The Value Investor's Handbook

This is a link to an Investopedia article about Value Investing, one of my favorite investing strategies.  This investing style helped Warren Buffet become the richest man in the world, and it should help you a little more with your own investments as well.  Enjoy! 

http://investopedia.com/articles/fundamental-analysis/09/value-investing.asp

Stock of the Day - April 12, 2009 - LMT

Lockheed Martin Corporation (LMT)

Lockheed Martin (LMT) is the world’s largest military weapons maker, and it is the Pentagon’s biggest contractor by sales.  The company’s main competitors include Boeing (BA), Northrop Grumman (NOC), and General Dynamics (GD), all three of which are also defense companies.

Lockheed Martin, which is currently trading at $73.32, is around 40% below its 52-week high of $120.30, and it has lost 15% of its stock value in 2009.  I think Lockheed Martin is undervalued right now in the $70’s, as the lack of certainty about the company’s future earnings power has kept the share prices down.

Companies like Lockheed Martin are extremely dependent on government decisions in regards to military spending, as 85% of LMT’s sales come directly from the U.S. Government.  So, while investors and analysts eagerly anticipated Defense Secretary Robert Gates’ defense budget plans that were announced last week, there was heavy selling pressure due to uncertainty about the budget plans.  Many investors and analysts believed that the Obama administration would be drastically cutting the defense budget, as the current administration’s agenda seems to be focused less on the military than George Bush’s was. 

But, Gates’ proposed budget plans came as a surprise to many people who thought he would cut spending, as he proposed a $534 billion defense budget (up 4% from last year).  While this might sound great, a 4% increase implies that spending will essentially stay flat when accounting for inflation.  So, what did the budget plan include that will directly affect Lockheed Martin?

One of the most controversial issues in the proposed budget is Gates’ plan to limit Lockheed Martin’s F-22 Raptor fighter jets at the 187 already ordered, essentially cutting the extra 60 that were supposed to be purchased.  The F-22 is the most technologically advanced fighter jet today, as it is capable of hovering in place and detecting and killing an enemy from more than 200 miles away.  But these fighter jets cost $354 million each, and in this recession in which the government is spending trillions of dollars, we just cannot afford to make more fighter jets than is completely necessary.  But all is not lost for Lockheed Martin, as Gates’ budget plans included details that will counteract the decrease in spending on the F-22.  Gates said that the government would begin focusing on Lockheed-made F-35 Joint Striker jets, as they are cheaper and more suitable for today’s war environment.

With Obama in charge and an understanding that war has changed in the 21^st century from conventional warfare to more irregular conflicts with enemies that are more unpredictable, defense spending will continue to change.  Gates has made a point in his new budget to move away from equipment used in more conventional wars, such as heavily armored tanks, to weapons that are more fit for defending ourselves against the new-age enemies.  With technologically advanced weapons and jets such as the F-22 and the F-35, Lockheed Martin should continue to be a dominant player in the defense industry. 

Another aspect of today’s economic and political landscape to consider when investing in a defense company is to realize that we are in a recession, and that the government has to make a conscious effort to reign in unnecessary spending like never before.  While the proposed defense budget did increase by 4% this year, many cuts were made to the most expensive projects, and to many of the projects that were deemed as unnecessary or too speculative.  The U.S. Government has made it a point to produce weapons that are necessary for today’s wars, and I believe that this is great news for Lockheed Martin.

In terms of the company’s stock price, I think it was unfairly brought down on speculation that Obama and his team would drastically lower the defense budget.  Now that it is clear that the budget has increased instead of decreased, it seems ridiculous to me that Lockheed Martin shares are still trading 40% below their 52-week highs.  Last time I checked, there is still a lot of conflict in countries like Afghanistan, and the problems in the rest of the Middle East do not seem to be ending anytime soon.  As long as there are wars to be fought, Lockheed Martin’s services will be in high demand.  At these depressed prices, and with continued demand from the government, I believe that Lockheed Martin is a definite buy. 

(Having said this, I will not be investing any money in Lockheed Martin, as I have a moral issue with owning shares of military and weapons companies.  But, if you feel no moral issues with investing in a defense company, then I would highly suggest buying some shares of Lockheed Martin.)

 

Niki Pezeshki

College Trillionaire

Stock of the Day - April 5, 2009 - CFSG

China Fire and Security Group, Inc.

We’re giving you a look today at a small, speculative company that deals overseas. China Fire & Security Group (CFSG) manufactures and installs industrial fire safety products (think fire extinguishers and smoke detectors) and systems to organizational customers in China. With a small market capitalization of $228.96 million, buying this company’s stock may be risky, but it sure has a lot of potential.

The driving factor behind China Fire is the location in which it works: China. The communist nation is expanding and industrializing at a rapid rate. Every factory that opens is a potential customer for China Fire. China is seeing its GDP grow at a rate of 7.5% per year currently. When you consider that the United States’ GDP grew only 2.5% in 2008, it is easy to see that China is moving at a fast clip.

But a GDP growth rate of 7.5% per year does not satisfy the needs of China’s economy. Analysts estimate that roughly 24 million Chinese people enter the work force every year. China’s GDP growth needs to be around 9%-10% to provide enough jobs for these new workers. So its current growth rate of 7.5% (roughly three times as fast as ours) is too slow! The Chinese government is smart, so they are attempting to bump the GDP up by 2 to 3% by implementing a $586 billion stimulus package that was announced at the end of last year.

Now, with the Chinese economy lesson aside, it is important to note that China Fire is poised to capitalize on all of China’s growth and the stimulus package. The company’s main customers are members of iron, steel, power, and petrochemical industries. These industries are at the heart of China’s stimulus package. All of the smelting, electrical power, and increases in labor will definitely require new fire protection systems and equipment. In fact, China Fire just secured a contract with Dongbei Special Steel Group this March valued at $4.4 million.

We take a lot for granted in the United States, including legalities that require fire safety systems in all buildings. Many buildings in China do not have the fire safety systems or equipment that every U.S. building does. China’s middle class is growing, and it is also growing discontent with the lack of safety. As the market leader in China’s fire safety industry, China Fire will be at the source of improvements in safety.

The potential for growth is backed by factual data that shows the company has been actually growing. CEO Brian Lin, in China Fire’s earnings announcement on March 12^th, reported record revenues of $61 million, a 47.8% increase year over year. Additionally, net income of $24.7 million was an increase of 47%. In a time when most American companies were seeing large declines in income, and even significant losses, China Fire is surging.

CFSG was trading around its 52-week low of $5.62 in early March when this earnings report was released. After the announcement, it jumped to the $8 range, and has been trading there since. I don’t think that its current price reflects the company’s true value and potential for growth. China Fire has a ridiculously juicy PEG ratio of .31, meaning that investors have yet to factor the company’s growth rate into its current stock price.

Now is the time to buy China Fire. The country in which it operates is rapidly expanding and making big moves, and the company reported record financial numbers in 2008 and appears to be able to continue its growth. Finally, China Fire is largely unknown by investors and is an opportunity for you to buy before everyone else gets in. While waiting for a pull back after the recent extended rally may be wise, buying China Fire now would still be a great move for your portfolio.

 

-Matt Schwartz

College Trillionaire

Stock of the Day - March 31, 2009 - CX

Cemex, S.A.B. de C.V. (CX)

Cemex (CX) is a Mexican cement company that engages in the production, distribution, and sales of cement and other construction materials.  It is the third largest cement company in the world, and it operates in more than 50 countries.  Cemex is actually the United States’ number one cement supplier!

Cemex’s stock price, which is currently trading at $6.25, has been crushed in the past year.  The stock is around 80% percent lower than its 52-week high of $32.61! While you might think to yourself that Obama’s infrastructure plans and an economic recovery will surely drive this company’s stock price higher in the near future, it is crucial to understand the financial hardships that Cemex currently finds itself in. 

The company is dealing with massive debt, and if it does not sort out its financial situation very soon, bankruptcy is a very real option for Cemex.  As of December 2008, Cemex was $14.2 billion in debt, and for 2008, the company owes its creditors around $4 billion!  For a company with a market cap around $4.5 billion, these debt numbers are unbelievably large and very hazardous.

How did it get itself into these debt levels? When the economy was great, construction was booming, and people were in need of cement, Cemex felt invincible.  The company continued to make acquisitions and buy other cement companies in order to increase its capacity and grow its business.  Unfortunately though, the money Cemex used to buy the other cement companies came from loans that had to eventually be paid back.  The problem now is that construction has come to a halt, demand for cement has drastically decreased, and Cemex isn’t making the same money that it used to in order to be able to pay back its creditors. 

The best example of this reckless expansion comes from Cemex’s last acquisition.  Cemex bought Rinker Materials, the largest Australian cement producer, for a little more than $15 billion in mid-2007.  At the time of the purchase, many people celebrated Cemex’s decision, as Rinker experienced most of its sales in booming construction states like California and Florida, thus giving Cemex more exposure to these revenue-generating areas.  The deal raised Cemex’s net debt to $17.8 billion, but many analysts still liked it because they did not see the coming economic and housing crisis.  Unfortunately for Cemex, the housing crisis in the United States came very soon after its acquisition of Rinker.  Since then, it has been a steeply downward sloping trend for Cemex’s stock price. 

So, the question now is not whether or not Cemex’s stock is a good buy in anticipation of a market recovery, but the real question is whether or not Cemex as a company can last long enough to make it out of the global recession without having to go through bankruptcy.  Many experts are predicting that there is a good chance Cemex will run out of money by this summer if it does not restructure its debt or find another way to make some money. 

One option for Cemex to raise some cash is to issue bonds, but because of the company’s distressed situation and with the overall poor health of the economy, the interest rates that it would have to pay on those bonds would be around 15-16%, rates that would end up causing even more problems in the future.  Cemex is not going the bond route, but is instead trying to restructure its debt with the banks that it owes money too.  If that does not work out, there is a lot of speculation that the Mexican government would step in and bail out the company with enough money to repay its debts so that it can avoid bankruptcy.  The claim is that Cemex is too important of a company for Mexico, and letting it go bankrupt would be a disaster for the already weakened Mexican economy.  This situation is very similar to the U.S. government bailing out the large financial institutions, as letting some of the big banks go bankrupt would have a very large negative impact on the rest of the economy. 

If Cemex can stay afloat through this recession, it will be a great company to own for an economic recovery.  The company has a great core business model, and with an increase in construction, demand for Cemex’s cement will surely increase.  But, the risks for owning Cemex are extremely high.  This is one of those stocks that can be double or triple in price by June, but it can just as easily be at zero if the company goes bankrupt.  A wait-and-see approach is less risky, but the rewards will be much less, as you will probably be late to jump in.  If you are a speculator, this is the stock to invest in.  Personally, I can’t handle the risk so I am staying away.    

Niki Pezeshki

College Trillionaire

Market Recap - March 27, 2009

Stocks traded lower on Friday, as investors sold some shares and took in profits from the big gains over the past couple of weeks.  The Dow Jones Industrial Average fell 148.38 points (-1.87%), and the S&P 500 also dropped 16.92 points (-2.03%). It was a bad way to end such a great week, as the Dow rose 6.8% this week, and the S&P also climbed 6.2%. 

 

The Dow has surged 21% over the past 13 days, and to think that this unbelievable rally could continue without any profit taking or slight reality checks would be unrealistic.  Although investors are definitely more optimistic about the markets and the economy than they were a month ago, it seems like 21% in 13 days was just too much.  There is still some worry that Wall Street will be disappointed when companies release first quarter earnings.  Another argument that many investors have is that the markets need to retest the lows from a couple of weeks ago and bounce up again in order to truly indicate a market bottom.  As great as this rally has been, I still don’t think that it has convinced anyone that things have officially turned around.  Until that happens, volatility will remain high and investors will continue to debate what to do next.

 

Niki Pezeshki

College Trillionaire

Stock of the Day - March 22, 2009 - DEO

Diageo (DEO)

Guinness, Smirnoff, Jose Cuervo, and Captain Morgan are just a few of the alcoholic beverages that Diageo (DEO) produces. Many people believe that sin stocks, or stocks of companies that produce goods considered by some to be immoral or unethical, are recession-resistant. As an alcoholic beverage producer, Diageo finds itself in that category. Is there money to be made from this beer-brewing, wine-bottling, liquor-distilling corporation?

Diageo’s net profit increased 16% to $1.63 billion in the six months ending December 31^st, 2008. At first glance, these numbers make it seem like the company actually is recession-resistant. But, the increase in income can mostly be attributed to a strong U.S. dollar. Although Diageo is based in Europe, the United States is one of the company’s largest markets. Because the company trades its beverages for strong U.S. dollars, it has benefited from exchange rates.

Analysts actually expected much higher results from DEO. The company itself stated that profit from operations was weaker than desired at the end of 2008. CEO Paul Walsh stated that, “the global economic slowdown has affected business in the period, and in November and December this impact was more pronounced.” Diageo cut its growth forecast for full-year operating profit, citing a lack of visibility for the rest of 2009. The report that missed expectations, when combined with an admission of vulnerability to a weakened economy, caused investors to stray away from DEO.

Diageo’s stock has a 52-week range of $40.93-86.19. It most recently traded at $44.18, very close to its 52-week low. While I believe that some drop in share price was necessary to accommodate for weakened macroeconomic conditions, the current price leaves DEO undervalued.

It’s important to note that Diageo maintains a great deal of strength from its top brands. The names are incredibly popular: Smirnoff is the world’s number one vodka, Jose Cuervo is the leading tequila, and Guinness is the top stout. The majority of DEO’s other alcoholic beverages also maintain large market shares. These brands will not suddenly disappear because of slow economic times.

The company’s statistics are also enviable. Diageo bears a large market capitalization of 27.52 billion, pushes out a reliable dividend yielding 3.6%, and most recently generated a free cash flow of $1.24 billion. Add in the fact that the company currently has $3.45 billion in cash, and it’s easy to realize that DEO is a real powerhouse.

My main fear for Diageo is the weakening of the U.S. dollar. Just as DEO benefits from a strong dollar, a weak dollar hurts it. Its sales and large market share in the U.S. would become less valuable if the dollar becomes less valuable. We’re beginning to see a decrease in value of the dollar resulting from a large amount of government spending, a dramatic increase in the printing of money, and shrinking demand for treasuries and debt from foreign countries.

Nevertheless, the U.S. is only one of Diageo’s many markets. The company acts in about 180 countries in North America, Africa, Europe, and Asia. Considering the company’s powerful brands, international diversification, and financial backing makes DEO a great buy at current levels. Diageo is sitting at a relatively cheap price in an industry that does well in harsh economic times, and now is the time to scoop it up.

 

-Matt Schwartz

College Trillionaire

Trillionaire Term of the Day - March 24, 2009 - Stock Buybacks

Stock Buybacks

Stock buybacks, which are also called share repurchases, occur when a company buys back its own shares from the marketplace.  This action by the company reduces the number of outstanding shares that the public is able to buy and sell. 

So, how do stock buybacks benefit investors? Because stock prices are determined by multiplying the P/E ratio by the Earnings per share (EPS), then it would make sense that a higher EPS would lead to a higher stock price.  EPS is calculated by dividing a company’s net income by the number of outstanding shares. So, when a company repurchases its shares, it is decreasing the number of outstanding shares.  This action decreases the denominator in the EPS formula, thus increasing the company’s EPS.   Because the EPS increases, the overall stock price for the company also increases. 

Let’s do an example.  If Company A has a P/E ratio of 10 and an EPS of 2, the company’s stock price will be $20.  Let’s also assume the company has a net income of $200 and has 100 shares outstanding, thus explaining the EPS of 2 ($200 NI / 100 shares).  If Company A decides to repurchase 50 shares, it will only have 50 shares outstanding.  So, the new EPS will be 4 ($200 NI / 50 shares).  So, if the P/E ratio remains at 10 and the EPS has increased to 4, then the new stock price will be $40 (P/E ratio 10 * EPS 4).  When Company A repurchases half of the outstanding shares, the company’s share price doubles!

It should be clear by now that share repurchases are great for investors.  But, why do companies repurchase shares, and what kind of companies repurchase shares?  Companies with a lot of excess cash are more likely to repurchase shares, mainly because they have the money to buy back their shares.  For cash-rich companies, the best way to directly reward investors is through dividend payouts or through stock buybacks. 

Most of the time, companies that repurchase shares do it because they believe their stock price is undervalued.  By buying their own shares at the perceived discounted prices, companies believe that they will be able to greatly profit in the long run when the stocks that they have purchased appreciate in price. 

Make sure to stay on the lookout for companies that have already repurchased shares or are potential candidates to do it.  When a company buys back shares, it shows that it has a lot of excess cash, but it also shows that the company thinks its stock price is undervalued and that it will go up in the future.  Stock buybacks are a very solid indication of what the company thinks about its own future, as a company would not repurchase shares if it thought that its share prices were on the way down.

Niki Pezeshki

College Trillionaire

Market Recap - March 24, 2009

The same financial stocks that pumped the Dow up 500 points yesterday were responsible for dragging the markets down today. The Dow Jones industrial average lost 115 points (-1.5%) to end the day at 7659.97, while the S&P 500 fell 16.57 points (-2%) to 806.35.

The chairman of the Federal Reserve, Ben Bernanke, and Treasury Secretary Timothy Geithner spoke to the House Financial Services Committee today. The top officials will be asking the committee and, in turn, Congress to provide them with stronger regulatory powers over non-bank financial institutions. AIG is a perfect example of a non-bank financial institution. The ‘insurance’ company engaged in many financial acts, but was exempt from the regulations that affect banks. Bernanke claimed that stronger regulatory powers would have prevented much of the crisis that we are now facing.

While a report yesterday stated that February sales of existing homes increased by 5.1%, a report released today showed that home prices fell 6.3% January compared to the January of 2008.

Oil prices rallied today to $53.98 per barrel while the U.S. dollar continued a three-week decrease in value. Currency traders are fleeing to commodities like oil as a method to avoid potential inflation.  These investors believe that the government’s multiple plans to inject trillions of dollars into the financial system will cause inflation. Oil, gold, silver, and other commodities tend to act as safe havens when inflation is rampant.

The drop in the markets today can be mostly attributed to profit taking. The gigantic rally yesterday provided investors with an opportunity to sell off and receive some juicy profits. Nevertheless, the Dow gained three times as many points yesterday as it lost today. I’ll take that ratio any day.

 

-Matt Schwartz

College Trillionaire

Market Recap - March 23, 2009

The stock market skyrocketed on Monday, as Treasury Secretary Timothy Geithner announced the details of the government’s plan to help the troubled financial system.  The Dow Jones Industrial Average gained 497 points (6.84%) and the S&P 500 surged 54.38 points (7.08%)!

The government’s plan is called the Public-Private Investment Program (PPIP), and it will provide banks with up to $1 trillion in financing in order to get them to start lending again.  The great thing about this plan is that it involves the private sector.  It is a very confusing plan, but if you want to read a good summary of it, check out this link: http://www.thestreet.com/story/10476062/1/geithner-plan-may-aim-1-trillion-at-bad-assets.html.

Another catalyst for today’s jump came from the housing sector.  The National Association of Realtors’ reported that home sales greatly increased in the month of February.  From the month of January to February,  home sales grew 5.1%.  While home prices are still at 10-year lows, many people took the jump in home sales as a sign that people are taking advantage of the low prices.  While this might dilute the impressive numbers, it is still good to know that people are starting to spend more on bigger purchases. 

Today’s jump was unbelievable, as the S&P 500 doesn’t always increase by 7% in one year, let alone in one day!  The good news continues to flow out of Washington and the economy seems to be turning around for the better.  A lot of people are saying that this is a temporary rally, and that we need to retest the lows one more time in order to ensure a bottom.  Right now might be a great time to take some profits and sell some shares.

Until tomorrow,

 

Niki Pezeshki

College Trillionaire

Stock of the Day - March 22, 2009 - HSY

Hershey Co. (HSY)

Hershey (HSY) produces and distributes a variety of chocolate and confectionary products, including Hershey’s Kisses and Reese’s.  The company is the largest American chocolate producer, with around 45% of the domestic market share.  It is no longer the largest candy producer though, as Mars Inc. recently surpassed Hershey with its $23 billion acquisition of Wrigley. 

Hershey’s stock price only fell 12% in 2008, and it is currently trading at $34.93.  Its share price has actually only dropped 9.04% since exactly one year ago.  Comparing that to the S&P 500, which has lost 43.07% of its value from the same time one year ago, it is clear to see that Hershey has been doing some things right. 

One of the reasons that Hershey’s stock price has not been hurt too badly in this recession is because chocolate is a largely recession-resistant good.  The company actually increased its sales in 2008 by 4% compared to 2007, and chocolate sales continue to do well, as chocolate is considered to be a very affordable luxury.  Eating chocolate is a cheap way to make yourself feel good, and people have turned to it throughout this recession in order to give themselves a treat. 

While I do think that Hershey’s stock price is currently overvalued, I believe that the chocolate company is setting itself up very well for long-term sales growth and profit growth through many different strategic avenues.

The first way in which Hershey is increasing sales growth is by expanding into international markets, something relatively new to the company, as it has historically operated mainly in America.  The company is currently focusing on expanding its operations into Mexico, Brazil, Canada, and Asia.  With its recent purchase of “Van Houton”, a consumer chocolate business in Asia, the candy maker has started its aggressive attempt to increase its presence abroad.  Hershey is also planning on increasing sales through more advertising.  The company has announced that it will take advantage of lower advertising costs by increasing its ad spending by 20% this year. 

In addition to increasing sales growth, Hershey is focusing heavily on increasing its profit growth.  Understanding that its products are more inelastic and recession-resistant than most other products, Hershey has been raising the prices for its most popular products.  This has worked very well for the company, and it has not hurt sales.  Hershey’s raw costs (Cocoa, plastic, oil, etc.) for producing its chocolate and other candy products have also dropped as a result of the recession.  When combining higher selling costs with lower production costs, it is clear to see that the company’s profit margins are increasing.  This means that for everything that Hershey sells, it is making more profit than it used to.  The company’s increase in profit margin, combined with its increase in sales will lead to solid income growth for the company.   

While the fundamentals look great, I have some issues with the company’s stock price.  First of all, Hershey’s shares have increased by 13.6% since March 10^th, far too drastic of a move for a company that usually has a very stable and slow-moving stock price.  This sudden increase has to do with the recent overall market rally, but it also has a lot to do with the fact that Jim Cramer has been promoting the stock heavily on his show.  The company also has a P/E ratio of 25.65 and a PEG ratio of 3.42.  These numbers are ridiculously high when comparing them to other food processing companies, as the average P/E ratio for the industry is 12.12 and the average PEG ratio is 1.47.  Hershey’s valuation numbers are so high, especially compared to its industry, that its stock price seems to be unbelievably overvalued.  People are starting to notice that Hershey’s stock is too pricey, and 7.4 million shares (4.84% of total shares outstanding) are currently being shorted as a result, compared to only 6.1 million shares last month.  Right now might actually be a great time to short Hershey’s stock, before more people catch on to the fact that it is grossly overvalued and pull the stock price down. 

Hershey’s share price would have to drastically decrease for me to even consider buying it.  But even then, I would hesitate for one simple reason.  With a Beta of .25 (Beta was the term of the day on February 6^th), Hershey’s stock price is usually very stable and moves much slower than the overall market.  If the market has bottomed already, or if it is close to bottoming with the expectations of a huge rally coming up, I would not want to be invested in a company with a Beta of .25.  Instead, I want to be invested in companies with Betas of over 1 that I can really profit off of when the markets do start to rally. 

Although Hershey is doing some things right and is slowly growing both sales and profits, I still think that it is overvalued.  If you are looking for another company in the food processing industry, maybe you should check out Heinz (HNZ).  Heinz is giving out a 5.1% dividend yield and is trading with a P/E ratio of 11.17, making it a much better value than Hershey.

Niki Pezeshki

College Trillionaire