One has to imagine that with the stock market riding its recent high, it will eventually lose a little steam. If that's the case, then perhaps the best chance for investors to generate returns going forward is to find stocks that are still trading at cheap valuations today. While there is no guarantee that they will make huge gains, it certainly helps your chances of generating market-beating returns.
Three such companies are solar panel manufacturer SunPower (SPWR -2.27%), domestic airline Southwest Airlines (LUV -1.03%), and telecommunications giant AT&T (T 1.94%). Here's a quick look at why each looks like a decent buy today.
Image source: Getty Images.
A victim of a tough year ahead
The solar industry is much more cyclical than many investors realize. Sure, news stories almost always focus on costs declining and installation rates growing at a breakneck pace. Here's the thing for solar panel manufacturers, though: They are spending decent chunks of capital on building out new production capacity and revamping production lines to builder newer, more efficient panels. When that demand growth hits a rough patch and all that expanded capacity hits the market, it can quickly lower prices on panels and impact the bottom line.
Image source: Getty Images.
Well, it looks like we are headed for one of those in 2017. Just about every solar panel manufacturer is guiding for much lower revenue next year. Many developers were anticipating government tax incentives to expire at the end of this year, so they planned to wrap up projects by the end of 2016. While the tax incentives have been extended, we're not expected to see the impact of that decision until 2018 as developers need time to bid for new projects.
This backdrop is why shares of SunPower and just about every solar panel manufacturer have struggled so much this past year. SunPower has been hit particularly hard. Its stock is down 76% year to date and currently trades at 0.8 times tangible book value.
As bad as the next year or so may be for the solar industry, it is still growing at a rapid clip. It also helps that more than 50% of SunPower's stock is owned by French oil giant Total. Total has said that it plans to spend about $500 million annually on alternative energy investments, and much of that is related to projects SunPower develops. If investors can stomach a year or two of miserable results, this is looking like a good time to add SunPower to their buy list.
An industry that has turned over a new leaf?
Airlines have been the butt of jokes for investors for years as they have consistently been a place where capital goes to die. The fast growth rate for the industry coupled with the huge capital spending needs to fuel that growth have led to multiple bankruptcies when the industry hits turbulence. It seems, however, that the industry isn't what is once was as Warren Buffett, a longtime skeptic of airlines as an investment, has added positions in several carriers to the Berkshire Hathaway portfolio including Southwest Airlines.
Image source: The Motley Fool.
Many players in the industry have gotten wise to the issues that have plagued them in the past, and today they are focused more on tempered growth rates and generating consistent returns. One company that has shown the ability to do this for years is Southwest Airlines. The company has consistently generated the best returns on capital employed in the business as well as keeping a much more modest balance sheet that means more free cash flow available for shareholders.
As you might expect with a company that consistently produces the best returns, shares of Southwest Airlines trade at a premium to most of its peers. That being said, shares still trade for a modest enterprise value-to-EBITDA ratio of 5.4 times. For a company that has recently received the Berkshire blessing and one that is poised for big gains over the next few years as it winds down a major capital program, Southwest Airlines stock looks to be selling at a decent discount.
Deal or no deal, AT&T still looks cheap
A lot of the attention AT&T gets today is because of the company's proposed $84 billion acquisition of Time Warner (TWX). The acquisition has the potential to turn it into a telecommunications and media giant that will be able to provide customers with very unique offerings. Time Warner's valuable assets such as HBO and Warner Bros Studios could give AT&T the ability to bundle content with its distribution channels. That would give the company huge competitive advantages over both newer content and internet service providers looking to disrupt the big players in the industry.
Some on Wall Street don't seem too keen on this plan as the company's stock trades at a middle-of-the-road enterprise value-to-EBITDA ratio of 7.1 times. At that ratio, it appears that the market doesn't think the Time Warner deal is a slam dunk. It is certainly possible that the merger won't happen and that acquiring Time Warner won't produce the anticipated cross-product opportunities. If this deal doesn't pan out, though, it isn't necessarily a company killer for AT&T.
Image source: AT&T.
One thing to keep in mind is that the company as it stands today generates loads of free cash flow. Over the past 12 months, it has generated $16 billion in free cash flow. That robust cash stream is part of the reason why management believes it can get its net debt-to-EBITDA levels to the 2.5 times range in 2018 if the Time Warner deal goes through. It's also worth noting that data usage is expected to more than triple between now and 2020, which suggests that AT&T's subscriber base will be an even larger cash engine to support the company regardless of the outcome of the Time Warner deal.
If you are looking for reliable dividend investment selling for a decently cheap price, then AT&T needs to be on your list. The telecom giant has a long-standing reputation for rewarding shareholders with 31 straight years of dividend increases. Today's valuation looks like a decent price to pay for that kind of quality business almost regardless of the big acquisition.
