By: Jake Mann
Hedge fund manager Leon Cooperman of Omega Advisors was on CNBC earlier this week (video here), and unlike his peer David Tepper, he was talking specific stocks. Cooperman mentioned five stocks that he loves because they have "more growth at a lower valuation," according to the man himself. Due to the market-beating potential of hedge fund sentiment, let's run through these five picks.
Sprint (S) was the first name Cooperman listed, and with good reason. The telecom is the third largest smartphone carrier in the U.S. by market share, and revenues have grown by 3.1% a year over the past three years. While industry average top line growth has been nearly five percentage points higher over this time, gross margins have improved from 41% at the end of 2012 to 41.5% over the past twelve months, and Wall Street expects modest earnings growth of 5% a year through 2018.
On an enterprise value-to-EBITDA basis, Sprint is 13% cheaper than AT&T (T) and 3% cheaper than T-Mobile (TMUS), so this is likely the "value" Cooperman is talking about. With regard to the "growth," it's probable that he's extra bullish on Sprint because of the efficiency gains it could-emphasis could-gain after the Nextel shutdown. As Sprint CEO Dan Hesse told Bloomberg this summer, "the company will continue to shed subscribers in the coming months…before rebounding next year," which is sooner than the 2015 turnaround most analysts expected. Shares of Sprint are up 2% since these comments in late July, but we'll continue to watch Cooperman's position here.
American International Group (AIG) has been a hedge fund favorite since last year; the leaner, meaner post-bailout insurer was the top pick among the hedgies we track in Q4 2012, and was in the top three at the end of the last filing period. The only companies that were more popular, at least to top-tier fund managers, were Google (GOOG) and Apple (AAPL).
When one thinks of growth at a reasonable value, AIG might be the most attractive of this trio. The sell-side expects earnings to grow by 11% to 12% a year over the next half-decade, and as one Motley Fool author so ardently points out, three factors-1) rising policy rates in Property & Casualty, 2) international growth due to secular tailwinds and AIG's efforts to consolidate segments overseas, and 3) fixed annuities revenue growth due to higher interest rates-are behind these solid prospects. We'd also add that over the long term, AIG is expected to grow its earnings at a faster rate than almost all of its peers like Chubb (CB), Allstate (ALL) and Hartford (HIG), and shares are still cheap at a mere 11.8 times forward earnings.
KKR Financial (KFN), meanwhile, is another financial company that's attractive for similar reasons as AIG. Cooperman holds the stock in his 15 largest equity positions (AIG is No. 3), and the former REIT's unique asset breakdown-CLOs, special situation and mezzanine financing, commercial housing and energy royalty trusts-allows KKR Financial to deliver returns above Treasuries consistently. The firm's goal is an outperformance of 1000 basis points per year, according to CEO William Sonneborn. With solid cash flows and healthy earnings growth expected over the next five years (sell-side averages estimate about 10% annually), KKR Financial should be able to maintain its extravagant 7.9% dividend yield, and a payout ratio of 48% doesn't set off any red flags. At a meager price-to-earnings growth ratio of 0.6, KKR Financial is very cheap.
The final two
Qualcomm has generated very solid earnings growth over the past five years (+16% annually) on the back of accelerating expansion in the smartphone mobile processor market place, but Wall Street thinks growth is slowing (~9% a year over the next five). It's probable that Cooperman is more optimistic about these prospects than the average Qualcomm analyst, particularly in its Snapdragon segment, which would indicate he probably likes the stock's PEG near 1.0. With no debt, free cash flows at all-time highs and a payout ratio (29%) with room to grow, Qualcomm's dividend yield of 2% appears sustainable and in the best-case scenario, is ripe to advance. It's possible that Cooperman is here for the growth, value and income.
SandRidge Energy, meanwhile, was a position established by the hedge fund manager in the fourth quarter of 2012, and assuming he bought in at the lows, he may have generated a return as high as 15% on his investment so far. This oil and gas E&P faces a similar declination in growth prospects as Qualcomm, but Cooperman might be betting that the market is undervaluing the stock too much because of this very point.
After growing its bottom line by double-digits annually since the late-2000s, SandRidge's EPS growth is projected to be cut in half near 7% a year over the next five years, but shares are literally bargain bin-cheap no matter what metric you look at. A price-to-sales parity and a price-to-cash multiple below 3 are attractive, and more specifically, an enterprise value of $30 billion is just twice its annual revenues. A normal multiple in this industry is typically between 2.5 and 4, as is the case with Occidental Petroleum (OXY) or BG Group (OTCQX:BRGYY).
SandRidge doesn't offer a dividend, so if you're looking to only piggyback off of a few of Cooperman's picks, Qualcomm, KKR Financial or AIG might be better places to do it. Still, judging purely from Cooperman's "growth at a lower valuation" standpoint, there's no denying SandRidge fulfills both of these criteria.