Warren Buffett's Mentor, Ben Graham, Would Find Value Pickings Slim Today

 | Nov 24, 2017 | 10:00 AM EST
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Ben Graham, the father of value investing, counted among his students Warren Buffett. Buffett later referred to Graham as the second most influential person in his life, following his father. Graham died in 1976, but Buffett, at age 87, shows few signs of slowing down and remains chairman and CEO of Berkshire Hathaway Inc. (BRK.B) .

Though Graham has been gone from this earth for four decades, he lives on through the successes of his students and followers and via his writings, which include "Security Analysis" and "The Intelligent Investor." I still utilize stock screens based on Graham investment philosophies; one such screen is the "Stock Selection Criteria for the Defensive Investor." I note alterations to Graham's original criteria in parenthesis.

  • Adequate size. A company must have at least $100 million in sales on a trailing 12-month basis.
  • Strong financial condition. A firm must have a current ratio (current assets divided by current liabilities) of at least 2.0. It also must have less long-term debt than working capital.
  • Earnings stability. A business must have had positive earnings for the past seven years. (Graham used a 10-year minimum.)
  • Dividend record. The company must have paid a dividend for the past seven years. (Graham required 20 years.)
  • Earnings growth. Earnings must have expanded by at least 3% compounded annually over the past seven years. (Graham mandated a one-third gain in earnings per share over the latest 10 years.)
  • Moderate price-to-earnings ratio. A stock must have an average P/E of 15 or lower over the past three years.
  • Moderate ratio of price to assets. The price-to-earnings ratio times the price-to-book ratio must be less than 22.5.
  • No utilities

Using this screen, just three companies made the cut in the current market, where value is becoming scarcer by the day.

Struggling apparel and shoe retailer Foot Locker Inc. (FL) has seen its shares fall 43% year to date, with much of the damage coming after a second-quarter earnings miss in August that reverberated around the sector and took no prisoners. Better-than-expected third-quarter results boosted shares, and while the long-term prospects for the sector are murky, Foot Locker is trying to tell the markets that rumors of its death are greatly exaggerated. The company put its money where its mouth was during the third quarter and repurchased 8.7 million shares for $307 million. Despite this past Monday's 27% post-earnings bounce, FL shares trade at about 10 times next year's consensus estimates and they yield 3.75%. I wonder what Graham, if he were alive and investing today, would have to say about retail?

Cooper Tire and Rubber Co. (CTB) , which frequently has appeared in the results of prior searches, made the cut yet again. Its shares are down around 12% year to date, trade at about 9.5 times next year's consensus earnings estimates and yield 1.15%.

Last, not least, but very small with a $248 million market cap, is consumer products company CSS Industries Inc. (CSS) , a familiar name as a constituent of my 2017 Double Net Value Portfolio. CSS recently acquired Simplicity Creative Group and currently trades at 1.36 times net current asset value while yielding about 2.7%. There is little, if any, analyst coverage, however.

Slim pickings in Graham value land, for sure...

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