Don’t look now, but the stock market is pushing toward an all-time high once again. After panic-selling took over at the end of 2018, stocks have roared back this year, and the first quarter was one of the best ever for the S&P 500, with a 13% jump in the first three months of the year.
While a double-digit gain to start the year is certainly good news for investors, it’s not always a welcome sign for value-stock aficionados on the hunt for bargains. Even Warren Buffett himself has bemoaned the lack of reasonably priced companies on the market these days.
Luckily, there are still a few smart bets available for value investors if you know where to look. Keep reading to see why our contributors recommend Allergan (NYSE:AGN), CVS Health (NYSE:CVS), and Macy’s (NYSE:M).
Lots of headwinds, but it’s not all bad news for this biopharma
Todd Campbell (Allergan): A company’s price-to-book value can help you identify cheap stocks. One of the cheapest big-cap companies out there using this metric is Allergan, a global biopharma giant best known for aesthetics treatment Botox.
Allergan’s shares have taken a drubbing since Pfizer (NYSE:PFE) abandoned its $160 billion merger plans in 2016 because of changes in rules regarding deals designed to skirt U.S. corporate taxes. Allergan’s shares are trading at about half what they were back in 2015, and as a result, its price-to-book ratio is a measly 0.76. Earlier this year, the ratio was 0.68, the lowest in its history.
The ongoing sell-off reflects how Allergan has struggled to differentiate itself from its biopharma peers. Rather than boosting R&D, it relied heavily on acquisitions in the past to fuel growth and that caused its debt to skyrocket. After acquiring Actavis in 2015, its debt totaled over $40 billion. Even after selling its generics business to Teva Pharmaceutical (NYSE:TEVA) for $34 billion and 100 million Teva shares that it’s since sold, debt remains nearly $24 billion, costing it over $900 million in interest per year.
Even worse, an absence of new products has contributed to shrinking sales and profit, especially in the wake of pushback against increasing prices on its existing products. In Q4, revenue declined 5.7% year over year to $4.1 billion and adjusted earnings per share fell 11.7% year over year to $4.29.
The company’s path back to growth isn’t very clear, either. Botox is its best seller, but it faces new competition from a similar treatment for frown lines made by Evolus, threatening hundreds of millions in sales. Also, a once-promising depression drug failed in late-stage studies in March, dealing a blow to its pipeline. Clearly, Allergan’s shares have fallen for good reason.
Yet there could be value worth buying here. Allergan produced over $5.7 billion in net income in 2018 and in 2019, and it’s guiding for adjusted EPS of $16.36. A new $2 billion share buyback could put a floor under its share price over the next 12 months. Also, a new migraine drug could get FDA approval in about 10 months, and an application for a new treatment for wet age-related macular degeneration could get filed with the FDA soon. In addition to all that, there’s data for a treatment for non-alcoholic steteohepatitis expected in 2020 that could help spark investor interest, making Allergan a potential bargain-bin buy.
A forward P/E of 7? No, seriously!
Sean Williams (CVS Health): There’s cheap, and then there’s absurdly cheap — which perfectly describes CVS Health, the largest pharmacy chain in the United States.
In recent years, CVS Health’s stock has been under pressure as new entrants have moved into the pharmacy space (e.g., Amazon.com (NASDAQ:AMZN)), competition has picked up from Walgreens Boots Alliance (NASDAQ:WBA), and there’s the continued chance that Washington will come to an agreement on prescription-drug reform that will reduce prices and limit pharmacy margins. Since front-end margins are traditionally razor-thin, pharmacy margins are of the utmost importance for CVS Health.
However, Capitol Hill is highly polarized and hasn’t been able to come to an agreement on prescription-drug reform, or much of anything concerning healthcare, for years, despite the fact that it supposedly remains a priority. That suggests that prescription-drug reform is nothing more than a campaign ploy, with no real change on the horizon.
Meanwhile, change is happening with CVS. The company completed a $70 billion acquisition of health insurer Aetna that gives CVS a triple-threat opportunity to improve its business. First, Aetna offers stronger organic growth than CVS’s core operations. Second, the combination of the two companies should result in up to $750 million in cost synergies by 2020. And third, it brings 23 million insured members into the fold that CVS Health could keep within its pharmacy universe, thereby boosting customer loyalty.
Let’s not also forget that the pharmacy business is a numbers game, and the numbers are very much on CVS Health’s side. Boomers are retiring in ever-greater numbers, and an aging population is liable to need prescriptions medicines to remain healthy. The long-term thesis on CVS Health is as strong as ever.
Trading at only 7.4 times forward earnings and a mere 20% higher than book value, it’s been a long time since CVS Health was this cheap.
An asset play disguised as a retailer
Jeremy Bowman (Macy’s): Department stores have become anathema to investors, and it’s easy to see why. Bon-Ton Stores has gone bye-bye. Sears is currently trying to rise from the dead, and J.C. Penney has been flirting with disaster for years.
As an age-old department-store chain, Macy’s may have some things in common with these names, but the company is much more than that. First off, comparable sales are growing, and it’s handily profitable. The company saw comps rise 1.7% last year and generated adjusted net income of $1.3 billion, or $4.18 on a per-share basis, giving it a P/E ratio of just 6 today. If that weren’t enough to entice value investors, the stock also offers a dividend yield of a 6.1%, and its payout is well funded, with a payout ratio of less than 50%. Macy’s has also been wisely paying down debt, reducing its debt burden by about 40% to $4.7 billion over the past three years, which has cut interest expense and strengthened its balance sheet.
However, the biggest reason for value investors to consider Macy’s is its treasure trove of real estate. It owns flagship stores in the downtown metropolises of New York, Chicago, and San Francisco, and its real estate portfolio was at one point estimated to be worth $21 billion by Starboard Value. Even if that number is inflated, the real sum is probably significantly higher than the company’s current market cap of $7.8 billion. Macy’s has begun unwinding some of its property, raking in $287 million in after-tax asset sale gains last year, which are included in the net income total, and $338 million the year before. Though Macy’s has only guided to $100 million in asset sales this year, there are now rumblings that it could unlock some of the value in the upper floors of its Herald Square flagship store, a property once estimated at $4 billion and by far its most valuable.
Even if Macy’s doesn’t tap into that revenue stream now, it’s not going away. Combine that with a solidly profitable core business with comparable sales growing and a juicy dividend yield, and you have an appealing opportunity that value investors can sink their teeth into.
