Money on June 23. Sign up for a free trial of Real Money.

When I was researching yesterday's column about stocks with high returns on capital, I ran across a video of noted value investor Joel Greenblatt talking about how he uses this measure to select stocks. He mentioned that most of the stocks in his portfolio had a return on capital of 50% or more.

Now, that's a huge number and it reminds me that John Danaher, of private equity firm Leonard Green, said earlier this year that he confined his purchases to those companies that were growing earnings before interest, taxes, depreciation and amortization (EBITDA) at 50% a year or more. Companies that can earn those types of returns and growth should be compounding miracles for investors who buy them at the right prices.

The key is the right price. Greenblatt also said that the way to earn high returns is to find these superior companies and buy them when the market is giving them away for some reason. He prefers the metric of earnings yield but I suspect you can also use price to book and Enterprise Value (EV) to EBITDA.

Very few stocks are really cheap right now so most of the names I uncovered using a return of capital a screen are not going into my portfolio today. They are going to the very top of my watch list as stocks to buy in broad-market or sector declines. If one of these great companies stumbles and misses earnings or has some other one-off event that makes their stocks cheap enough to buy, I will be ready to pounce.

The list does include some fascinating companies, including two firearms companies. Sturm, Ruger (RGR) makes the cut as it has had a return on capital of more than 100% over the last 12 months. While hoping to avoid any political landmines, I have to confess that my wife and I frequent the shooting range for target practice. Our preferred brand makes the grade: Smith & Wesson (SWHC) has a return on capital of more than 75% right now. These stocks can trade on noises quite often. If they fall to cheaper valuations, they would be outstanding holdings for long-term investors.

One of the world's current growth industries is in providing of benefits under various government programs. Maximus (MMS) is perfectly positioned to take advantage of this powerful trend. The company provides services to various agencies in the  U.S., Australia, Canada, the U.K. and Saudi Arabia. Programs include the Affordable Care Act, Medicaid, Children's Health Insurance Program, Medicare and the Health Insurance British Columbia Program. They also provide a wide range of administrative support and case management services for federal, national, state, and county human services agencies and cover welfare programs, child support case management and education consulting. The company has a triple-digit return on capital (ROC) right now and has averaged a more than 50% ROC for the past decade.

One of the companies that made the cut of the Leonard Green EBITDA growth measure is also on this list. Liquidity Services (LQDT) operates online auction marketplaces for sellers and buyers of surplus, salvage and scrap assets. The stock tumbled when a key Defense Department liquidation contract was halted but this is still a solid company.

The company works with NBC to liquidate surplus equipment -- for example, the broadcast, IT and electronic test and measurement equipment used at the Sochi Olympics. I went onto the website earlier today and was so impressed I signed up as a buyer. The company is liquidating surplus inventories of everything from ladies dresses to computer equipment. The ROC is over 500% and has averaged that level for the past decade. This stock is way up on my watch list and I hope it tumbles further so I can own the shares for a long time.

There are some interesting names of the list of companies with a very high return on capital that will be worth owning at the right price. It is frustrating at times to wait for quality and price to meet, but it is worth the patience and discipline required.

At the time of publication, Melvin had no positions in the stocks mentioned, although positions may change at any time.

Tim Melvin is a writer from Stevensville, Maryland, who spent 20 years a stockbroker, the last 15 as a Vice President of Investments with a regional firm in the Mid Atlantic area. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Melvin appreciates your feedback; click here to send him an email.

Select the service that is right for you!

COMPARE ALL SERVICES
Action Alerts PLUS
Try it NOW

Jim Cramer and Stephanie Link actively manage a real portfolio and reveal their money management tactics while giving advanced notice before every trade.

Product Features:
  • $2.5+ million portfolio
  • Large-cap and dividend focus
  • Intraday trade alerts from Cramer
  • Weekly roundups
TheStreet Quant Ratings
Try it NOW
Only $49.95/yr

Access the tool that DOMINATES the Russell 2000 and the S&P 500.

Product Features:
  • Buy, hold, or sell recommendations for over 4,300 stocks
  • Unlimited research reports on your favorite stocks
  • A custom stock screener
  • Upgrade/downgrade alerts
Stocks Under $10
Try it NOW

David Peltier, uncovers low dollar stocks with extraordinary upside potential that are flying under Wall Street's radar.

Product Features:
  • Model portfolio
  • Stocks trading below $10
  • Intraday trade alerts
  • Weekly roundups
Dividend Stock Advisor
Try it NOW

Jim Cramer's protege, David Peltier, identifies the best of breed dividend stocks that will pay a reliable AND significant income stream.

Product Features:
  • Diversified model portfolio of dividend stocks
  • Alerts when market news affect the portfolio
  • Bi-weekly updates with exact steps to take - BUY, HOLD, SELL
Real Money Pro
Try it NOW

All of Real Money, plus 15 more of Wall Street's sharpest minds delivering actionable trading ideas, a comprehensive look at the market, and fundamental and technical analysis.

Product Features:
  • Real Money + Doug Kass Plus 15 more Wall Street Pros
  • Intraday commentary & news
  • Ultra-actionable trading ideas
Options Profits
Try it NOW

Our options trading pros provide daily market commentary and over 100 monthly option trading ideas and strategies to help you become a well-seasoned trader.

Product Features:
  • 100+ monthly options trading ideas
  • Actionable options commentary & news
  • Real-time trading community
  • Options TV

Markets

DOW 18,053.71 +23.50 0.13%
S&P 500 2,088.77 +6.89 0.33%
NASDAQ 4,806.8590 +33.3870 0.70%

Our Tweets

Brokerage Partners

Top Rated Stocks Top Rated Funds Top Rated ETFs