Investing Ideas: April 2018

Need some investing ideas?  Then this is the post for you!  In this continuing series of posts, I share the investing ideas I’ve been researching each month.

The general consensus is that stock market is expensive right now, but I contend that if investors look in lesser known or “avoided” corners of the market there are still a few bargains to be found.

This month, I’m taking a look at some of the market’s “fallen angels”…

Before We Begin

I’ve been posting these investing ideas for several months now, but readers always have questions.  This time around I’m going to try to answer questions up front…

Is Mr. Tako buying shares in these stocks?  Should I buy shares?

Please be warned — Do not consider any of these investing ideas as a solicitation to buy shares.  I’m not endorsing or advising anyone purchase these investments for themselves.  These are merely investing ideas that I’m considering.  I am not a financial advisor, nor do I play one on TV.

I may or may not put money into these investing ideas.  Some investing ideas may require additional research, or need to have certain questions answered before anyone should invest in them.

Please do your own research or use your financial advisor before you invest.  See my disclaimer page.

Why do you list out your investing ideas?

Most small investors really lack a good source of investing ideas.  For starters, most people don’t have the time to sort through thousands of publicly traded stocks looking for good investments.  They rely almost entirely on the investing media to provide “pitches”.

This is a huge problem for investors seeking to realize good returns — the investing media like CNBC, the Wall Street Journal, or even the Financial Times cover the same 100 well-known and extremely well-researched stocks (or funds) over and over again.

You’ll rarely find any fat pitches in popular media.

This is one of the reasons why I believe in keeping fresh pitches coming every month — Without  plenty of pitches I’ll never have good stuff to swing at!

What if I’m not interested in buying individual stocks?

If you’re not into purchasing individual stocks — don’t worry.  Individual stocks, bonds or preferred shares are not for everybody.  I get that.  Even in my own portfolio we hold a large amount of index funds.

I only do one of these posts per month — I’ll be back to posting about other personal finance topics soon enough.  If you want to checkout other kinds of posts, please see the Archives.

Where do your investing ideas come from?

These ideas are derived a number of different sources — Some ideas come from small investing blogs I follow.  Others come directly from stock screens.  I also gather ideas from podcasts, news articles written by like-minded investors, and occasionally I’ll even pull ideas from message boards like Corner of Berkshire & Fairfax (although this is rare).

And now… onto the investing ideas!

April Investing Ideas

Kraft Heinz Co.

Kraft Heinz (Symbol: KHC) is the merger lovechild of 3G Capital and Warren Buffett.  With names like these, you’d expect this company to be extremely successful…

Except it isn’t.  Over the past year, KHC stock has dropped 38%.  This is primarily due to declining sales in some of their most popular products.

If you’re reading this, it’s highly likely you’ve eaten some of these food products.  Unfortunately Kraft Heinz’s brands have lost pricing power with consumers and that’s a big problem.

Shoppers no longer seem to be willing to pay-up for Heinz ketchup, Kraft Cheese, or the dozens of other branded products that Kraft Heinz makes.  Store branded products and niche brands have gained incredible market share in recent years.

I see this trend in my own shopping trips to the grocery store — I’m not willing to pay an extra 20% for a Kraft Heinz brand when the store brand is just as good.  Customers also want healthier food brands today, not the same chemical-laden food products of yesteryear.

So, yes, the stock is sinking due to changing consumer trends, but is it still worth investing in?  I think it might be.

Kraft Heinz doesn’t sound like a great investing story today, but how about in 5 years?

I think KHC/3G management will eventually figure out how to fix the problems and turn-around the company.  Sales aren’t dropping so fast that the problems can’t eventually be fixed.

IMHO, what they really need to do is start investing in smaller niche food brands with stronger customer loyalty.  Regional hit products like Secret Aardvark Sauce (a super delicious hot sauce popular in the Pacific Northwest) would be perfect fit for the company.  It’s currently the #1 Best Selling Hot Sauce on Amazon, yet isn’t owned by a major brand.

Anyway, I digress!

I think the shares are still a touch expensive at these prices.  Furthermore, Kraft Heinz has a couple of “hidden” traps that need mentioning:

• The stock currently sports a PE of 6.32, but don’t be fooled — This is largely due to tax changes (not improvements in earnings).  This ‘bonus’ was a one-time non-cash accounting benefit.
• Kraft Heinz trades at 1.04 times book value.  This sounds absurdly cheap for such a huge company, but this is not a “net-net” stock in the Ben Graham style.  Due to the recent merger there is a HUGE amount of goodwill on the balance sheet.  If we back-out the goodwill, there’s considerably less ‘real’ equity per share.  Don’t be fooled by phantom “assets”.

With all of that said, I think there’s going to be a good opportunity to buy shares at some price lower than the $56 it trades at today.  Management hasn’t fixed the problems yet.

Smart investors might want to take advantage of the negative sentiment.  Meanwhile, the 4.38% dividend yield is a mighty tempting payout to receive while you wait for cashflow to be reinvested into products that fit modern consumer tastes.

AutoNation

AutoNation (Symbol: AN) is the largest car retailer in the United States with over 250 dealerships in 15 states.  Surprisingly, the shares are affordable for this huge but slowly growing car retailer.

Share prices have fallen 13% this year, and are selling for roughly 10 times earnings per share.

Yes, it’s a slow grower, but also a decent business. I expect revenues to grow in the future at roughly the same rate as the population of drivers.

Unfortunately this stock is not a dividend payer — instead it uses free cash flow to buy back shares.  Roughly 6-8% of shares per year get repurchased (it varies).  Combine that with a slow 2% growth rate and it’s likely this stock could return 8-10% per year for owners.

Not too shabby!

It’s also worth noting — in August 2017, AutoNation was removed from the S&P 500 in favor of a larger company.  That might account for some of the stock’s cheapness.

There’s also a small hijinx — We’re near the top of the economic cycle and consumers are flush with cash right now.  Under a recession, earnings could drop by 50%.  That would be the right time to buy.

However, we don’t actually know when a recession will happen.  Trying to guess is fruitless.

Under most circumstances it shouldn’t matter.  Long term investors can hold onto this one through a recession and the stock should work out fine.

Tandy Leather Factory

Tandy Leather Factory (Symbol: TLF) is one of those companies that has existed for a long time, but is largely ignored by the investing media.  No analysts cover it, and no news articles have been published in the mainstream media in the past year.

This is a very small company in a niche industry — They sell leather and leather crafting equipment.  Think of it as a hobby store for leather and leather crafting tools.  With a market cap of $85 million it’s too small to warrant attention by large investors.

Curiously, most of the money Tandy makes isn’t from selling leather.  Instead, earnings are primarily generated from leather working tools, buckles and other leathercraft equipment they sell.  The company is dominant in this niche, with no other players even remotely similar in size.

So why is the stock so cheap?

They’ve had a rough couple of years, with sales declining.  Shares are down 16% in the last year.  Tandy has been opening new stores, but the impact of those haven’t hit the top or bottom line yet.

The stock sits at roughly 1.15 times book value.  On top of that, roughly 70% of the company’s assets are current assets — Cash, Accounts Receivable, and Inventory.

So what is Tandy going to do with all that cash on the balance sheet?  Well, they don’t pay a dividend and haven’t bought back stock recently.  Instead, the company plans to grow the number of stores from 115 to 150 stores (in the United States).

That’s a considerable amount of store growth, especially for a company with declining sales.  The death of retail shows no signs of stopping — So why is Tandy building new stores?

The way I see it, this stock could go two ways — One, sales might continue to slowly decline and the stock sinks into “net-net” territory (trading below book value).  Eventually it’ll get purchased by a private buyer.  Or two, the store growth plan actually works and the stock rises along with sales growth.

I’ll be watching this one for signs of how it develops.

Alaska Air Group

Originally when I invested in Southwest Airlines last year, I snubbed regional airline Alaska Airlines (Symbol: ALK) because there were aspects of Southwest I liked better.  Since that time, shares of ALK have dropped 26%, making Alaska Air Group one of the cheapest publicly traded airlines in the U.S.

Alaska Airlines sports an unimpressive 1.85% dividend yield, but the airline is growing quickly and regularly buys back shares.

Aren’t airlines a terrible business?  Well, in recent years U.S. airlines have been consolidating.  The remaining players now have airport monopolies that mean higher ticket prices and larger profits.

That goes for the ‘big 4’ airlines, but regional players (like Alaska Airlines) also have a lot of monopolistic power to love too.

For example: Alaska Airlines flies to all of the cities in its namesake state (Alaska) and has a complete monopoly on jet flight in most of these cities.

Feel free to check how many major airlines fly to Nome, Barrow, Juneau, or dozens of other small cities in Alaska.  You guessed it — ONE.

This airline completely dominates travel in the state of Alaska, and ticket prices are high.  With a little research, you can find similar conditions at small airports in Pacific Northwest.

Alaska Airlines has a ton of monopolistic power, yet it trades at only a PE of 7.83.  This is considerably lower than Southwest, United, American, or Delta.

So why have other major airlines ignored locations like Alaska?  They really haven’t.  Delta and United have tried multiple times to crack the Alaska market, but have largely failed (only Anchorage and Fairbanks have more than one jet airline option).

Why have these big players failed?  Just like most cities can only support one newspaper, I think most of these small towns can only profitably support one airline.  This monopolistic power provides Alaska Airlines with a significant moat and a margin of safety for investors.

These facts have largely gone unnoticed by the stock market, but will probably lead to long-term success for investors in Alaska Air Group.

Final Thoughts

I hope you enjoyed my investing ideas this month!  I didn’t start out writing this piece focusing on “fallen angels”, but it seems to have worked out that way!

If you enjoyed this post, or others in my Investing Ideas series, please let me know in the comments.  This series is still an experiment, so I’m very curious to hear your feedback!

Until next time!

[Image Credit: Flickr]