I was chastised Monday night by an old friend and regular reader. I revealed at the first of the month a handful of momentum stocks that met our criteria as part of the grand unified theory of investing. But I offered no selections for the deep value part of the portfolio.
I suggest using a version of asset-based value that goes a little deeper than just book value. I set up a screen that shaves some value off various parts of the balance sheet to arrive at an approximate liquidation value of the company. It is not the fire-sale-liquidation value but the theoretical value if we calmly and rationally sold all the assets, paid off the bills and returned the cash to shareholders.
The resulting number is usually going to fall between tangible book and net current assets, and in back testing and in practice has proven to be a good indicator of the real net asset value of a company. Once I have a list of companies that are trading below rational liquidation value, I limit my universe to just those that have Altman Z and Piotroski F scores that indicate margin of safety exists as well.
Sears Hometown and Outlet Stores (SHOS) is on the list this month. I started buying this stock based on price-to-book value. I wish I had waited for it to trade below liquidation value as I am down a bit on the stock. I like the long-term prospects of this stock, however, as the company is opening new franchised locations on a pretty regular basis. They have also been quietly closing underperforming stores and that should eventually boost the overall performance of the company going forward.
SHOS has a market cap of $213 million and my calculation of liquidation value is roughly $220 million, so the stock is cheap. The Z-score is over 4 and the F-score is 6, so the company is in a solid financial position right now.
Rocky Brands (RCKY) is apparently a victim of global warming and lower oil prices. The company said its recent weakness was due to a decline in boot sales in oil producing regions and the warmer weather that has hurt sales of winter boots. Sales to the military show strong increases but that's a lower-margin business and didn't help offset the slowdown in retail. The stock is cheap as the market cap is $90 million and my liquidation estimate is $110 million for Rocky Brands. They are financially strong with an F-score of 7 and a Z-score of 3.
Mitchum Industries (MIND) popped up a couple of weeks ago on a buyback screen. Their basic business of selling seismic data to the oil and gas industry is not going to get better soon but the company is financially solid. The company has been buying back stock as well as reducing outstanding debt levels.
Mitchum has been aggressive about cost controls during the slow down as well and is generating positive earnings before interest, taxes, depreciation and amortization and cash flow in the difficult market environment created by low oil prices. The market cap of Mitchum Industries is $54 million and my liquidation assessment is $65 million. It may not be a pleasant journey but when oil and gas prices recover and exploration resumes, this stock could easily double or more.
One of the more undervalued companies based on liquidation value is Transworld Entertainment (TWMC). The company has a market capitalization of $120 million and my estimate of rational liquidation value is a little over $160 million. The company is in a horrible business -- selling music, electronics, games and video games is challenging, to say the least.
They are doing a pretty good job of shifting the sales mix from music and video to electronics and trend items as those classification saw a 305 sales increase. I had no idea what trend merchandise even was until the youngest hit middle school and entered the fandoms of Doctor Who, Harry Potter and other current teenage nerd girl obsessions.
I can tell you from personal experience that a lot of money gets paid for all the fandom based tee-shirts and collectible junk. Management has paid special dividends and conducted Dutch tender offers in the past few years, so they are working to not only improve the business but to reward shareholders as well.
There are not a lot of stocks trading below liquidation value right now. That is not surprising because the market keeps ignoring any and all suggestions that it is due for a pullback.
For now, the deep value portion of your portfolio should probably contain a lot of cash. These four stocks make the cut and I would be a buyer on a good down day in the market.
