Before I took my little side trip yesterday to review the FIG Partners conference in Atlanta, we had been looking at the quantitative value strategy used by Wesley Gray of Alpha Architect. He looks for stocks that are cheap on several metrics that also pass his quality and financial-strength filters.
Gray also limits himself to the top 60% of stocks, as measured by market cap -- and that is where he and I tend to part company. I think that there is a lot more value in companies with market caps of less than $2 billion than there is in the larger companies. I have no real liquidity needs and am quite comfortable buying much smaller companies than his approach favors.
I sat down this morning and ran a screen using metrics similar to the ones he talks about in his study, but I used $2 billion market cap as a ceiling instead of a floor. Gray's favorite value metric is enterprise value to Ebit, so that is the one I used in my search for stocks, as well. It is a very short list of stocks, but there are some interesting ideas uncovered by the screen that are worth further consideration and investigation.
Ennis (EBF) is in the business-forms business. The company has been around since 1909 and sells thing like ad specialty items, checks, financial forms, envelopes, labels and all the other printed stuff you need to run a business. Although we were supposed to be in a paperless world by now, the truth is we have come nowhere close to it. You need business forms and other printed products to run a business, and if you need it, Ennis makes it. It had an apparel division that it recently sold to focus more on the core forms and printing business.
It is not a particularly sexy or exciting business, but it is pretty profitable. Ennis has been profitable in every year but two for the past 15 years, and has paid a dividend in each of the past 15 years. The company has very little debt and earns and F-score of 8 right now, so it is in good financial shape. The stock is currently trading with an Ev/Ebit ratio of just 6.4. The yield is 4.21% at the current price, so income-seeking investors might also find the stock attractive.
Resources Connection (RECN) is a professional services firm that helps businesses around the world with things like accounting, finance, risk management and internal audit, healthcare solutions and legal and regulatory matters. The company has 1,700 client companies around the world, and has done business at some point with 87 of the Fortune 100 companies.
This is also a very boring business, but they provide things businesses need to function, so there will always be demand for their services The company earns an F-score of 8, so fundamentals and prospects are strong, and it has no debt. The stocks trades with an Ev/Ebit ratio of 7.5, so it is cheap at the current price. The stocks yields 3.06%, and management has been generous about increasing the payout over time.
Cooper Tire & Rubber (CTB) is also in a pretty basic business. As its name implies, it sells replacement tires in both the U.S. and international markets. While tires is another not-so-sexy business, demand for tires is not going to go away. Even if we move to flying cars someday, I suspect they will need tires for landing and parking -- so companies like Cooper can thrive by simply not making any egregious errors. Management thinks the stock is cheap and has been actively buying back stock -- with 894,265 shares repurchased in the second quarter, and another 373,188 bought in the third quarter through the end of July. The company has an Ev/Ebit ratio of just 5.9 and earns an F-score of 8, so it passes the filters of both safe and cheap right now. In addition to buying back stocks, Cooper also pays a dividend -- and the stock yields 1.16% at the current price.
Cheap stocks are hard to find right now. Cheap stocks that pass quality and financial-safety filters are even harder, no matter what size limitations you use. While I am in no big hurry to buy stocks in the current market environment, these three smaller-cap value stocks should be on your list for further consideration.