3 Great Value Plays And 2 To Avoid For 2012

|
 |  Includes: AA, F, GT, INTC, SHW
by: Vatalyst

With the much vaunted economic recovery now appearing to be stalled due to the flow on effects of the European sovereign debt crisis and lower than expected economic growth figures, there are growing fears of a double dip recession. This has seen many cyclical stocks become even more unloved by the market and pushed to new trading lows, which I believe has created some solid buying opportunities. After an extensive screening process I have selected five cyclical stocks that appear to be undervalued and applied my unique fundamental analysis to determine if now the right time to invest is. I have found three: Alcoa (NYSE:AA), Ford (NYSE:F) and Intel (NASDAQ:INTC), which I consider to be firm candidates for further investigation and two, Goodyear Tire (NASDAQ:GT) and Sherwin-Williams (NYSE:SHW), that I believe are not. As always use my analysis as a starting point for conducting your own due diligence prior to investing.

Alcoa Inc (AA)

Alcoa is the third largest producer of aluminum in the world and the largest listed producer in the US with a market cap of $9.5 billion. It produces and manages aluminum, fabricated aluminum, and alumina. The company also holds interests in bauxite mining activities and operates primarily in the United States, Australia, Spain, Brazil, the Netherlands, Norway, France, Hungary, Italy, the United Kingdom, Russia, and Germany.

Alcoa’s earnings are dependent on the worldwide demand for aluminum and this has dipped significantly with the current sluggish economic environment and substantial drop in discretionary consumer spending. It has a 52 week trading range of $8.45 to $18.47 and since the start of 2011 has dropped 43% in value, now trading at around $9 with a price to earnings ratio of 9.

Alcoa saw a 3% drop in third quarter 2011 earnings to $6.4 billion from second quarter earnings of $6.6 billion and during this period net income also dropped by a massive 47% to $172 million. However, for the same period Alcoa’s balance sheet has strengthened with cash and cash equivalents rising 8% to $1.3 billion and long-term debt dropping 1% to $8.7 billion.

Alcoa compares well to its competitors, although its quarterly revenue growth of 21% is the lowest in its industry segment and is well behind Aluminum Corporation of China’s (NYSE:ACH) 53%. However, its return on equity of 6% is higher than Kaiser Aluminum’s (NASDAQ:KALU) 2% and is the second highest for its industry segment. Alcoa also has the second highest profit margin for its industry of 2.7%, which is higher than Aluminum Corporation of China’s 1.8% and Kaiser Aluminum’s 1.4%.

Alcoa was trading as high as $18 in April 2011 before sovereign debt fears, stagnant economic growth numbers and other macro-economic issues sent the stock into a tailspin, dropping by over 50% to its current trading price of $9. I believe that the market has over reacted in selling Alcoa down so heavily, as the company has solid growth prospects with a PEG ratio of 0.47 and a solid balance sheet with a conservative debt to equity ratio of 0.51. This indicates that the company is well positioned to capitalize on future growth opportunities as the economy improves. Alcoa also pays a dividend of 12 cents per share, which is a yield of 1.2% and with consideration for the current balance sheet I believe that this dividend payment is sustainable.

Finally at current trading prices Alcoa appears to be unfairly discounted by the market, firstly because it is trading at a 47% discount to its book value per share of $17.13 and secondly as it has an earnings yield of 11%, which is more than triple current ten year bond yields.

For all of these reasons I believe that at current prices Alcoa has been unfairly discounted by the market and represents a solid investment opportunity that can only rise in value as the economy improves. Therefore, Alcoa is certainly worthy of further investigation and analysis.

Ford Motor Company (F)

Ford It is the third largest car manufacturer in the US with a market cap of $567 billion. It develops, manufactures, distributes, and services vehicles and parts worldwide. It has a 52 week trading range of $9.05 to $18.97 and has dropped in value by 37% since the start of 2011, now trading at around $11 with a price to earnings ratio of 7.

Again this is a company whose earnings are dependent upon the economic cycle being in boom phase and the current depressed economy and low consumer discretionary spending have had an impact on both earnings and net income. For the third quarter 2011 Ford reported a 6% drop in earnings to $33 billion from $35 billion for the second quarter, and for the same period net income dropped by 33% to $1.6 billion. However, Ford reported a stronger balance sheet in this period, despite cash and cash equivalents dropping by 3% to $16.5 billion, as long-term debt dropped by 5% to $94 billion.

Ford is performing strongly in comparison to its competitors, with quarterly revenue growth of 11%, which is higher than General Motors (NYSE:GM) 8% and Toyota Motor Corp’s (NYSE:TM) -4.8%. Its return on equity of 317% is also substantially greater than General Motors’ 26% and Toyota’s 2.3%.

At current prices I believe that Ford has been unfairly discounted by the market as the company has solid fundamentals. It has a PEG ratio of 0.76, a forward price to earnings ratio of 7 and a profit margin of 5%, all of which bode well for further earnings and income growth. In addition, its earnings yield of 16%, which is more than four times current ten year bond yields, indicates that it is undervalued. For these reasons I believe that at its current trading price Ford is unfairly valued by the market and is a solid candidate for further consideration and research.

Goodyear Tire & Rubber Company (GT)

Goodyear is the largest listed company in the plastics and rubber industry with a market cap of $3.5 billion. It develops, manufactures and distributes tires and related products worldwide and also operates approximately 1,500 tire and auto service centers. It has a 52 week trading range of $8.53 to $18.83 and since the start of 2011 has risen by 14% in value, currently trading at around $14 with a price to earnings ratio of 26.

For the third quarter 2011 Goodyear reported a 7% increase in third quarter 2011 earnings to $6 billion, from $5.6 billion in the second quarter. Net income also rose by a massive 300% in the third quarter to $160 million and the company also reported a stronger balance sheet in this period with cash and cash equivalents rising by 17% to $2.1 billion.

When compared to its competitors Goodyear is performing quite strongly. Its quarterly revenue growth of 22% is greater than Cooper Tire’s (NYSE:CTB) 19%, and is the fifth highest revenue growth rate for its industry. Its return on equity of 11% is the sixth highest for its industry and greater than AEP Industries’ (NASDAQ:AEPI) 9%, but lower than Cooper Tire’s 17%.

Goodyear has a PEG ratio of 0.57, which when coupled with its return on equity of 11% and stronger balance sheet, indicates that the company is well positioned to capitalize on future growth opportunities as the economy improves. However, with an earnings yield of 3%, which is similar to current ten year bond yields, I believe that at current prices the stock is marginally overvalued and does not incorporate an adequate risk premium above the risk free rate of return offered by ten year treasuries. Therefore, despite its strong fundamentals I do not believe that Goodyear is worthy of further consideration unless the stock price drops.

The Sherwin-Williams Company (SHW)

Sherwin-Williams is the second largest company in the general building materials industry with a market cap of $9 billion. It develops, manufactures, and distributes paints, coatings, and related products primarily in North and South America, the Caribbean region, Europe, and Asia. It currently operates approximately 3,390 specialty paint stores and 564 branches. It has a 52 week trading range of $69.47 to $90.17 and since the start of 2011 has risen in value by 8% trading at around $90, with a price to earnings ratio of 19.

Sherwin-Williams’ third quarter earnings 2011 rose 4% to $2.5 billion, from second quarter earnings of $2.4 billion and for the same period net income rose by 0.6% to $180 million from $179 million in the second quarter. However, in the third quarter its balance sheet weakened with cash and cash equivalents dropping by a massive 36% to $46 million and net tangible assets dropped by 32% to $212 million.

When compared to its competitors Sherwin-Williams stacks up well, with a quarterly revenue growth rate of 14%, which is higher than USG Corporation’s (NYSE:USG) 4.5% and Vulcan Materials Company’s (NYSE:VMC) 2.4%. It is also has the second highest return on equity for its industry of 35%, which is higher than USG’s -74% and Armstrong’s 6%.

Despite the weaker balance sheet, the company is maintaining a healthy debt to equity ratio of 0.71, although its PEG ratio of 1.5 does not bode well for future earnings growth. I believe these poor growth prospects have been factored into the current trading price by the market as the company has an earnings yield of 5%, which is only slightly higher than the current risk free yield of ten year treasury bonds. This indicates that at current trading prices the stock is overvalued. When this is considered in conjunction with the substantial 36% drop in balance sheet cash and 32% drop in net assets I do not believe that the company represents a buying opportunity and is not worthy of further research and investigation.

Intel Corporation (INTC)

Intel is the largest semiconductor manufacturer in the world with a market cap of $124 billion. It designs, manufactures and sells integrated circuits for computing and communications industries worldwide selling its products principally to original equipment and design manufacturers and other manufacturers of industrial and communications equipment. It has a 52 week trading range of $19.16 to $25.78 and since the start of 2011, has risen 20% in value currently trading at around $24, with a price to earnings ratio of 11.

Despite a subdued demand for semiconductors and related products and a negative outlook for the semiconductor industry in 2011, Intel has seen third quarter 2011 earnings rise 8% to $14 billion and net income rise 17% to $3.5 billion. Its balance sheet has also strengthened during this period, with a massive 52% increase in cash and cash equivalents to $7 billion.

Intel stacks up well against its competitors with quarterly revenue growth of 28%, which is the fourth highest in the industry, and is greater than Cypress Semiconductor’s (NASDAQ:CY) 14% and Advanced Micro Devices’ (NASDAQ:AMD) 4.5%. Its return on equity of 27% is the eight highest in the industry and greater than Cypress Semiconductor’s 24%.

Intel has a solid profit margin of 24%, which is the fourth highest in its industry, and in conjunction with its solid return on equity of 27% indicates that it is able to cost effectively translate earnings into net income. Intel also has a PEG ratio of 0.45 and this bodes well for future earnings and net income growth. When these are considered in conjunction with Intel’s extremely conservative debt to equity ratio of 0.15 and substantially stronger balance sheet, the company is not only strongly positioned for future growth, but is capable of weathering any further economic headwinds.

Finally with an earnings yield of 9%, the stock appears undervalued when compared with current bond yields and both its price to earnings ratio of 11 and a forward price to earnings ratio of 10 also makes it look comparatively cheap at current prices. Overall Intel’s fundamentals show a solid company that is well placed to increase earnings and net income with any cyclical uplift in the global economy, driving a higher stock price. Therefore, I believe at current prices the stock is unfairly valued by the market and is a solid candidate for additional research and analysis.

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