Growth at a Low Price Is My Favorite Stock Screen: John Dorfman

Money managers tend to become fond of their favorite stock screens, just as baseball players tend to prefer one bat over others. One of my favorite screens is growth at a low price.

I define a GALP stock as one that shows average annual earnings growth of 25 percent or more over the past five years, yet sells for 12 times earnings or less. For the past 11 years, I’ve found this screen to be a fertile source for stock picking.

Thirty-nine U.S. stocks with a market value of more than $250 million passed this screen on Dec. 7. Let’s spotlight 10 of them.

One that excites me is LAM Research Corp., a Fremont, California, company that makes semiconductor manufacturing equipment. Of 17 analysts who follow the company, seven say to buy the stock, four recommend selling, and six are neutral. This type of opinion dispersion is a good sign in my view.

When views are split, the stock price often will split the difference and reflect a middling view. Yet one of the extreme views may prove correct. In this case, I believe it will be the optimists’ view.

As I see it, semiconductor industry conditions are improving, and LAM’s fortunes are rising more rapidly than most. In the company’s first fiscal quarter, which ended Sept. 30, revenue shot up to $806 million, more than double the level of a year earlier. Diluted earnings per share hit $1.55 a share, a record.

Caveats Abound

One negative: Fidelity Investments owns almost 19 million shares as of Sept. 30, or about 15 percent of the company. Should Fidelity become a seller, the stock could be under pressure for months.

Three companies are resurfacing from last year’s list. Two of them are insurance-related businesses: Life Partners Holdings Inc. in Waco, Texas, and HCC Insurance Holdings Inc., based in Houston.

Life Partners arranges transactions between individuals who are older than 65 or are terminally ill and want to sell their life insurance policies and people who will buy their policies at a discount. Emotionally, I can’t warm up to this business. Analytically, I believe that the company may lose market share as traditional life insurers develop competing options.

HCC Insurance operations include life, property and casualty insurance companies along with units specializing in marine and aviation coverage. The company has shown a profit every year since 1992, the year it went public. I think its stock is attractive at 10 times earnings and about one times book value (corporate net worth).

Eroding Value

The other returnee is New York-based M&F Worldwide Corp., a holding company controlled by Chairman Ronald Perelman. It prints checks and related products, offers direct marketing services, and makes flavors and flavorings, especially licorice.

At less than four times earnings, M&F is cheap, but Perelman has a poor record for creating shareholder value. He is chairman of Revlon Inc., whose shareholders have lost about 70 percent of their investment over the past 10 years. Also, I consider M&F’s debt-to-equity ratio of almost 375 percent excessive.

The largest corporation on this list by market capitalization is New York-based Travelers Cos., a property-and- casualty insurer. Its market value is $25 billion. Unfortunately, its seemingly high five-year growth rate is statistically misleading, which stems largely from a subpar base year in 2004.

Avoid Shortcuts

That illustrates an important point about using screens: They are a starting point for analysis, not a substitute for it.

Three stocks on this year’s list are for-profit college companies: Corinthian Colleges Inc., of Santa Ana, California, ITT Educational Services Inc., based in Carmel, Indiana, and Lincoln Educational Services Corp., of West Orange, New Jersey.

I wrote about the for-profit colleges in November. I would avoid Corinthian, which I believe will struggle to meet new regulatory requirements to preserve financial-aid eligibility for its students. I think ITT and Lincoln, each at about six times earnings, may be good buys now.

I’m favorably disposed to Humana Inc., a managed-care company based in Louisville, Kentucky, even though federal budget pressure may induce Congress to cut Medicare payments. Humana posted record earnings of $6.15 a share in 2009 and is expected to better that to $6.64 this year. At seven times earnings and about 0.3 times revenue, I think the stock is attractive.

Going Offshore

Rounding out this GALP candidates list is Seacor Holdings Inc., based in Fort Lauderdale, Florida. The company operates a fleet of boats that support offshore oil platforms. Analysts expect it to post record earnings this year as companies try to adjust to the post-Gulf-spill world. In 2011, analysts expect earnings to fall more than 50 percent from this year’s level. I think they are too pessimistic there.

Unlike some of its oil-service kin, Seacor has been consistently profitable. Like HCC Insurance, it hasn’t posted an annual loss since it went public in 1992.

Disclosure note: I own shares of HCC personally and for clients. I own Humana for many of my clients. On the other stocks discussed in this week’s column, I have no long or short positions.

(John Dorfman, chairman of Thunderstorm Capital in Boston, is a columnist for Bloomberg News. The opinions expressed are his own. His firm or clients may own or trade securities discussed in this column.)

To contact the writer of this column: John Dorfman at jdorfman@thunderstormcapital.com.

To contact the editor responsible for this column: James Greiff at jgreiff@bloomberg.net

Press spacebar to pause and continue. Press esc to stop.

Bloomberg reserves the right to remove comments but is under no obligation to do so, or to explain individual moderation decisions.

Please enable JavaScript to view the comments powered by Disqus.