More Ideas for Good Buys

 | Aug 07, 2013 | 2:00 PM EDT
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I discussed on Tuesday the near universal use of stock lists that identify stocks hitting new lows as a fruitful source of investment ideas.

I gave examples of prominent investors -- present and past -- that have made small fortunes from investing in companies during periods of maximum pessimism. I noted the example of Warren Buffett investing in the Washington Post (WPO) in the 1970s when media stocks were hated by the market. This week, WPO announced the sale of the flagship paper for $250 million and it is estimated that Buffett has made a 9000% return over the last 40 years.

Today, I will throw a few names that are trading at pessimistic prices, perhaps setting up the opportunity for extraordinary returns over the next few years. Investing in out-of-favor businesses requires a greater degree of patience, provided that the company has the ingredients to resurrect itself. Many businesses can enter a period of permanent decline, such as Eastman Kodak, and are best avoided.

But a name like McDermott International (MDR) is perhaps a different story. The company specializes in the engineering and installation of complex offshore oil and gas projects. Business has been tough in this industry for the past couple of years as regulation has put a chokehold on offshore drilling projects. Shares trade for $7, or a market cap of $1.6 billion. Earnings per share are expected to reach 80 cents in 2014, up from 43 cents this year.

McDermott has a clean balance sheet showing $100 million in debt and nearly $500 million in cash. Book value per share is $8. You don't have to go too far back to find a $30 share price attached to McDermott.

A lot of buzz recently surrounded the fertilizer industry when news that one of the two global cartels was breaking up. That would have the effect of reducing by 20% or more the prices of potash -- one of the three main plant nutrients. The immediate market reaction was the decline in fertilizer stocks by 20% or more. Potash Corp (POT), one of the largest fertilizer companies in the world, has seen its share price fall by over 25% the past two weeks.

It's true that if potash market prices drop, all else being equal, potash sellers will make less money. But one needs to look at the entire picture. It has now become much more difficult for any company, like BHP Billiton (BHP), which is constructing a multi-billion dollar greenfield potash plant, to make the numbers work.

I believe the threat of future new capacity coming may be a little premature. In the meantime, Potash has a collection of assets that are irreplaceable. And if potash makers can't make money at the new market price, capacity will shut down until money is made. Potash Corp is the lowest cost producer, so it will be first in line to make money.

Mosaic (MOS), another big player in fertilizer but with less exposure to potash, also fell hard on the news. Trading at $41 a share, the company has a market cap of $17.3 billion and a balance sheet with nearly $3 billion in net cash. The price drop has also created a 2.4% yield, and Mosaic is likely to boost that dividend over time.

It's not silly to say that investing is part art. You have to envision a future scenario in which some of these battered companies can regain what they lost as they redevelop their businesses. If that scenario is justified by analysis and rational reasoning, then buying at battered prices is likely to be more rewarding than harmful.

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we like this chart here, it appears ready to move higher. BOUGHT BZUN OCT 35 CALL AT 3.40
Large-cap, high-quality McKesson (MCK) is too cheap now, at $147.51 or so. The stock hit $243.60 more than 2.5...



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