"Overpriced." "Too expensive." A "bubble about to burst." These are just a few of the terms people have been using to describe the red-hot stock market lately. And they've got a point: The S&P 500 and the NASDAQ Composite are both at record highs...and at lofty valuations.
But value hunters shouldn't despair. Even in an overvalued market, there are bargains to be found. We asked three of our Motley Fool contributors what stocks they think are ridiculously cheap right now. They came back with Darling Ingredients (DAR -1.30%), Owens-Corning (OC 2.10%), and Arcosa (ACA 0.83%). Here's why they think these picks are great bargains today.
Image source: Getty Images.
The future of recycling is recycling everything
John Bromels (Darling Ingredients): Darling isn't the kind of recycling company you're probably picturing. It doesn't collect aluminum cans and used plastic bottles from green bins. Instead, Darling recycles waste animal proteins and fats into usable products.
Those fats and proteins come from all kinds of crazy places: restaurant grease traps and deep fryers, bakery scrap bins, dairies, and slaughterhouses, among others. Similarly, the products Darling refines from these castoff materials -- including gelatin, grease, and meal -- are used in livestock feed, agriculture, food processing, and manufacturing.
Sound boring? It is. The most exciting part of Darling's portfolio of businesses is its Diamond Green Diesel joint venture with Valero, which adds biofuel to the list of organic products Darling refines. It's just a small part of the portfolio right now, but it's rapidly growing. During the first half of this year, Darling's share of Diamond Green Diesel's earnings was $161.3 million, up 158.5% from the first six months of 2019.
Despite outperforming expectations during the pandemic, Darling currently trades at less than 13 times earnings, near an all-time low. That's ridiculously cheap for this growing company focused on sustainability.
Building value from building materials
Lee Samaha (Owens Corning): By any measure, stock in building materials company Owens Corning is a good value. Moreover, the company has good growth prospects in the coming years. Starting with valuation matters, you can see below how the stock trades on just 12.6 times its current free cash flow and below nine times its forward earnings before interest, tax, depreciation, and amortization, or EBITDA.
Data by YCharts
The company generates profit from three segments, and they all have good growth prospects.
Data source: Owens Corning presentations.
Around 84% of demand for roofing materials comes from the U.S. residential repair and remodel market. Roofing remodeling tends to have solid underlying demand -- it's hard to live in house that's leaking water -- but the roofing segment's revenue/earnings can fluctuate from year to year as a result of the impact of storms.
The company's glass fiber composites segment is cyclically aligned to the global industrial economy and it's undoubtedly going to take a big hit from the coronavirus pandemic -- composites sales were down 26% in the second quarter. But growth should return as the construction and transportation markets open up again. Moreover, there's a long-term opportunity for glass fiber to replace heavier and weaker materials like aluminum, wood, and steel.
Finally, the insulation segment's demand is driven by a combination of international commercial and industrial activity and U.S. commercial and residential demand. While roofing demand is largely driven by U.S. remodeling and repair activity, around 26% of Owens Corning's insulation demand comes from U.S. residential new construction, and that's something likely to receive a boost as long as low interest rates continue to strengthen U.S. housing starts.
All told, Owens Corning is a company that's fully recovered from the tumult of the last housing crisis and looks set to continue generating around $600 million to $700 million in free cash flow annually over the next few years. That's a lot for a company with a market cap of just $7.53 billion.
Strengthen your portfolio with a bargain-bin infrastructure stock
Scott Levine (Arcosa): Whether you stretched the pursestrings on ice cream and other goodies this summer or you simply enjoy digging into the discount rack, Arcosa is a name that should be on your radar if you are interested in stocks that are trading at a discount.
With an operating history that spans more than 85 years, Arcosa is an infrastructure-oriented business that offers products and solutions to three main markets: construction, energy, and transportation. Investors can therefore rest assured that the company has experience weathering economic downturns such as the one we're in now. And while the company may face headwinds in one sector, its diverse exposure to other markets mitigates its risk.
Proving that investors will be picking up shares of an attractive company that belies its inexpensive price tag, the company recently reported strong Q2 2020 earnings. For one, Arcosa strengthened its balance sheet in Q2, ending the quarter with $108 million in net debt, representing a 31% quarter-over-quarter decrease. This translates to a conservative net debt-to-EBITDA ratio of 0.4, illustrating how the company is not overly reliant on leverage.
Turning to the cash flow statement, investors will find another example of the company's financial health -- strong cash flow generation. In Q2, Arcosa reported free cash flow of $56 million compared to free cash flow of negative $5 million during the same period last year, reflecting management's concerted effort to improve the company's cash flow.
Addressing how the company's financial fortitude will help the company's growth, Antonio Carrillo, Arcosa's president and CEO, stated on the Q2 2020 conference call, "As we move forward, our goal is to continue to utilize our balance sheet strength and allocate our strong cash flow generation on projects that allow us to grow in attractive markets, reduce our cyclicality, and improve our return on invested capital."
Currently, shares are changing hands at 6.6 times operating cash flow -- notably lower than their multiples of 9.8 and 9.2, which they had in 2019 and 2018, respectively. While I usually prefer to assess a stock's price tag in terms of its operating cash flow ratio by comparing it to its five-year average multiple, in the case of Arcosa, this is impossible because the stock has only been available to investors since its separation from Trinity Industries in 2018. And that's not the only indication that Arcosa is inexpensively valued. Shares are trading at 1.2 times sales, significantly lower than the 2.5 multiple of the S&P 500.
