5 Quality Stocks Trading At 6x Earnings

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 |  Includes: BTUUQ, CSCO, GM, JPM, STX
by: Thomas Lott

I typically eschew lists of stocks, and rarely if ever read them on any blog or website. That said, I have found several names that seem stunningly cheap. These aren't broken business models or even names that will slowly decline over time. These are solid, blue chip stocks that for various reasons are trading poorly. I also like that these are fairly diversified names, including a financial, an industrial, a tech stock, and well, keep reading. You get the idea.

JP Morgan (NYSE:JPM). Admittedly the news flow is awful here. The company's hedging fiasco this month has caused shudders among investors and shaken people's faith in what was seen as perhaps the best run big bank in the country. Jamie Dimon has been considered the ablest risk allocator in the business, avoiding pain in 2008 unlike almost every other bank.

Assuming the $2.3BB trading losses (or are they $5-7BB now?) can be unwound by year end, then 2013 will likely look ok. I sincerely believe that there is no way Jamie Dimon lets this happen again. He will be all over the risk controls and even the individual trades from here on out, until this is fixed.

I don't think you can ignore this fiasco, but neither can you ignore the 15% returns on tangible equity that the firm generates on over $175BB of common equity. $6BB in losses is a lot, but it's also only one quarter of earnings, and not a recurring item. I also like the fact that JPM's tangible book value per share is $33.69, a level that seems to be support for the stock lately.

Just for some historical perspective, it's worth noting that JP Morgan's tangible book per share was $18.88 in 2006, and ended last year at the aforementioned (did I really just use that word?) $33.69. That is a 12.2% CAGR, arguably through the worst financial cycle we will see in our lifetimes. They also passed the latest stress tests with plenty of room, showing 9.3% 2013 "Stressed" Basel I Tier I common equity.

I wouldn't be surprised to see a zero earnings number or less in the June quarter, followed by the company earning over $5.00 in EPS next year. You are paying 1.0x tangible book, and 6.9x 2013 earnings. (The Street is at $5.47 next year by the way, which is an even better 6.3x earnings). If the stock gets to a reasonable 11x P/E next year, JPM could easily trade to $50-55 per share.

General Motors (NYSE:GM). GM restructured in 2009, enabling the company to exit losing brands, cut costs, shut down excess manufacturing capacity, and most importantly, eliminate a substantial amount of their pension and benefit costs. Retiree healthcare costs were killing the company, as at one point the company had three times as many retired workers as active ones, all getting full guaranteed pension and health benefits. At the end of the day, GM expunged a cool $128BB of liabilities, not bad for a few months work. Plus, they now have an investment grade rating again.

In any case, the company has performed quite well since emerging from Chapter 11, with revenue improving from $135BB in 2010, to a likely $155 to $165BB in revenue in 2013. They are gaining share in the US and China, making decent cars again and generating lots of earnings. Speaking of which, next year the street is forecasting a mean EPS of $4.59, which on a $22 stock implies a dirt cheap 4.8x P/E ratio.

While GM Europe (NYSE:GME) is losing money still, overall it's not a big part of the company. Right now GME is only a $300mm drag compared to $2.2BB of pre-tax earnings (in the first quarter of 2012 that is). Even better, in Q1 GM North America accounted for $1.7BB of the company's total $2.2BB in EBIT, or almost 80% of pretax earnings. I don't think a European recession causes any more damage to GM. In fact, just jettisoning the GME business would improve results by 15%.

Oh, did I mention that one of the best investors of all time just bought some GM? Hint, his initials are WB.

Cisco (NASDAQ:CSCO). Ok I am going to cheat a little on this one. While EPS is the most commonly used measure of true earnings, I actually prefer free cash flow per share. In Cisco's case, I simply take net income, add back depreciation and amortization expense, and subtract out capex. This way, I conservatively leave in stock compensation expenses, which seem like legit expenses to me. That math last fiscal year gets you to $7.8BB in cash earnings. Divided by 5.4BB shares gives you $1.46 in FCF/share.

Yes, this is higher than the $1.17 in reported EPS, but real cash earnings are real cash earnings. It is simply the correct way to look at it, unless for some reason capital expenditures are artificially low. (based on the last five years, capex tends to run around $1.0 to $1.1BB, so I think the $1.1BB last year in this calculation is fine).

Taking the $16.50 price and subtracting out the net cash on the balance sheet of approximately $4.00 per share implies you are paying $12.50 per share for Cisco's business. Given an approximate $2.00 FCF/share estimate for 2012 (July fiscal year), means you are investing in Cisco at the bargain price of 6.4x earnings. (Note, yes Cisco's cash is mostly held overseas, so I taxed the $6.00 in cash per share at a 35% repatriation rate to get to around $4.00 in available cash to US stockholders).

If you want to get picky, analysts expect $1.92 in Fiscal Year 2013 earnings per share, which still implies 6.7x earnings.

Seagate Technology (NASDAQ:STX). This one is off the charts cheap. While historically the disk drive manufacturers have suffered from overcapacity and brutal pricing, today there has been some major structural change to the industry, meaning actual profits may be far higher, and far less volatile. The market has not quite embraced this notion however.

Given Seagate's recent purchase of Samsung's disk drive business, as well as Western Digital's purchase of Hitachi, means that there are now only 3 major players in the disk business, down from 5 just last year. Not to mention Seagate's purchase of Maxtor back in 2006, and its just-announced purchase of French storage company LaCie. So, market share last year looked like:

Seagate 38%

Samsung 9% (bought by Seagate)

Toshiba 16%

Western Digital 23%

Hitachi 14% (bought by Western Digital)

So, instead of a fragmented market, you have Seagate controlling 47% of the market, Western Digital with 37%, and Toshiba a distant third with 16%. I suspect that Western Digital will catch up and gain some share from Seagate over the next year or two. Yes Western Digital's manufacturing facilities were in the Thai flood plains. And Seagate lucked out with plants on higher ground. But overall, the industry suddenly looks much different than just a few months ago.

Simply taking the last 12 month trailing earnings, Seagate posted $4.58 in EPS. But importantly, they did $2.48 in EPS just last quarter, crushing Street estimates of $2.13. For the fiscal year ending this June, the street is forecasting $7.00 in EPS, give or take. That is a P/E of 5.6x TTM earnings, and 3.7x 2012 FYE earnings. I am not complaining that one of my favorite investors, David Einhorn also owns this stock, or that the company announced a $2.5BB stock buyback last month. That is a huge buyback, representing 21% of the market cap of the company.

Peabody Energy (BTU). One of the most diversified among US coal producers, Peabody has traded from over $70 a share to a lowly $24ish level today. In fact, it is within spitting distance of its 2009 lows of around $20 per share. While coal to gas switching among utilities has hurt domestic demand for thermal coal, China continues to import more and more coal. In fact, a Barron's piece on coal estimated that China has imported 71.5mm tons of coal through April, up 65% year over year. India is also expected to up their coal imports by 33% compared to 2011.

On the met-coal side, pricing has gotten killed as steel demand wanes. (Metallurgical or met-coal is the stuff used to make steel). But China is likely to have a soft landing, and still expecting steel consumption growth rates of 4-6%. While met-coal prices have fallen from $330/ton a year ago, today they are still at a healthy level of $180/ton, a level that Australian research firm Wood Mackenzie suggests is a bottom.

Peabody (in cahoots with steel maker ArcelorMittal) clearly overpaid for Macarthur Coal last Fall, top-ticking the met-coal market by paying $4.8BB in cash for the Australian met-coal company. That was a robust 13x 2013 EBITDA, back when met-coal prices were far higher. (and ug, 48x 2012 EBITDA). In any case, the stock has been adequately punished, losing $12BB of market value.

On the thermal coal side in the US, many argue the death of coal fired power plants. Perhaps. But whatever your feelings for coal are in the US, you can't ignore the fact that Peabody generates half of its EIBTDA out of Australia today, and they can also export US based coal abroad should demand continue to weaken. Management has made a decent case for a coal super-cycle worldwide here, as emerging markets continue to grow power demand mostly through coal, while met-coal demand will grow with higher worldwide steel consumption.

As far as the numbers go, 2012 estimates are $2.67 in EPS, and $3.60 in EPS in 2013. That is a forward multiple of 6.6x 2013 earnings. Since 2002, Peabody has traded at an average multiple of 23x earnings. They have 9BB tons of coal reserves in the ground today. Based on the company's $12BB total enterprise value, you are paying $1.37 per ton of coal. I can quite easily see this trading at an average 11x P/E multiple, implying a $40 stock in a year or two.

Conclusion

Admittedly the macro picture today tells you to sell everything, and wait until Greece and the Euro have been resolved. With circuit breakers in place, we likely won't see that massive single day sell off that used to mark bottoms in the old days. You will see however, a clear signal from central banks when and if Greece goes, and that likely is a buy signal. Greece may or may not exit this summer, but either way, the ECB, probably along with the Fed and the Bank of Japan, will offer unlimited liquidity to European banks to preserve the financial system. Nobody is dumb enough to let another Lehman Brothers go bankrupt. If investors can get some confidence that the financial system in not in peril, then monies will flow back to equities and away from ridiculously over-valued Treasuries.

So, waiting to buy these stocks may be smart, but then again, it may also be wise to dip your toe in the water on a couple of these names. Personally I am not long any of these yet, but these are at the top of my buy list as panic levels continue to rise.

Disclosure: I have no positions in any stocks mentioned, but may initiate a long position in (BTU), (CSCO), (GM), (STX)],(JPM) over the next 72 hours.