If I learned anything during my first year of trading stocks, it's that markets are inefficient. My biggest gainers in 2009 were mostly Chinese OTC stocks, like Orient Paper (ONP), Longwei Petroleum (OTC:LPIH), Yuhe (OTCPK:YUII), China North East Petroleum (NEP), Lotus Pharmaceutical (OTCPK:LTUS),China Yongxin Pharmaceuticals (OTC:CYXN), China Organic Agriculture (OTC:CNOA), GHII.OB and Biostar (BSPM), all of which traded at P/Es near 2 when I bought them. While each of those stocks have appreciated by multiple times since, not all have improved operations or had positive catalysts. As higher quality companies become more highly valued, investors become more willing to buy lower quality companies if the price is right.
As a result of massively increased activity and prices in stocks across the board, I decided to go bargain hunting recently to see if anything out there resembles last year's oversold microcaps trading at heavy discounts. While all are thinly traded and volatile, I consider the following stocks safe bets with a lot of upside (compared to options and other cheap stocks, my assumption being that broader markets and bigger companies currently offer very little upside potential).
1. Bridgeline Digital (BLIN): BLSW is a SaaS software maker traded on the NASDAQ, making the stock more transparent than an OTC listing. BLSW has 676 customers and has sold over 100 iAPPs (flagship software) licenses. Customers include Honeywell (HON), the Washington Redskins, Blue Cross Blue Shield and Berkshire Bank. In 2009 the company operated profitably in each quarter, generating positive cash flow for the first time. Still, the stock has lost over 20% in the last six months and trades 80% lower than the 2007 IPO price of $5/share. With trailing EPS of 7 cents, solid growth, no debt and $3M in cash, BLSW is poised unusually well for a $14M company.
2. Sancon Resource Recovery (OTCPK:SRRY): SRRY.OB provides consulting, collecting and processing services for recyclables and industrial waste in Australia and China. The Company recently reported 9 cents EPS in 2009 and issued a strong 2010 guidance as industrial activity in China and Australia continues to surge. Insider ownership is very high, with three board members owning almost 40% of the float. SRRY has almost $4M in net cash and a market cap of $8M.
3. Linkwell (OTCPK:LWLL): Linkwell manufactures and distributes various disinfectant products to medical facilities in China. Operations have been profitable since 2005 and margins improved significantly in order to achieve record income in 2009. The Company has established a well-integrated sales and distribution network along with support from the PRC, making competition highly unlikely. JNJ tried to buy Linkwell several years ago, but lately the company has been out of the spotlight. Insider confidence still looks strong, with two executives owning a combined 40%+ of outstanding shares. Like the other stocks mentioned, LWLL.OB is extremely volatile and illiquid, meaning investors should be selective with entry points and patient to sell. At $12M, Linkwell trades around four times 2009 earnings and two thirds NAV.
Disclosure: Long SRRY.OB, BLIN, LWLL.OB