3 Cheap Stocks With Strong Profit Potential

 |  Includes: BSET, DXLG, FVE
by: ZetaKap

Do you prefer companies with strong profits, but that appear undervalued? If you do, read on, for we ran a screen just for you, keeping this idea in mind.

For starters, the Price/Book Value Ratio is a great price-multiple valuation metric to find companies that could be potentially undervalued or overvalued. If a firm has a Price/Book Value Ratio of less than 1, it is stated to be trading below "break up" value. A lower P/BV Ratio can indicate a potentially mis-priced company or indicate that something is fundamentally wrong with it.

The Price/Earnings ratio is one of the most commonly used price-multiple metrics. Often, EPS from the last four quarters is used to derive this number. A company that has a high P/E ratio generally indicates that investors have high expectations of the firm relative to future earnings growth. By the opposite token, investors generally have lower expectations of a company with a low P/E ratio. A company that holds a P/E below 10 could be viewed as having "value investment" potential. One thing to remember is that EPS is an accounting measure that could be potentially manipulated. Thus the P/E is only as good as the quality of the earnings.

EPS growth (earnings per share growth) illustrates the growth of earnings per share over time. EPS growth rates help investors identify stocks that are increasing or decreasing in profitability. This profitability metric is generally a key driver in the price of the stock, as it directly correlates to the profitability of the company as a whole.

Return on Equity (ROE) is one way to identify great potential names relative to profitability. This ratio illustrates the percentage return on shareholder equity. As also, this metric segments the company into operational efficiency, asset use efficiency, and financial leverage. Why does this matter? Simply put, it allows investors to get a real picture of how the company is generating these returns and helps identify parts of the company that may be underperforming.

We first looked for stocks that are undervalued (P/BV<1) and that are trading at a discount (P/E<10). From our narrowed list of companies, we then looked for businesses that have posted strong earnings growth for shareholders over an extended period of time (1-year fiscal EPS growth rate>10%) and that have been able to maintain a sound level of profitability for shareholders (ROE [TTM]>30%). We did not screen out any sectors or market caps.

Do you think these stocks hold value that has yet to be priced in? Use our list along with your own analysis.

1) Bassett Furniture Industries Inc. (NASDAQ:BSET)

Sector: Consumer Goods
Industry: Home Furnishings & Fixtures
Market Cap: $120.59M
Beta: 2.03
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Bassett Furniture Industries Inc. has a Price/Book Value Ratio of 0.80 and Price/Earnings Ratio of 1.97 and Earnings Per Share Growth of 2843.94% and Return on Equity of 50.71%. The short interest was 0.42% as of 04/27/2012. Bassett Furniture Industries, Incorporated, together with its subsidiaries, engages in the manufacture, marketing, import, and retail of branded home furnishings in the United States.

The company operates in three segments: Wholesale, Retail, and Investments and Real Estate. The Wholesale segment engages in the design, manufacture, sourcing, sale, and distribution of furniture products and accessories to a network of 89 Bassett Home Furnishings stores, including independently-owned and company-owned retail stores; and independent furniture retailers. This segment is also involved in wood and upholstery operations.

2) Five Star Quality Care Inc. (NYSE:FVE)

Sector: Healthcare
Industry: Long-Term Care Facilities
Market Cap: $171.96M
Beta: 1.74
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Five Star Quality Care Inc. has a Price/Book Value Ratio of 0.61 and Price/Earnings Ratio of 2.46 and Earnings Per Share Growth of 121.50% and Return on Equity of 30.69%. The short interest was 2.88% as of 04/27/2012. Five Star Quality Care, Inc. operates and manages senior living communities in the United States. Its senior living communities include independent living communities, assisted living communities, and skilled nursing facilities (SNFs).

The company provides nursing and healthcare, physical therapy, occupational therapy, speech language pathology, onsite pharmacy, radiology, laboratory, telemetry, hemodialysis, orthotics/prosthetics, and institutional pharmacy services.

3) Casual Male Retail Group, Inc. (CMRG)

Sector: Services
Industry: Apparel Stores
Market Cap: $152.68M
Beta: 2.99
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Casual Male Retail Group, Inc. has a Price/Book Value Ratio of 0.99 and Price/Earnings Ratio of 3.54 and Earnings Per Share Growth of 174.79% and Return on Equity of 32.11%. The short interest was 3.28% as of 04/27/2012. Casual Male Retail Group, Inc., together with its subsidiaries, operates as a specialty retailer of big and tall men's apparel in the United States, Canada, and Europe.

The company operates its stores under the Casual MaleXL, Casual MaleXL Outlets, DestinationXL, Rochester Clothing, B&T Factory Direct, ShoesXL, and LivingXL names. Its stores offer sportswear, dress clothing, footwear, suits, loungewear, neckwear, and accessories; basic items, including jeans, casual slacks, tee-shirts, polo shirts, dress shirts, and suit separates; and lifestyle products, such as chairs, outdoor accessories, travel accessories, bed and bath products, and fitness equipment, as well as a line of its private label collections, such as Harbor Bay, Gold Series, Synrgy, Oak Hill, and True Nation.

* Company profiles were sourced from Finviz. Financial data was sourced from Google Finance and Yahoo Finance.

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