Investors eye market dogs

Peter V O'Brien

Friday 30th January 2004

The search for undervalued or low-priced stocks will intensify this year if market indices rise and investors decide prices for major companies have fully discounted their earnings potential.

It is emphasised that "undervalued" and "low priced" are not interchangeable terms.

A stock can be undervalued, although selling at a high unit price, and another can be overvalued or fairly valued when priced at a few cents.

The NZSX list had 23 stocks selling for less than 30c Monday and the NZAX accounted for another two.

There were 17 companies with shares similarly priced six months ago.

The net number of "low-priced" shares therefore increased from 17 to 21 between July and January, after taking out two that came to market in the period.

Analysis of their activities showed (as with all examinations of low-priced shares) that most were technology-related, taking a broad definition of "technology" to include those involved in biotechnology and others reliant on providing computer-based products to industries and service companies. Telecommunications products come into the latter category.

It was noticeable in both July and January that all companies with share prices less than 30c lacked the profitability and cash flow to pay dividends.

Previous discussions of lower priced shares (also known less politely as "penny-dreadfuls" or "dogs" in The National Business Review noted there could be a shock for investors if a couple of them came through and obtained profitability commensurate with their funds.

Such a comment could apply to meat processor Affco Holdings, priced at 21c on Monday. The stock ranged between 26c and 16.5c over the past 12 months. Affco's profit record has been notorious for substantial swings between large losses, large profits and later descents into large losses again.

Investors are unlikely to re-rate the stock until the company moves to sustainable profitability and restores dividends.

That could happen within a reasonable time, at which point Affco's shares would move quickly beyond the current level.

Buying the stock for recovery requires strong nerve and the patience to hold for what could be a fairly long time.

Stocks priced under 30c accounted for about 10% of the lists on Monday. Most seem likely to be depressed for most of the year. The next group, priced between 30c and $1, could contain better bets for investors seeking relatively low prices (ignoring price/earnings multiple for the moment) and undervaluation (which must consider p/e figures).

Shares in 25 listed companies were between 30c and $1 on Monday. Some would be considered well priced but others were worth a look, particularly those with high gross dividend yields relative to the rest of the list.

The NZSX list accounted for 22 of the 25. They were Air New Zealand, AMP NZ Office Trust, BIL International, Broadway Industries, Calan Healthcare Properties Trust, CDL Hotels, CDL Investments, Designer Textiles, Evergreen Forests, 42 Below, Mr Chips Holdings, National Property Trust, New Zealand Experience, Property for Industry, Provenco Group, Renaissance Corporation, Richina Pacific, Rubicon, Trans Tasman Properties, Urbus Properties, Utilico International and Wellington Drive Technologies.

The three NZAX list companies were Caci Group, Smiths City Group and Wool Equities.

Astute readers will have counted seven property companies among the 25.

The market's pricing of property investment companies close to their net asset backing and in relation to gross dividend yields accounted for that situation.

Every investor knows property groups pay out nearly all their profit in dividends, because they have no need to retain it.

Rents take care of expenses, revaluations are part of the mix for rents reviews and debt and capital funds pay for the purchase of new properties, which are capital assets.

Several other companies among the 25 would be attractive for people wanting to stay clear of the volatility associated with large, relatively high-priced stocks, which dominate the market and the portfolios of local and international institutional funds.

Market leaders accounted for much of the indices' strong runs in January but it is doubtful they will be in similar positions when price movements for the whole of 2004 are calculated in December.

It is equally doubtful many, if any, of the sub-30c would have made an impression on equity investment over the year.

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