StocksInValue’s In Value Today is our most popular search filter and subscribers are understandably curious about the stocks filtering as the most undervalued. But the results of this search need careful interpretation. In Value Today is not a mechanical trading rule where undervaluation of any size necessarily makes a stock a buy.
Instead, we encourage you to interpret undervaluation as a prompt for further research as conservative investors must, before investing:

  • Be satisfied the stock’s risk profile is consistent with their risk tolerance
  • Approve of the assets, management and strategy
  • Decide if they agree with our valuation
  • Decide if the discount to value is sufficient for the risks the valuation will not be realised.

To assist you in interpreting deep value situations we provide this regular (approximately monthly) report on low and medium-risk stocks where we do not already publish analyst research and valuation notes. High-risk stocks and REITs are not covered. Analyst Research and Analyst Comments are limited to universe stocks but this report briefly comments on some of the most undervalued non-universe stocks with emphasis on why the market is pricing them below value and what would have to happen for the price-value gaps to close.
‘Quality Traps’ label
Some of these stocks we would buy for the model portfolio or recommend to subscribers, and some we wouldn’t. The latter we will label ‘quality traps’ as their poor business quality is likely to leave them trading at discounts to value until earnings drivers beyond management’s control, like industry conditions, improve. These stocks are cheap for a reason. Buying them is likely to disappoint or require a long wait for industry conditions to recover.
In the table below the quality traps are designated with an asterisk after their ASX code and they are also tagged as Quality Traps in StocksInValue.
Stock: Godfreys (GFY)*
Share Price: $0.72
FY1 Value: $1.44
Value/Price Ratio: 100%
Comments:

  • One of Australia’s largest vacuum cleaner developers and marketers with an 80 year history and a strong brand.
  • Floated in December 2014 with expectations of accelerating growth due product innovation, new stores and franchise conversion. Analysts were forecasting double digit growth vs ~4-5% industry growth, however the stock was heavily downgraded this financial year due to negative like-for-like sales growth, which was -5.2% for 1H16 and -9.7% for FY16.
  • FY16 earnings of $9.2m in-line with guidance, and down from FY15 earnings of $12.9m.
  • The attributed the poor performance to a failure to adapt to what they said was an abrupt market shift toward stick vacuums, which experienced 12 month sales growth of 60%. Dyson dominates this segment with over two thirds of sales.
  • Godfreys is the traditional bagged barrel and robots leader, whilst Dyson is dominant in the faster-growing and more innovative bagless and stick vacuum segments. After the expiry of Dysons patent on bagless vacuums in 2013 GFY’s focus has been on these products.
  • These issues came to a head in January when GFY’s board appointed retail veteran Kathy Cocovski as CEO, replacing Tom Krulis, who was made responsible for international operations and product development. However on 6 July Cocovski resigned with non-executive director John Hardy installed as interim Managing Director.
  • Over the course of the year management has adjusted the product portfolio to address industry trends. The corresponding inventory build contributed to weak FY16 operating cashflow of $6.7m.
  • Net debt has increased to $21.5m, up from $17.6m. This is around one times consensus FY17 EBITDA of $17m.
  • GFY’s recent poor sales performance could simply be mix issues, but we aren’t inclined to give the company the benefit of the doubt. GFY needs to turnaround to rerate, and this is uncertain. The company indictaed it would add at least 5 stores to its 222 store network in FY17, however it needs to fix its offering.


Stock:
Donaco International Ltd (DNA)*
Share Price: $0.47
FY1 Value: $0.61
Value/Price Ratio: 30%
Comments:

  • South East Asian casino resorts operator with a 2-year listed history.
  • Operates Star Vegas Resort & Club, the largest casino in the Cambodian city of Poipet, on the border with Thaliand, and Aristo in Northern Vietnam and located near the border of Yunnan Province of China.
  • Star drives three quarters of operating earnings and Aristo the remainder.
  • Similar to Macau but on a smaller scale the Casinos mainly service customers from Thailand and China, where gambling is prohibited.
  • Demand appears to be strong with gaming revenues tracking ahead of expectations. Headline FY16 earnings of $79m largely reflected a $55m gain on bargain purchase and $11m of acquisition costs related to the Star Vegas acquisition. Adjusting for these items underlying earnings was $35m.
  • Cash flow from operations was strong at $48m
  • Strong growth is expected with consensus earnings increasing to $58m in FY17 and $80m in FY18.
  • Strong balance sheet allows further acquisitions
  • Key risks are the unstable regulatory environments in South East Asia and DNA’s short listed history.
  • Shares are cheap reflecting these risks and perhaps scepticism of reported figures for a company with operations outside Australia.