FLR

Today we will focus on the Capital Goods sector and provide readers with a few names we like as well as a couple that we don’t in terms of investment attractiveness from within this sector. We will also take a look AFG’s Management Quality Chart to help us better understand each of these companies from a corporate performance and strategic standpoint. Lastly, using snapshots from www.afgview.com (AFG’s web-based research platform), we will take an in-depth look at Fluor Corp.

A few snapshots from www.afgview.com highlighting why Fluor Corp. looks like an attractive investment opportunity. The article explains FLR’s wealth creation abilities, valuation attractiveness and the expectations for sales growth embedded in FLR’s stock price.

ValueExpectations.com emphasizes evaluating a company’s ability to earn a spread above their cost of capital using a very robust measure of corporate performance, Economic Margin. After evaluating a firm’s ability to create wealth VE.com then determines what price we are paying for the company using a modified discounted cash flow model. If we had to simplify performance, a very elementary way to evaluate performance can be Return on Invested Capital ROIC and valuation which can be simplified by using earnings yield. This is the approach Joel Grenblatt uses in his book, The Little Blue Book that Beats the Market.

In January VE.com highlighted a list of stocks based on Joel Greenblatt’s Magic Formula Investing Strategy from 1998-2004 Greenblatt’s simulated returns were 30.8% a year, relative to a 12.4% annual return for the S&P 500 and was only down in one year in that time-span.

In our article posted on January 9, 2009 we listed our best 30 “Magic Formula” companies which has earned returns comparable to the tests conducted by Mr. Greenblatt. From Jan. 9, 2009 to Dec. 14, 2009 the 30 companies we recommended from our “Magic Screen” have returned a solid 32.06% spread above the S&P 500. Since our last “Magic Formula” portfolio was successful we have decided to run the screen again for a new list of companies to see just how consistent this strategy is.

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A look at Greenblatt’s formula for successful “Magic Formula Investing”:

1. Establish a minimum market capitalization (usually greater than $50 million).

2. Exclude utility and financial stocks

3. Exclude foreign companies (American Depositary Receipts)

4. Determine company's earnings yield = EBIT / enterprise value.

5. Determine company's return on capital = EBIT / (Net fixed assets + working capital)

6. Rank all companies above chosen market capitalization by highest earnings yield and highest return on capital (ranked as percentages).

7. Invest in 20-30 highest ranked companies, accumulating 2-3 positions per month over a 12-month period.

8. Re-balance portfolio once per year, selling losers one week before the year-mark and winners one week after the year mark.

9. Continue over long-term (3-5 year) period.

Mr. Greenblatt was a student of both Ben Graham and Warren Buffet and tried to include valuable insights from each investor in his “Magic Formula.” His Magic Formula was a screen that percentile ranked two variables: Return on Invested Capital (quality) and Earnings Yield (valuation). The idea is simple, buy the best companies at the best price and then hold on to them for one year. The Little Blue Book recommends selecting the top 30 firms from the “Magic Formula.” That formula ranks each company by variable and then puts a 50% weight on each.

Ticker  Company Name Sector Market Cap ROIC Earn Yield (NYSE:PM) Philip Morris Intl Inc Consumer Non Durable $96,066 265% 26% (NYSE:LO) Lorillard Inc Consumer Non Durable $12,671 111% 13% (NYSE:RAI) Reynolds American Inc Consumer Non Durable $15,560 116% 14% (NYSE:NOV) National Oilwell Varco Capital Goods $18,530 38% 17% (NYSE:ABC) Amerisource Bergen Corp Health $7,198 82% 12% (NASDAQ:APOL)  Apollo Group Inc Cl A Miscellaneous $9,602 164% 12% (NYSE:GD)  General Dynamics Corp Capital Goods $27,261 69% 12% (NYSE:BF.B)  Brown-Forman Corp Cl B Consumer Non Durable $8,335 124% 18% (NYSE:TSS)  Total System Services Consumer Services $3,439 50% 16% (NYSE:DNB)  Dun & Bradstreet Corp Consumer Services $4,285 -395% 10% (NYSE:LLL) L-3 Communications Hldgs Capital Goods $9,873 55% 12% (NYSE:MCK)  Mckesson Corp Health $16,880 43% 12% (NYSE:PFE) Pfizer Inc Health $148,488 17% 11% (NYSE:MO)  Altria Group Inc Consumer Non Durable $40,753 1693% 20% (NASDAQ:CEPH) Cephalon Inc Health $4,414 32% 12% (NYSE:OMC)   Omnicom Group Inc Consumer Services $11,681 -178% 10% (NYSE:DO) Diamond Offshre Drilling Capital Goods $13,503 37% 14% (NYSE:LLY)  Eli Lilly & Co Health $40,928 47% 15% (NYSE:SNI) Scripps Networks Intr In Consumer Services $6,692 77% 10% (NASDAQ:BIIB) Biogen Idec Inc Health $14,133 46% 11% (NYSE:FRX)  Forest Laboratories Inc Health $9,563 22% 13% (NYSE:RTN)  Raytheon Co Capital Goods $20,479 67% 14% (NYSE:DPS) Dr Pepper Snapple Grp Consumer Non Durable $7,131 71% 10% (NYSE:HRS) Harris Corp Technology $5,964 57% 11% (NYSE:MHP) Mcgraw-Hill Co Inc Consumer Services $10,886 129% 11% (NYSE:FLR) Fluor Corp Capital Goods $7,252 46% 20% (NYSE:LH)  Laboratory Cp Am Hldgs Health $7,961 108% 10% (NYSE:LH)  Moody'S Corp Consumer Services $6,281 -2400% 9% (NYSE:FLS) Flowserve Corp Capital Goods $5,398 40% 11% (NYSE:GME) Gamestop Corp Cl A Consumer Services $3,671 69% 17%

 

 Click Here - If you are a professional investor and would like a review of your portfolio by an AFG representative or to discuss companies AFG find attractive that fit your investment style.

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To identify potentially attractive investment ideas, The Applied Finance Group (AFG) usually uses a combination of proprietary variables to develop a focused group of potential buy ideas that meet criteria based on valuation, economic performance, management quality, and earnings quality. Although this set of investment criteria has proven successful in generating buy ideas, AFG’s valuation on a standalone basis has consistently been able to identify mispriced securities and investment opportunities that outperform their chosen benchmark.

Several times over the last year ValueExpectations.com has released lists of companies narrowed only by the valuation properties of the company using AFG’s Value Score (defined below). Today, we will revisit these blog posts and compare the performance results of the companies previously identified to the results of their benchmarks.

Below is an update of the performance of the articles we have released where companies were identified by using AFG's valuation metric as the sole variable. Included in this table is the blog portfolio's performance, the performance of the index, and the spread relative to the index. The performance of all portfolios and their benchmarks are tracked from the date of the blog's release until last Friday's close. As you can see in the table below, companies identified by AFG as having an attractive valuation have performed quite well and have consistently outperformed their benchmarks.

If you are a professional investor and would like to better understand and access AFG's valuation metric to review your portfolio - Click Here

 

Below is an updated list of the S&P 500 companies with the most attractive valuations according to AFG’s valuation model including Freeport McMoran C&G (NYSE:FCX) and Fluor Corp. (NYSE:FLR).

To stay updated on companies AFG believes are attractive investment opportunities register for ValueExpectations.com It's Fast and Free!

AFG Investment Rank within Sector Ticker Name Sector  Opportunity Valuation Signal  Cheapest Stocks In The S&P 500 (NYSE:FCX)  FREEPORT-MCMORAN C & G Basic Material Attractive Attractive (NYSE:WAT)  WATERS CORP Capital Goods Attractive Attractive (NYSE:FLR)  FLUOR CORP Capital Goods Attractive Attractive (NYSE:TAP)  MOLSON COORS BREWING CLB Consumer Non Durable Attractive Attractive (NYSE:CL) COLGATE-PALMOLIVE CO Consumer Non Durable Attractive Attractive (NYSE:DNB) DUN & BRADSTREET CORP Consumer Services Attractive Attractive (NASDAQ:BIIB) BIOGEN IDEC INC Health Attractive Attractive (NYSE:PFE) PFIZER INC Health Attractive Attractive (NYSE:BMY)  BRISTOL-MYERS SQUIBB CO Health Attractive Attractive (NYSE:IBM) INTERNAT BUSINESS MACHNS Technology Attractive Attractive

 Click Here - If you are a professional investor and would like a review of your portfolio by an AFG representative or to discuss companies AFG find attractive that fit your investment style.

Applied Finance Group’s (AFG’s) Value Score defined - A score which represents the ranked percent to target (deviation between stock’s current trading price and AFG’s current default target price) or attractiveness (upside) relative to the universe. A Value Score of 100 is the most undervalued and 0 is the most overvalued company in the universe.

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In yesterdays article we provided an update of the performance of our annual HOT STOCK LIST:

We also provided an update of the performance of the Toreador Large Cap Fund, TORLX which uses AFG’s Economic Margin Framework as part of its investment philosophy.

As you may note, both have done very well!

Today we decided to provide a Buy/Sell list to VE’s registered visitors applying some of these same investment principles: Economic Margin, Management Quality, and a company's Percent to Target (the deviation between a stock's current trading price and its current default target price according to AFG).

Below is a preview of the list which includes a Buy/Sell Recommendation on each Stock. The complete list, accessible to Value Expectations registered users, contains around 500 Stocks.

S&P 500 Rank (Preview) - August 11th 2009
Ticker	Company	Price	Recommendation
DRI	DARDEN RESTAURANTS	32.61	Strong Buy
KR	KROGER CO THE	20.93	Strong Buy
WLP	WELLPOINT INC	51.9	Strong Buy
AOC	AON CORP	40.55	Buy
FLR	FLUOR CORP	57.49	Buy
PCG	PG&E CORP	40.36	Buy
AMT	AMERICAN TOWER CORP	32.37	Neutral
IRM	IRON MOUNTAIN INC	28.85	Neutral
NOV	NATIONAL OILWELL VARCO	37.1	Neutral
BEN	FRANKLIN RESOURCES INC	92.13	Sell
EXPD	EXPEDITORS INTL WASH INC	33.04	Sell
QCOM	QUALCOMM INC	45.74	Sell
JDSU	JDS UNIPHASE CORP	5.93	Strong Sell
MWW	MONSTER WORLDWIDE INC	14.9	Strong Sell
NYT	NEW YORK TIMES	8.1	Strong Sell

Source: The Applied FInance Group

To download the complete list click here.

By using The Applied Finance Group’s (AFG's) Risk Analysis, we have identified the top and bottom two firms in each sector (excluding the Financial sector) according to an overall risk score based on 9 variables (see more detail below). In addition to the risk analysis variables we also added another layer of analysis by evaluating the companies’ Earnings Quality (based on the concept of Accruals) and Altman Z-Score (identifies firms that are at risk of going bankrupt in the next 2 years).

Applied Finance Group’s Risk Analysis is designed to systematically calculate a stock’s risk score based on fundamental relationships between the Quarterly Income Statements and Balance Sheets. The template measures 9 factors to determine Risk: Changes in A/R, Changes in Inventories, Cash Flow vs. Operating Cash Flow, Fixed Payments vs. Pre-Tax Cash Flow, Leverage, Intangibles, Write-offs, Management Quality, and Valuation. Companies with lower scores have less risk. Companies in the Financial Sector were excluded due to their differences in financial statement structure.
 

 

Here is a list of the variables that are taken into account within this risk analysis:

1. Receivables to Sales - Delta – takes the difference in the median A/R to Sales ratio over the last 4 quarters vs. median 4 quarters before that.

2. Inventories to Sales - Delta – takes the difference in the median Inventories to Sales ratio over the last 4 quarters vs. median 4 quarters before that.

3. AFG’s Cash Flow-Oper. vs. Operating Cash Flow - AFG's Cash Flow-Oper. for a company is net cash that is generated by the continuing and discontinuing operations of the firm. We compare it to the company's Operating Cash Flow to assess its ability to pay its debt.

4. Fixed Payments vs. Pre-tax Payments Cash Flow – This ratio assesses the company’s ability to cover long-term obligations. If the fixed pmts are greater than 50% of the pre-tax payments cash flow, there is chance that this company may not be able to meet its obligations. Obligations less than 30% of cash flow are considered safe.

5. Leverage – Book leverage and Market leverage are analyzed to give us information about the company’s leverage position. Best score is given to the companies with Book Leverage lower than 60%, and negative score to these with Book Leverage higher than 60% and Market Leverage greater than 0.9*Book Leverage.

6. Intangibles as a Percentage of Total Assets – With this score we try to filter through and reward the companies that have grown organically, rather than through acquisitions. Our research has shown that on average companies tend to overpay for acquisitions and thus are rarely a profitable investment. Companies with Intangibles less than 20% of Total Assets get the best score.

7. Write-offs – Shows the number of years with significant write-offs over the last 5 years.

8. Management Quality – Measures a company’s EM+1 and LFY Asset Growth and there is empirical evidence that companies with positive EMs that are able to grow their business tend to outperform companies with negative EMs who continue to invest into unprofitable business.

 

9. Value Score – Measures a company’s attractiveness from valuation perspective.

Most/Least Risky Firms By Sector S&P 500 (excluding financials)

If you are a professional investor and would like to learn more about this analysis as well as other useful valuation tools click here for a free trial subscription to The Applied Finance Group's research.

For the past 26 years Steven Halpern, editor of thestockadvisors.com has gone to well known and respected advisors once a year to find out which stocks they like for the coming year. Take a look at the list of stocks advisors liked in 2008 and their performance. Also listed are the picks of 75 prominent advisors for 2009 along with sales growth expectations for the companies to justify their current price (VE Sales Growth) which can be compared to what they have delivered in revenue growth over the past 5 years(5 Year Median Sales Growth). These companies are worth a look because they are in favor of well-respected advisors, but the companies that also have low expectations for sales growth priced-in to their stock are especially worthy of a close review.

 

2008 Blogger Picks Conservative and 2008 Performance

 

2008 Blogger Picks Speculative and 2008 Performance

 

Blogger Picks for 2009 and Sales Expectations

* denotes # of years historical sales numbers available

VE Sales Growth calculated for these firms on 1-6-09

According to MotleyFool.com, InvestorPlace.com, Jubak’s Journal, Cramer, and FortuneMagazine.com these are the most attractive stocks to own in 2009. Compare the sales growth priced-in to justify the current stock price (VE Sales Growth) to what the company has achieved in revenue growth over the last five years (5 Year Median Sales Growth) to see if what’s priced-in is a reasonable number for the company to meet or exceed expectations. Couple the expectation information with AFG’s ranking for a stock’s attractiveness relative to the universe (Value Score AFG) to find companies that we find attractive on a default basis that also have low expectations for growing sales compared to what they have delivered the past 5 years. Companies with High Value Score’s and low sales growth expectations will be the companies on this list that are more likely to out-perform.

 

Recommended Stocks for 2009

Related Article: EPS Increased.....Company Underperformed?

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