Price to Hiring Ratio: Underused Valuation Metric

Includes: BSQR, VSR
by: Danny Furman

When I began doing stock market research this February, investor sentiment was overwhelmingly bearish. Despite the late 2008 collapse, however, all the negativity from analysts was hard for me to swallow. Based on the most commonly used valuation metrics, stocks were "filthy cheap." Profitable companies, smallcaps in particular, were trading for less than cash, low single digit P/Es and minimal fractions of book value.

Additionally, much of my inspiration to commit everything I could to cheap, profitable, growing companies came from watching an extensive interview with Jim Rogers, whose emotionless, fundamental approach has crushed indexes year after year and earned him "arguably the best investor ever" status.

More than once in the interview, Mr. Rogers exclaimed (with a wry smile) "crisis begets opportunity."

The progressive change in sentiment during this 50% rally has likely been seen as comically (and profitably) predictable to many technical experts and market historians. Bullish sentiment is higher now than it was in April or May, when a +5% week was the norm for worldwide indexes.

In fact, August 2009 investor confidence is higher than any reading since October 2007, just before a monumental decline.

Of the many things I've learned by immersing myself in the world of equities, none has impacted my thinking more than the realization that greed and fear drive financial markets. "Contrarian thinking" has little to do with countering trends, fundamentals or even general sentiment. It simply requires skepticism and the absence of emotion in decision-making. All that matters is buying low and selling high, which is apparently a more difficult concept for some to grasp than others.

Dr. Larry Kudlow (multiple Phds, including: Cheerleadology, Counter-argument Dismissology and King Dollarology) recently admitted that his V-shaped recovery theory is discouraged by continually worsening unemployment. While it is easy to understand that employment is a lagging indicator, it may be the most important one. Hiring can't be done until economies improve, however it must be done when they do.

Humility from such a cartoonishly boisterous character really made me scratch my head. After some thought, I came to the following conclusion: Individual companies that are recovering, have recovered or never struggled recently are currently hiring aggressively. A significant percentage of any investment is made in the people at a particular firm and human capital is currently extremely cheap in the US. For months, analysts have been screaming from the rooftops about takeover opportunities in internet technology and biotech.

Just like underfunded businesses represent buying opportunities, so too do underfunded intelligence, skills and work ethic. Jobs, especially high paying ones, are scarce and qualified workers are desperate.

In screening stocks since my Dr. K assisted revelation, I am placing significant emphasis on company job listings. This may be "old hat" to many investors, but current conditions dictate that few companies are hiring while conditions are ideal for doing so.

Evaluating smaller companies in this way is much easier than doing so with members of the DJIA, but sufficient research allows for comparisons of quality and quantity of available jobs at any number of similar companies, regardless of size. This is very telling for investors seeking growth, and information is easily accessed on corporate websites.

As always, I look for extraordinarily cheap companies that are profitable and growing. Adding a hiring metric limits candidates further, but the last two stocks I've bought shares of satisfy my stingy requirements:

Versar Inc (NYSEMKT:VSR): Versar is an international professional services company specializing in homeland defense, infrastructure and management services. The company is a worldwide leader in facilities design and management involving chemically and biologically sensitive materials. Versar doubled annual revenues to $115M from 2006 to 2008 and is earning construction opportunities in additional fields thanks to a strong relationship with the US government and successful efforts in Iraq and Afghanistan. VSR is a $35M company with a trailing P/E of 12 and was 14th on Fortune Small Business' FSB 100 list (see here).

Versar has over 40 career openings in the US, mostly technical and management positions. Jacob's Engineering (NYSE:JEC), AECOM (NYSE:ACM) and URS all started somewhere...

BSQUARE (NASDAQ:BSQR): BSQUARE provides software and engineering services in the smart device market. The majority of revenue comes from sales of Microsoft Windows CE and Embedded software, with TestQuest Pro services also contributing significantly. BSQR supports Google's (NASDAQ:GOOG) Android platform, on which many of China's 3G phones will operate and T Mobile recently introduced in the US. The company provides services to enhance system functionality and efficiency to retailers, hospitals, military divisions and other businesses with smart device networks.

BSQR has grown revenues steadily over the last 5 years and operated profitably since FY2007. First half FY2009 revenues are up profitably YOY and a collaboration with Coca-Cola (NYSE:KO), in which BSQR will develop software for a vending machine capable of dispensing 100+ different drinks, was recently announced. The company is valued at $23M, has $11.8M in cash (plus $7.7M in AR, including $4.1M from Ford (NYSE:F)) and is currently looking to hire dozens of software engineers.

My picks may be too speculative for some, but the aforementioned companies are growing, profitable and capitalizing on a favorable labor market.

Disclosure: Long BSQR, VSR