Half the Normal Price

Jon is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Recently I wrote an article where I referenced, among other things, Apple's extremely low price to earnings ratio.  Apple's price to earnings is half that of the average for the technology sector.  This got me thinking: What other companies in the tech sector trade for less than half of the industry average?

The current price to earnings ratio average for the technology sector is 22.60*.  There are several companies that trade for half that, but I've only included five in this article.  The five companies I have chosen are:

  1. Seagate Technology (NASDAQ: STX)
  2. Western Digital (NASDAQ: WDC)
  3. Nippon Telegraph and Telephone (NYSE: NTT)
  4. Corning (NYSE: GLW)

In this article I'm asking myself two things.  One: Why are these companies trading for half the "normal" price?  Two: Which of these companies presents the best value investing opportunity?

*As of 1-21-13

A bird's eye view

I want to take a moment right here at the beginning and look at some basic things to see where these stocks stand. 

<table> <tbody> <tr> <td><strong>Company</strong></td> <td><strong>Market Cap</strong></td> <td><strong>P/E Ratio</strong></td> <td><strong>Forward P/E</strong></td> <td><strong>Dividend/Yield</strong></td> <td><strong>Profit Margin</strong></td> </tr> <tr> <td>Seagate Tech</td> <td>$13.36 Billion</td> <td>4.66</td> <td>6.31</td> <td>$1.52/4.3%</td> <td>20.83%</td> </tr> <tr> <td>Western Digital</td> <td>$10.92 Billion</td> <td>5.89</td> <td>5.79</td> <td>$1.00/2.2%</td> <td>13.69%</td> </tr> <tr> <td>Nippon</td> <td>$51.75 Billion</td> <td>8.89</td> <td>7.06</td> <td>$0.81/3.8%</td> <td>4.39%</td> </tr> <tr> <td>Corning</td> <td>$17.88 Billion</td> <td>9.62</td> <td>9.1</td> <td>$0.36/3.0%</td> <td>24.97%</td> </tr> <tr> <td>NTT DOCOMO</td> <td>$60.96 Billion</td> <td>10.64</td> <td>9.48</td> <td>$0.65/4.5%</td> <td>10.4%</td> </tr> </tbody> </table>

I've included the forward P/E for these companies because I want to know if the ratio is just low right now. For example, while I love the company, Krispy Kreme's P/E ratio is currently around 5.  However this is artificially low due to deferred taxes.  Forward P/E gives a better picture as we see the ratio jump up to around 21.  In the case of the companies that we are looking at right now, all except Seagate Technology have ratios that are falling.  And even Seagate's isn't rising that much.  This indicates to me that there's no situational reason, like Krispy Kreme, to account for why these ratios are as low as they are.

All five companies are large cap companies and provide a decent dividend.

What is the trend?

The above statistics give us a pretty static view of these companies.  I'm interested in which way these companies are headed.  One way we can try to get an idea of this is by looking at the trends over the last five years.

<img src="http://media.ycharts.com/charts/2ffdec6dc1f0f79e5eabc80972354736.png" />

data by YCharts

All five companies have had their ups and downs as far as revenue.  But over the past five years, all five companies have been trending upwards.  Western Digital had a monster 2012 to put them at the top of this list.  Seagate also had a good 2012.  The most steady upward trends belong to Nippon and NTT DOMOCO. 

<img src="http://media.ycharts.com/charts/bf676af66328df2f51cb93980cc6c05c.png" />

data by YCharts

Both Seagate and Western Digital have been trending upwards in free cash flow, with Seagate having a blast-off year in 2012.  Corning, over the past five years, is also up in this category.  Our final two companies, Nippon and NTT DOMOCO, have been trending downwards.

<img src="http://media.ycharts.com/charts/20e938a2978960f9d24d3b2580fbe5bb.png" />

data by YCharts

Long term debt is an important metric for me.  I like to know how strapped a company is.  It's my belief that the amount of debt a company has greatly influences the choices that they make, and how creative they are willing to be as a business.  My immediate favorite here is NTT DOMOCO for paying down debt.  For the same reason Western Digital looks less appealing to me. 

Just based on the things that we have seen, all five seem like ok investments.  Each company has some things to like.  Each also has certain cautions to make an investor think twice.  But no obvious reason arises to account for these low valuations.

So what gives? 

When it comes to Seagate Technology and Westen Digital, a big concern right now among investors is the historical shift that is still occurring from desktops and laptops to tablet computers and smart phones.  The former use hard drives; the kind that these companies make.  The latter use solid state drives.  This has investors rattled.  Some go as far to say that hard drives will become obsolete as the trend continues towards solid state.  That is not likely to happen, but one must concede the difficulties these two companies will face in growing the businesses from here with the current product lineups.

Others will point to the possibility that both of these companies have to adapt.  They could continue to offer hard drives, but also begin offering more things to take advantage of the shift towards tablets.  Though possible, and I believe likely, it is also speculative.  The future is unclear for these companies.  However, the extremely low valuation perhaps makes the investment, with the hope of greater upside, worth it.

Moving on to Nippon and DOCOMO.  Both of these businesses (actually they're the same company) operate in Japan.  I love the island nation as much as anyone else, but it's important to note that both Nippon and DOCOMO are starting to face some pretty stiff competition.  This might be keeping potential investors away and therefore keeping the valuation low.  But the good dividends might be enough to entice investors who would otherwise be leery of what the future holds.

The value winner?

Does Corning present a great value here?  In another article of mine I discussed how this company has managed to stay relevant for 160 years.  They've manufactured everything from kitchenware to telescopes; windshields to even Thomas Edison's light bulb.  Every time you say "Oh, that industry is dying..." Corning is able to jump right into something new and relevant.  The Gorilla Glass they manufacture is just one of the latest things in a long history of adaptation.

What we see with this stock is stability.  This isn't necessarily a big growth stock.  But to me, the low valuation and the 3% dividend make this stock a great value given their proven track record.  

If the 3% dividend isn't enough for you, you could increase your earnings using options.  Corning is a fantastic example of an investment where selling covered calls makes a lot of sense.  Currently, $15 call options for January 18th 2014 are going for $0.41, or 3.3%.  That would make for a sweeter return if the 3% dividend isn't enough.

To me, Corning is the safest and best value here.  You get a great company for half the industry average.

thequast has no position in any stocks mentioned. The Motley Fool recommends Corning. The Motley Fool owns shares of Corning and Western Digital.. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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