David Dreman, well known for his book “Contrarian Investment Strategies” focuses on finding and analyzing companies based on their low price relative to earnings, cash flow, book value or dividends.
How to Find Contrarian Stocks
Market Cap Size – [PASS]
According to Dreman, investors should look at large caps rather than small caps because of the exposure and the interest generated on Wall Street.
Apple (AAPL) is the biggest tech company on the market and easily passes this test.
Earnings Trend – [PASS]
This criteria certainly is used by most gurus. The growth investing strategy applied to Apple, looked at earnings trends from various angles.
AAPL’s EPS the past two quarters has increased from $3.51 to $4.64.
Past EPS Growth Rate and Estimated Growth Rate – [PASS]
AAPL’s past EPS growth rate over the last 6 months was about 39% which clearly beats the S&P growth rate of 18.5%.
Dreman takes it one step further to ensure that the company will continue to grow by looking at the estimated full year EPS growth. AAPL’s full year growth is expected to come in at 25%.
Again, AAPL is a pass based on positive earnings growth.
Price to Earnings (P/E) Ratio – [FAIL]
Dreman is very much a multiples valuation investor. He doesn’t perform many of today’s valuation methods and just sticks to companies selling at a cheap multiple.
The P/E of a company should be in the bottom 20% of the overall market.
AAPL has a P/E of 20.8 which is not in the bottom 20%. The lower 20% threshold P/E is 9.5 and so AAPL fails this test.
Price to Cash Flow (P/CF) Ratio – [FAIL]
The P/CF should be in the bottom 20% of the market.
AAPL’s P/CF is 19.2, which is above the lower 20% market threshold of 5.7
Price to Book (P/B) Ratio – [FAIL]
The P/B should also be in the lower 20%.
AAPL P/B is 6, which is above the threshold level of 0.8
Price to Dividend (P/D) Ratio – [N/A]
AAPL does not pay a dividend so it automatically fails.
The P/D ratio should be in the bottom 20% of the market.
Since AAPL does not pass any of the ratio’s test, it cannot pass as a contrarian investment. The four ratio conditions determine whether a stock is either unloved or underfollowed. AAPL is neither.
Current Ratio – [PASS]
To identify strong companies, the current ratio should be greater than 2.
AAPL’s current ratio is 2.01 and just passes the test.
Payout Ratio – [N/A]
There is no dividend so AAPL gets a N/A here.
For other companies, the payout ratio is a good indicator to see whether the company has the ability to raise dividends.
Return on Equity – [PASS]
Dreman wants the company to have a high ROE as it ensures there are no structural flaws in the company. Instead of ROE, I prefer to use either ROIC or CROIC.
Nevertheless, ROE should be in the top 1/3 among the top 1500 large cap stocks which is 17.4%
AAPL's ROE is 35.3% which is an enormous hurdle over this criteria.
Yield - [FAIL]
Yield should also be above the market yield of 2.7% but since AAPL has no dividend, it is marked a fail.
Total Debt to Equity – [PASS]
Dreman wants to see companies with low debt. The lower, the stronger the balance sheet.
For a company the size of AAPL, it has no outstanding debt.
Contrarian Investment Result
Apple didn’t meet any of the important price ratios. It failed 3 out of 4 with the last criteria being an N/A.
Certainly doesn’t line up in the contrarian investment category but I have to admit that AAPL truly is an amazing company.