Debt-Ceiling Standoff Awakens Value Investors

BOSTON (TheStreet) -- Investors are showing disapproval of the debt-ceiling drama in Washington by pushing down the benchmark S&P 500 Index for the third straight month.

But some value investors are making the most of the 4% drop in stocks this week by snapping up companies they've been watching for a pullback.

Jason Clark, portfolio manager at value-investment firm Al Frank Asset Management in Aliso Viejo, Calif., added to his favorite companies as well as new positions. With a long-term orientation and a contrarian investment approach, Clark is using uncertainty from the debt-limit debate in Washington to his advantage.

Clark and his firm view as solid value picks Wal-Mart ( WMT), Disney ( DIS), Chesapeake Oil ( CHK) and Cooper Tire & Rubber ( CTB), among others.

"I would not say we are happy with the mess that is going on in Washington. That said, we would much rather endure some short-term discomfort for some better long-term solutions," Clark says. "As we are long-term investors in individual companies that may or may not be linked to the mess in Washington, we would look to take advantage of moves down that might become more like major down-swings because of the fear multiplier."

Clark says his firm usually invests all its money, but lately he's kept higher levels of cash as the stock market climbed throughout the year. "Historically, we've maxed out at 2% cash. Now, we're between 4% and 7%, which is low but still a lot more than usual," Clark says. "We've got the dry powder."

Designed for long-term-oriented investors, the Al Frank Fund ( VALUX) has total assets of about $104 million and more than 110 stock holdings. Most of the fund was devoted to electronic technology and finance as of June 30. Some of the fund's top holdings are Marathon Oil ( MRO), McKesson ( MCK), and Norfolk Southern ( NSC), according to the latest fact sheet.

Since it was started in January 1998, the Al Frank Fund has had an annualized return of about 10.2%, beating the 4.6% gain of the Russell 3000, which the fund uses as a barometer of the broad stock market.

With the markets in flux, European debt woes continuing and plenty of uncertainty regarding the U.S. debt limit and a possible downgrade of the coveted triple-A rating by credit-ratings agencies, Al Frank Asset Management's value approach with expansive diversification is an investment strategy for investors unsure of which direction to take. Clark says now the focus has turned to dividend-paying stocks.

"We are a bottoms-up investment shop, but we do have a top-down overlay," Clark says. "With the uncertainty in Washington, you're seeing people already looking at dividend payers. There could be additional demand for them, especially with what we're seeing with yields in the bond market, fixed-income market and money markets."

Clark offers 10 stocks that Al Frank Asset Management views as good value stock picks currently, arranged in order of potential upside based on the firm's target prices. The selections are detailed on the following pages.

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DTE Energy ( DTE)

Company Profile: DTE Energy is the parent company of three Michigan-based regulated utilities and four non-regulated subsidiaries.

AFAM's Target Price: $64.05

Potential Upside From Current Levels: 27%

Clark's Take: Michigan continues to experience tough economic times, but Clark believes the state's struggles are slowly subsiding. As regional economic activity stabilizes and capital expenditures level off, Clark and his firm expect that DTE's management will have the opportunity for periodic dividend increases over the next several years. DTE shares currently have a dividend yield of about 4.7%.

"We like DTE's attractive earnings growth profile and the overall constructive regulatory framework in its home state," Clark says. "The 4.7% dividend yield compares favorably to that of its regulated utility peer group, which yields an average of 4.2%."


Wal-Mart ( WMT)

Company Profile: Wal-Mart is the world's largest retail chain.

AFAM's Target Price: $76.12

Potential Upside From Current Levels: 44%

Clark's Take: Wal-Mart is a U.S.-based company, but with an international presence in Argentina, Brazil, China, Japan, Mexico and South Africa, among other locations, Clark says the company has attractive long-term growth opportunities.

"That said, shares have been sluggish as investors have been focused on the missteps that occurred on the domestic side over the last couple of years," Clark says. "We are encouraged by management's strategy to return to 'the glory days' in the U.S., anchored by efforts to aggressively re-emphasize 'Every Day Low Prices,' increase product offerings and improve the price-match guarantee program.

Clark also notes Wal-Mart's attractive valuation. The stock trades at less than 12 times forward earnings estimates and carries a price-to-sales ratio of 0.44, both 40% below the 10-year averages. The stock also offers investors a 2.7% dividend yield.

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Chesapeake Energy ( CHK)

Company Profile: Chesapeake is an independent exploration and production company with a focus on U.S. onshore natural gas production.

AFAM's Target Price: $51.31

Potential Upside From Current Levels: 50%

Clark's Take: Clark notes that Chesapeake has historically bought properties in shale gas fields and partnered with other to share development costs. But as oil has strengthened and gas fundamentals have weakened, Chesapeake has moved to higher-margin liquids.

"Recently updated strategic plans call for a two-year overall production growth target of 25% along with debt reduction of 25%," Clark says. "Strong volume growth and good drilling prospects should allow the company to leverage its many joint ventures and capitalize on the numerous acquisitions made over the years. An aggressive hedging strategy partly offsets the inherent volatility of the business and provides cash flow protection, which supports the 1.2% dividend yield."


Walt Disney ( DIS)

Company Profile: Disney is a media conglomerate best known as the home to Mickey Mouse. The company has key operations in television, theme parks, filmed entertainment and merchandise licensing.

AFAM's Target Price: $60.01

Potential Upside From Current Levels: 54%

Clark's Take: Disney's move to bring content across digital platforms, like Apple's ( AAPL) iPhone and iPad, has made the stock very attractive, Clark says. The firm counts Disney as a core holding in a portfolio as a representative of the consumer discretionary space.

"As a content-oriented company, Disney's top strategic priorities include creativity and innovation, international expansion, and leveraging new technology applications," Clark says. "Along with steady affiliate fee growth and improved theme park metrics, we expect strong growth from new franchise films (e.g. Cars 2), further leveraging of the Marvel franchise and robust international demand. Given Disney's size and financial strength, we would also expect to see additional acquisitions in the years ahead."

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DDi Corp. ( DDIC)

Company Profile: DDi designs, engineers and manufactures printed circuit boards, or PCBs.

AFAM's Target Price: $14.30

Potential Upside From Current Levels: 77%

Clark's Take: Clark notes that while DDi has a customer base of over 1,000 electronics companies, growth within DDi's U.S. military segment deserves a closer focus as military equipment makers need PCB work to be done onshore.

"We like that the company has been consistently profitable and has a solid balance sheet that sports over $1 per share of cash," Clark says. "This micro-cap tech name generates solid free cash flow which supports an attractive dividend yield of 4.8%. Shares trade with a forward earnings multiple of less than eight and an enterprise value-to-EBITDA multiple of 6, almost 30% below its five-year average."


Eni S.p.A. ( E)

Company Profile: Based in Rome, Eni S.p.A. is an Italian diversified oil major with exploration and production operations in 43 countries.

AFAM's Target Price: $77.11

Potential Upside From Current Levels: 78%

Clark's Take: Eni shares have faced headwinds due to the company's exposure to Libya. Although near-term geopolitical risks are critical, Clark says those risks are offset by Eni's gas and power business, which he says add a measure of stability since this segment is less sensitive to volatile commodity prices.

"Additionally, we are encouraged by the company's exploration momentum with recently announced oil and gas finds in Norway and Ghana," Clark says. "Non-essential divestitures and solid free-cash-flow generation should continue to strengthen the balance sheet, and support (and possibly increase) the dividend. Shares of Eni currently carry more than a 4% dividend yield and trade at a material discount to peer-group average multiples for earnings, book value and enterprise value-to-EBIDTA."

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Xyratex ( XRTX)

Company Profile: Xyratex is a provider of enterprise-class data storage subsystems and network technology

AFAM's Target Price: $19.09

Potential Upside From Current Levels: 103%

Clark's Take: With a 30% market share, Xyratex should benefit from favorable trends as corporate spending increases for technology upgrades and data hungry global consumers boost demand for personal electronics, Clark says, despite fierce competition and consolidation in the data-store sector.

"We are encouraged by management's proactive actions to better serve its larger clients, diversify its customer base and potentially seize market share," Clark says. "Industry consolidation, in particular, was cited as a reason for the company's recent second quarter shortfall as pending regulatory reviews appear to be prolonging capital investment decisions. Fortunately, the company is planning further reductions in fixed costs to help ride out this temporary period of uncertainty."

Clark notes that Xyratex shares currently trade with a price-to-book multiple of 0.9, a price-to-sales ratio of 0.2 and an enterprise value-to-EBITDA multiple of 2.6, "all of which are substantially below historic five-year averages. The long-term-debt-free balance sheet is also a huge plus, especially as it boasts over $4 per share in cash."


Cooper Tire & Rubber ( CTB)

Company Profile: Cooper Tire & Rubber is the fourth-largest North American tire producer, exclusively manufacturing replacement tires.

AFAM's Target Price: $34.97

Potential Upside From Current Levels: 107%

Clark's Take: Cooper Tire has faced headwinds due to higher commodity costs, with the stock down 27% this year. However, Cooper has so far been able to pass those price increases along to customers with little resistance. Clark says his firms likes that Cooper is in the replacement tire arena and therefore should not be significantly affected by any future struggles of the big auto makers.

"In addition, the choppy economy and high unemployment rate have given the replacement tire market new life as data suggest car owners are keeping their vehicles longer," he says. "We are optimistic about the company's growth potential overseas, especially in China, and we like that it is rolling out new higher-margin, ultra-high performance and commercial tires."

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Aceto Corp. ( ACET)

Company Profile: Aceto distributes chemically derived pharmaceuticals, biopharmaceuticals, specialty chemicals and agrochemicals.

AFAM's Target Price: $13.32

Potential Upside From Current Levels: 113%

Clark's Take: International expansion has been the play on Aceto, as the company now derives almost 40% of its revenue from outside the U.S. Clark and his firm are also encouraged by the company's acquisition of Rising Pharmaceuticals, "which gives Aceto a presence as a developer and marketer of its own brand of pharmaceuticals."

"In addition, management expects to bring a number of new crop-protection products to market over the next few years," Clark says. "Aceto's balance sheet is still solid, post the added debt for the Rising acquisition. Shares, which carry a 3% yield, are trading slightly above book value and are attractively valued versus the company's historic earnings and sales multiples."


STMicroelectronics ( STM)

Company Profile: STMicroelectronics is a European-based global semiconductor manufacturer.

AFAM's Target Price: $19.70

Potential Upside From Current Levels: 150%

Clark's Take: STMicro shares are down nearly 25% this year as the company's wireless joint venture with Ericsson continues to drag on its strong momentum in its other core divisions. "Investors seem to be assigning STM's portion of the joint venture a negative value," Clark says.

However, Clark expects that either positive traction with the joint venture or an outright divesture could provide upside to the stock. "With a strong roadmap in products for automotive, consumer and industrial applications, STM is targeting faster market growth in 2011, and the company has proven it is more than willing to shed low-margin businesses," Clark says. "The firm's balance sheet and free cash flow should support the dividend, currently a rich 3.4%."

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-- Written by Robert Holmes in Boston.

>To contact the writer of this article, click here: Robert Holmes.

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Disclosure: TheStreet's editorial policy prohibits staff editors, reporters and analysts from holding positions in any individual stocks.

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