Takeover Plays: 8 Takeover/LBO Targets With Strong Free Cash Flow

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 |  Includes: AOL, CEPH, CSC, ESI, GME, IDCC, M, SWY
by: Kapitall

The following is a list of eight companies that have been identified as potential takeover or leveraged buyout (LBO) candidates by various publications, including Barron's, UBS, Morningstar, Wall Street Journal, Marketwatch, TheStreet.com, and StreetInsider.

Notably, these eight companies also have high TTM levered free cash flows as a percentage of market cap (i.e. exceeding 10%).

Levered free cash flow is the free cash flow available to the company after paying interest on outstanding debt. It is a measure of the cash flow that is truly available to the company.

What do you think about these companies’ takeover prospects? Use this list as a starting point for your own analysis--full details below. If you want to access the complete list of takeover targets, click here.

Levered FCF sourced from Yahoo Finance, short float and performance data sourced from Finviz.

Interactive Chart: Press Play to compare changes in analyst ratings over the last two years for the top six stocks mentioned below. Analyst ratings sourced from Zacks Investment Research. Note: The numbers on top of items represent the forward P/E ratio, if available.



List sorted by TTM levered FCF as a percentage of market cap.

1. ITT Educational Services Inc. (NYSE:ESI): Education & Training Services Industry. Market cap of $2.28B. Thunderstorm Capital identified the company as a potential takeover/LBO target.

Levered FCF is 20.41% of market cap (TTM Levered FCF at $465.11M and market cap at $2.28B).

Short float at 19.57%, which implies a short ratio of 6.64 days. The stock has lost -29.36% over the last year.

Insiders appear to be optimistic on the outlook for the company. On a net basis, they've purchased an average of 252,511 shares per year (over the last 2 years).

2. Macy's, Inc. (NYSE:M):
Department Stores Industry. Market cap of $10.12B. The Street identified the company as a potential takeover/LBO target.

Levered FCF is 16.30% of market cap (TTM Levered FCF at $1.65B and market cap at $10.12B).

Short float at 3.47%, which implies a short ratio of 1.78 days. The stock has gained 21.94% over the last year.

When compared to industry competitors, the company reported better than average profit margins during the most recent quarter. Gross margins came in at 41.29%, higher than the industry average at 34.52% (most recent quarter, annualized). Operating margin came in at 14.14%, higher than the industry average at 9.7%, while net profit margin came in at 14.14% vs. the industry average at 9.7%.

3. AOL, Inc. (NYSE:AOL): Internet Information Providers Industry. Market cap of $2.23B. UBS identified the company as a potential takeover/LBO target.

Levered FCF is 16.29% of market cap (TTM Levered FCF at $362.85M and market cap at $2.23B).

Short float at 5.93%, which implies a short ratio of 5.64 days. The stock has lost -17.61% over the last year.

Institutional and mutual fund investors have been net purchasers of the company's shares over the last two quarters, suggesting that the smart money thinks there's more upside to the stock. Institutional investors have been net buyers of 2.4M shares during the most recent quarter, vs. 301.8K net shares purchased in the previous quarter. Mutual fund investors have also been optimistic on the stock. They were net buyers of 5.4M shares during the most recent quarter, vs. 167.8K net shares purchased in the previous quarter.

Insiders appear to be optimistic on the outlook for the company. On a net basis, they've purchased an average of 527,178 shares per year (over last 2 years).

4. Cephalon Inc. (NASDAQ:CEPH): Biotechnology Industry. Market cap of $4.26B. Thunderstorm Capital identified the company as a potential takeover/LBO target.

Levered FCF is 15.73% of market cap (TTM Levered FCF at $670.61M and market cap at $4.26B).

Short float at 19.06%, which implies a short ratio of 10.21 days. The stock has lost -19.33% over the last year.

The company outperformed analyst earnings estimates during the most recent quarter, suggesting that the analyst community is underestimating the stock. The company reported earnings per share of $2.19 per share, and exceeded the First Call Consensus of $1.94 (Q4 Earnings on 02/10/11). The company also outperformed analyst estimates over the last year, reporting earnings per share at $8.14, beating the consensus view at $7.86 (based on the estimates of 24 analysts).

5. Computer Sciences Corporation (NYSE:CSC): Information Technology Services Industry. Market cap of $7.46B. Street Insider, Barron's and Merrill Lynch all identified the company as a potential takeover/LBO target.

Levered FCF is 14.07% of market cap (TTM Levered FCF at $1.05B and market cap at $7.46B).

Short float at 2.16%, which implies a short ratio of 2.18 days. The stock has lost -7.25% over the last year.

When comparing the company's price relative to earnings, it's clearly undervalued. The P/E ratio, based on the most recent quarter's earnings, stands at 7.81, lower than the industry average at 16.29, while the P/E ratio, based on trailing twelve month earnings, stands at 9.1, which is lower than the industry average at 18.91. The company also appears to be undervalued relative to projected earnings growth. PEG ratio at 0.98, vs. an industry average at 1.37.

6. InterDigital, Inc. (NASDAQ:IDCC): Wireless Communications Industry. Market cap of $2.11B. StockPickr identified the company as a potential takeover/LBO target.

Levered FCF is 13.55% of market cap (TTM Levered FCF at $285.94M and market cap at $2.11B).

Short float at 17.88%, which implies a short ratio of 7.01 days. The stock has gained 84.32% over the last year.

The company has demonstrated rapid cash flow growth over the last five years, which may lower their risk going forward. Five year average cash flow growth at 62.03%, much higher than the industry average at 9.08%.

7. GameStop Corp. (NYSE:GME): Electronics Stores Industry. Market cap of $3.02B. Barron's and The Street identified the company as a potential takeover/LBO target.

Levered FCF is 12.95% of market cap (TTM Levered FCF at $391.00M and market cap at $3.02B).

Short float at 25.45%, which implies a short ratio of 9.89 days. The stock has gained 14.07% over the last year.

The company's capital spending accelerated by 10.75% over the last five years, much faster than the industry average of -7.92%. At least theoretically, this makes them more competitive over the coming years, since their operational assets are more up-to-date.

8. Safeway Inc. (NYSE:SWY): Grocery Stores Industry. Market cap of $8.13B. Barron's identified the company as a potential takeover/LBO target.

Levered FCF is 12.42% of market cap (TTM Levered FCF at $1.01B and market cap at $8.13B).

Short float at 7.15%, which implies a short ratio of 4.91 days. The stock has lost -10.79% over the last year.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.