4 Low-Risk, High-Reward Stocks Ignored by Wall Street

David Sterman's picture

Wednesday, June 1, 2011 - 9:00am

by David Sterman

As spring morphs into summer, many stocks are starting to move sideways. The summer doldrums often spell lackluster demand for stocks -- unless they are really deep value plays. Value investors will wade in, even when most other buyers take a break. These folks tend to rummage through the waste basket, looking for discarded stocks that have been tossed out by the crowd.

Value investors love to focus on two key points: stocks that are well off of their 52-week high and sport price-to-earnings (P/E) ratios well below the market average. Many of the names they'll encounter are in the table below. The table holds four names that I've mentioned in the past, each of which looks quite appealing if you can ride out the problems of 2011.

 

1. Central European Distribution (Nasdaq: CEDC)
This purveyor of wine and spirits is glad to be looking ahead and not behind. The last six quarters have been an exercise in frustration as Russian authorities threatened to revoke its licenses, key rivals started price wars, its bonds were downgraded, and wheat, rye and other grains that are used in production spiked in price.

It's that spat with Russian authorities that most notably spooked investors, helping push shares off more than 50% from the 52-week high. The Russian government has sought to curb vodka output to help stem high rates of alcoholism. By forcing Central European Distribution to close a pair of vodka production facilities for several weeks, the company lost sales during a key selling season, pushing Russian vodka sales down 15% in the first quarter from a year ago. The lower volume also meant much lower benefits from fixed costs, so operating margins shrank in the first quarter from 18% a year ago to almost zero.

Central European Distribution eventually got a key vodka production license re-issued at one site and expects an imminent re-certification at the other one. It now looks as if Russian authorities will seek to close smaller vodka producers. "I think that's going to continue here through the next three to four months until the market comes down to a much smaller number of players, smaller number of brands and that should drive overall a lot of the organic consolidation," said CEO William Carey. Translation: the vodka market may be hard-pressed to grow, but Central European Distribution is likely to get a bigger slice of that pie.

In the quarters ahead, management aims to roll out several new brands aimed at domestic Eastern European markets, as well as export markets in Western Europe and the United States. Central European Distribution should also benefit from the historical trend of strengthening results throughout the year: "We're getting quite substantial operating leverage already coming in Q2, but much greater in Q3 and Q4," noted CEO Carey, adding that the company should deliver per-share profits in the $1.05-$1.25 range. This is not far from the record $1.30 earned in 2009, yet shares trade for around 20% of the all-time high of $72 reached back in 2008.

2. Aeropostale (NYSE: ARO)
This retailer has been quite vexing for investors. Its stock has gotten ever-cheaper as quarterly results have steadily weakened. Right now, business is lousy as teens give more business to rivals such as Abercrombie & Fitch (NYSE: ANF). But once again, it's worth noting that Aeropostale's shares are simply too cheap to ignore, despite the retailer's woes.

For example, analysts had expected the company to earn about $2.70 a share in fiscal (January) 2013. Recent weak sales trends have forced them to lower the forecast to about $1.95. Shares trade for just 10 times that lowered forecast and trade for just 0.64 times trailing sales. The multiple for rival Abercrombie & Fitch is three times as high. The only difference in these business models is that Abercrombie is doing better job of merchandising. But teens are a fickle bunch and can change their allegiances on a dime. That's why I'd rather bet on the sharply-discounted teen retail stock than the much more expensive rival.

3. Power One (Nasdaq: PWER)
I profiled this stock in early April as a potential buyout play, noting that the company's shares were currently out of favor due to a drop in demand for its power inverters used in solar power plant installations. Management recently held an annual meeting with analysts and noted that key customers had worked off inverter inventories and were back in buying mode.

The slowdown certainly dented what had been a high-growth business model. Per-share profits are likely to dip from $1.10 in 2010 to around $1 this year before rebounding to $1.20. Square that up against an $8 share price, and you have an undeniably cheap stock.

4. RadioShack (NYSE: RSH)
Lastly, this turnaround play is back in focus after taking a modest hit from a Goldman Sachs downgrade. Goldman's analysts are concerned that results in the current quarter may lag consensus forecasts. And they may be right. Yet it's hard to ignore this retailer's single-digit multiple, especially when you consider its valued retail footprint, impressive cash-flow generation and ever-shrinking share count.

As I noted back in February, it only takes a few hot products to rebuild foot traffic at these stores. Recently-announced plans to carry Apple's (Nasdaq: AAPL) iPad is a good start. If management can ink a few more deals with other tech firms, then sales could rise at a moderate pace and investors would then see the powerful earnings leverage inherent in this high fixed-cost business model.

Action to Take --> All of these companies may be looking at a tough second quarter as well. But you can't wait around until results actually improve. By then, shares could be well higher. And with such low multiples, you're not shouldering a lot of risk in holding them, even if the broader market weakens. Not much risk, but potentially ample reward is a nice set-up.

P.S. -- If you're an income investor, why would you buy a stock yielding 2% when you can find one paying 26% right here? Watch this presentation for more.

David Sterman does not personally hold positions in any securities mentioned in this article.
StreetAuthority LLC does not hold positions in any securities mentioned in this article.