These 3 Value Stocks Are Real Long-Term Bargains

Includes: CAT, DLLR, VALE, WU
by: Hawkinvest

Caterpillar, Inc. (NYSE:CAT) seems to be a value stock or a "value trap" depending on who you talk to. I completely understand both points of view, but I have to side with the bulls on this stock in the long-run for one important reason that I think the shorts are missing.

Many investors know that this company makes some of the biggest earth-moving machines in the world and that some segments of its business, like the mining sector, have been challenged. The shorts can focus on this, as well as the fact that Caterpillar shares have under-performed the S&P 500 Index (NYSEARCA:SPY) for quite a while. The shorts can also argue that management appears to have made some blunders in the past year or two, which includes the acquisition of a Chinese company that led to a significant write down due to accounting issues that were discovered later. Management also seems to have been too optimistic with its guidance, and that has led to downward revisions and credibility issues for some investors.

These issues appear to have kept this stock under some pressure in 2013, and there are other potential downside risks to consider. A growing concern is the fact that Chinese manufacturers of heavy machinery are becoming increasingly competitive due to quality improvements. Another factor is that companies like Kubota (OTCPK:KUBTF) are already making excellent quality products, and are becoming even more competitive on price since the Japanese Yen is dropping in value and therefore giving Japanese companies an advantage with exports around the world. Finally, I think it is worth noting that Caterpillar has about $4.11 billion in cash and around $39.54 billion in debt, which is significant, especially if the global economy hits another rough patch.

However, the global economy appears poised to continue to grow in the coming years, and that limits recession risks. The debt level is worth considering, but it appears to be manageable now. Caterpillar has already faced significant competition from Japanese manufacturers and companies like Deere (NYSE:DE), so I don't think the potential threat from Chinese companies is too significant.

Earlier, I mentioned that I believe shorts are missing something, and that has to do with the powerful brand and image that Caterpillar has around the world and with U.S. investors in particular. I have found that companies with strong brand names and cool products almost always command a premium in the share price, and Caterpillar has both. Just look at stocks like Starbucks (NASDAQ:SBUX) or Whole Foods (NASDAQ:WFM) which trade at higher valuations because investors want to own stocks in brands they believe in, patronize themselves, and see around town. Investors also want to own stocks in companies that are cool, which is why chemical companies with relatively unknown brand names often trade for single digit price to earnings ratios, and why Starbucks trades for about 25 times earnings. Companies with great brands and cool products make investors feel good, and that is why a company like Caterpillar will probably never trade as cheaply as some (shorts) would like.

Earnings estimates are around $5.50 for 2013 and $5.81 for 2014. That puts the price to earnings ratio at roughly 16 times earnings, which is hardly cheap for an industrial stock, but when you consider that earnings are currently depressed (due to the slow mining sector) and poised to rise to nearly $7 in 2015, the stock looks like a long-term bargain. About a year ago, management was expecting the company to earn somewhere between $12 to $18 per share in 2015. Obviously that doesn't seem likely now, but it does hint at the type of earnings potential this company may have in the future when business conditions are ideal. That being said, Caterpillar shares appear overbought in the short-term, so I would wait for pullbacks to use as long-term buying opportunities. The shares currently trade for about $89, which is above the 60-day moving average of about $86 and the 200-day moving average of $84.49. Pullbacks to these levels appear to be attractive buying opportunities for long-term investors. Furthermore, Caterpillar pays a solid dividend that yields 2.7%, which will pay investors while waiting for earnings to rise in the coming years.

Here are some key points from Yahoo Finance for Caterpillar:
Current share price: $89.89
The 52 week range is $79.49 to $99.70
Earnings estimates for 2013: $5.50 per share
Earnings estimates for 2014: $5.81 per share
Annual dividend: $2.40 per share which yields 2.7%

DFC Global Corp. (NASDAQ:DLLR) is a leading provider of short-term consumer loans in Europe, Canada and the United States. It operates under a variety of brand names and it offers a range of financial services and products including both secured and unsecured consumer loans, check-cashing, money transfers through Western Union (NYSE:WU), gold buying, and more. The range of services it provides in many countries gives this company a well-diversified source of revenue.

Here is a revenue breakdown from the first quarter of 2014: Store based consumer lending is about 42.2%, Internet lending is about 22.9%, pawn lending is around 8.4%, check-cashing is about 8.6%, gold is around 3.9%, and other services represent about 11% of the business.

This company has faced some recent challenges, including new industry regulations in the United Kingdom. It's also dealing with allegations about disclosures that led to a shareholder lawsuit, which is a common legal issue for many public companies. (Western Union also is facing a similar shareholder lawsuit.) While some might view these issues as a potential downside risk, I feel these concerns are already priced into the stock and that it is creating a buying opportunity. Investors who were too scared to buy Bank of America (NYSE:BAC) shares when that stock was trading just around $5 over concerns about new regulations and numerous lawsuits missed out on a huge opportunity. These types of challenges are often just speed bumps along the way to greater profits and a higher share price. By looking at the long-term "big picture" and filtering out the short-term "noise," it is easy to see that this stock is very undervalued based on the fundamentals and growth prospects. While profits are currently depressed for a couple of reasons, such as the new regulations, analysts see big gains coming as smaller companies in this industry that cannot afford to comply with the regulations are likely to go out of business. This could mean less competition and higher profits for DFC Global in the future.

Analysts expect this company to earn about $1 per share in 2014, which means this stock is trading at just about 11 times depressed earnings. While that is cheap, it gets even more interesting as earnings are estimated jump to $1.75 in 2015 and $2.97 per share in 2016. These are consensus estimates based on the views of 7 different analysts, which carries more weight than if it were just a single analyst making these profit projections. If the current price to earnings ratio of about 11 times is applied to the earnings estimates of $1.75, this stock could be worth about $20 in 2015, (which would put it back to trading around its 52-week high of $19.97) and around $33 per share in 2016 (based on earnings estimates of $2.97 and a PE ratio of 11). This company has a solid balance sheet which reduces risks for shareholders. It has about $205 million in cash (which is equivalent to about $5.29 per share in cash), and around $1 billion in debt which is used for operations and to fund loans to consumers.

Analysts at Zacks Investment Research have recently turned bullish on DFC Global shares, giving the stock a "buy" rating and noting that analyst earnings estimates have been rising in the past few weeks. On January 3, 2014, Zacks stated:

.... it is pretty encouraging that estimates for DLLR have moved higher in the past few weeks, meaning that analyst sentiment is moving in the right way.

Some major "smart money" institutional investors are also appearing very bullish on DFC Global as investment giants like The Vanguard Group own over 2 million shares or about 5.35% of the entire company. Wells Fargo (NYSE:WFC) also owns about 2 million shares; however, Wasatch Advisors, Inc., owns nearly 3.5 million shares or roughly 9% of the entire company. Wellington Management Company has nearly 5 million shares which is equivalent to almost 13% of the entire company. There are a number of others with significant stakes in DFC Global, but just these four companies are collectively owning about one-third of this company which is impressive and should be a source of great confidence regarding its future upside potential.

This stock is trading below book value which is about $11.34 per share, and at just 11 times earnings estimates for 2014. It is also trading around three times estimates for 2016, and for nearly half the 52-week high of $19.97, which is why the upside appears to greatly outweigh any potential downside risks.

Here are some key points from Yahoo Finance for DFC Global Corp.:
Current share price: $11
The 52 week range is $9.25 to $19.97
Earnings estimates for 2014: 97 cents per share
Earnings estimates for 2014: $1.75 per share
Annual dividend: n/a

Vale S.A. (NYSE:VALE) shares are well off the all time high of about $43 (reached in 2008), and have even been weak in recent days. This is due to concerns over demand from China which is a large consumer of Vale's many metal and mining products. This includes iron ore, pellets, nickel, manganese, copper, aluminum, bauxite, potash and other commodities. A number of these metals and basic materials are still at depressed prices when compared to the highs seen before the 2008 financial crisis. However, as the global economy synchronizes in growth phase as it appears to be doing now, it might not be too long before we see demand for iron ore and other metals increase, taking prices and profit margins for Vale much higher. In my view, if you like to buy low and sell high, you need to buy when stocks are unloved and when industries are facing challenges. That is why buying Vale shares now could be very rewarding, especially as time goes on.

The recent weakness in Vale shares appears to be due to very short-term thinking on the part of some investors. For example, if China PMI data comes in soft one month, (as it recently did), you can often see a big drop in coal and iron ore stocks and this is just plain silly. The value of an entire company should not change by a few percent because of a small variation in demand for a single month. The bigger picture question is not what the demand from China is this month, but where it is going to be in 6 months, 1 year or even 5 years from now, and the answer is probably much higher. The Chinese economy is growing at about 7% per year, and even if that growth rate were to slip a bit, it would still be much higher than in most major economies. That's why all this hand-wringing over a soft month of economic data or a bad day for China related stocks makes little sense. When you see people talking about weakness in China, it's important to remember that weakness is relative, and what is considered weak growth in China would be considered explosive growth for many other countries. These are the reasons why investors can outsmart the short term thinking by focusing on the future and the secular growth story that China offers.

Naturally, a "hard landing" in China or another global recession are potential downside risks to consider before investing in Vale; however, this does not seem likely, as China continues to grow and also because the Chinese Government has many policy tools to prevent a worst-case scenario. With the global economy showing signs of improvement, the risks of a recession seems to be limited. The recent weakness in Vale shares has taken it from trading above $15 in December to below $14 per share today. That is a buying opportunity that investors should take advantage of, because there are many long-term positives that could provide significant upside in the future.

A recent Barron's article points out that while some investors expect limited upside from many Brazilian stocks, analysts at Credit Suisse believe stock picking will be paramount, that a select number of companies will have event-driven upsides, and Vale was one of their top picks. The Credit Suisse analysts stated:

Vale could divest from non-core operations such as Logistics, Fertilizers, Coal, Copper, Potassium among others.

Analysts at JP Morgan also see significant upside and have set a price target of $21.50 per share for Vale. In fact, JP Morgan notes that Vale has streamlined its business and it sees upside for iron ore prices. A recent Barron's article details the bullish view from JP Morgan and it states:

Management has been consistently delivering on its strategy of discipline and simplicity. A few examples: capex budgets have been slashed; Rio Colorado potash project was discontinued; divestitures such as VLI and Norsk-Hydro were delivered; installation license of S11D was obtained. The final and more important one was the settlement of the tax liabilities, taking away the main uncertainty around Vale's investment case. Vale is now a simple story of iron ore growth and turnaround of base metals.

Vale has a solid balance sheet with about $36.46 billion in debt and around $8.13 billion in cash. This stock currently trades below book value which is $15.77 per share. It also trades at a cheap valuation as analysts expect the company to earn just over $2 per share in both 2013 and 2014. This puts the price to earnings ratio at just about 7 times earnings, while the S&P 500 Index trades for more than twice that level, at roughly 16 times earnings. Furthermore, it is important to remember that Vale's earnings are depressed now since iron ore and other metals are still trading way below the highs seen years ago. While it might take longer than some investors would like, it's more likely than not that there will be better days ahead for this industry and if that is the case, the share price could trade at much higher levels.

Here are some key points for VALE:
Current share price: $13.60
The 52 week range is $12.39 to $20.70
Earnings estimates for 2013: $2.25
Earnings estimates for 2014: $2.09
Annual dividend: about 11 cents per share which yields .8%

Data is sourced from Yahoo Finance. No guarantees or representations
are made. Hawkinvest is not a registered investment advisor and does
not provide specific investment advice. The information is for
informational purposes only. You should always consult a financial

Disclosure: I am long VALE, DLLR, . I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.