In the spirit of March Madness, the Fool's Research & Analysis group has compiled a team of its five best stock ideas -- our All-Stars. We scoured the market looking for all the qualities that make up a great team: strength, speed, intelligence, versatility, and reliability. The result is a formidable group of stocks that would be the envy of any coach (or portfolio manager).
So without further ado, here is the starting lineup for our "All-Star" stock team.
Point Guard:
Fox Hollow Technologies
By Charly Travers
The point guard is usually a small, agile player with great vision. For this role, I've chosen Fox Hollow, a superb medical-device company with a very strong product. The company's SilverHawk System is an FDA-approved device for removing plaques from a patient's blood vessels. These plaques are a major medical problem, since they are essentially clogs that obstruct blood flow. In severe cases, a person can need limb amputation if the plaque is not removed.
The SilverHawk is an important non-invasive tool for getting these plaques out and allowing normal blood flow to resume. It's certainly preferable to amputation or bypass surgery. How well has it done?
Since the device's approval in 2003, sales have skyrocketed. The 2005 sales of $128 million were up 232% over 2004. 2006 is poised to be another strong year, with sales expected to surpass $200 million.
Fox Hollow's founder and point guard is superstar inventor and entrepreneur John Simpson, M.D., Ph.D. Dr. Simpson has an excellent track record; several of his prior firms were acquired by companies like Abbott Laboratories, Eli Lilly
Shooting Guard: Nike
By David Meier
A consistent shooting guard can turn a good team into a great team. Not only can he score points, but he can create space inside for forwards and centers to work.
The same is true for your portfolio -- a consistent performer can provide an anchor for your returns.
Few companies have been as consistent as Nike in creating shareholder value. For the past five years, Nike's gross margins and operating margins have steadily increased. As a result, its average return on capital continues to rise. That means Nike creates additional value with each incremental sale.
Today, Nike is trading at a relatively good price to the market. With a current P/E of 17, expectations for 15% earnings growth, and a yield of 1.5%, Nike's very productive for the price you'd pay today.
Small Forward:
BB&T
By Joey Khattab
Like the shooting guard, the small forward must deliver results week in and week out. Southeast regional bank BB&T has been rewarding shareholders consistently throughout its 100-year history. It has paid a cash dividend since 1903 and increased its dividend for the past 34 years. BB&T's total return for the past 10 years has surpassed the S&P 500's, not to mention that of competitors Wachovia and Suntrust.
With more than 1,400 branches, BB&T has substantial market share in Virginia, Washington, D.C., the Carolinas, West Virginia, and Kentucky. Recently, it has been increasing its presence in growing markets such as Atlanta and Tennessee through acquisitions. BB&T is also growing its insurance, wealth management, and investment banking revenues, all of which are important supplements to traditional banking activities. The company's performance ratios, such as return on equity and return on assets, match up well relative to competitors.
My discounted cash flow calculation shows that BB&T could be as much as 15% undervalued. Combined with a dividend yield of almost 4%, you have a solid investment in a leading bank. Besides, when even ultra-value hounds like Stephen Simpson are giving BB&T a look, you know it's an asset to any team.
Power Forward: EchoStar Communications
By Shruti Basavaraj
Every All-Star team needs heart, and an aggressive power forward can provide the spark to get a team going. EchoStar Communications does just that. The satellite television provider has been a fierce competitor to better-known media giants such as Comcast
EchoStar's business has been on the fast track for the past few years. The company's margins are increasing, and after a period of rockiness, free cash flow has been climbing since 2002. EchoStar has also been increasing its return on capital during the past five years, with the trailing 12 months' value at 26%, well above DirecTV's 5.5%. In addition, the company averaged 28% annual revenue growth over the past five years. That's phenomenal for this sector -- DirecTV's growth is only 13%, and Comcast's is 22%.
Although the company has a sizeable debt burden, its EBITDA-to-interest expense ratio is a solid 4.4. EchoStar should be able to meet its debt and interest obligations going forward.
In terms of valuation, the market has largely ignored EchoStar in favor of its larger and more diverse competitors. The company trades for a trailing-12-month P/E of 10, compared to analysts' expected growth rates of 22% over the long term. And growth could be even higher than expected. EchoStar has a 44% market share in this industry, just slightly behind DirecTV. But as EchoStar continues to grow its subscriber base through increased demographic reach and partnerships with established companies, it's looking like a power forward that will bring any team to victory.
Center:
Wal-Mart
By Mike Olsen
The big guy in the paint has to be the backbone of the team. In this case, it's Wal-Mart. You may remember all the talk of Wal-Mart's merchandising problems, employee health-care issues, and declines in product quality. Well, forget all that.
Here's why: Wal-Mart's current valuation (based on an adjusted cash flow assumption) assumes about 11% to 12% cash flow growth for the next 20 years, after accounting for share repurchases. While that might be reasonable, there's more to the puzzle. Asia offers an essentially untapped market, with more than 1 billion total customers. Remember, the bulk of Wal-Mart's sales currently come from the U.S., on a population base of just 300 million.
Wal-Mart needs to grow its cash flow to 10 times my adjusted number (its current cash flow) to justify its valuation. That should happen. Wal-Mart's capital expenditures have mostly gone toward opening new locations. Once that expansion comes home to roost, and capital expenditures dwindle, the logical outcome is lots of cash -- probably more cash than we'd expect.
Still not convinced? Today, my discounted cash flow model of Wal-Mart -- net of any future expansion and the associated costs and accompanying growth -- values shares at about $50. In other words, you can get the backbone of your team at a 10% discount. Not a bad price to pay.
Foolish bottom line
Just like every basketball team needs its key players, every portfolio needs its essential stocks.
Building a high-return portfolio is the same as building a great team -- you need strong underlying fundamentals with the potential to grow and increase value for the owners. If you're looking for more great ideas on how to build a better portfolio, take a look at the Motley Fool Stock Advisor newsletter. Fool co-founders David and Tom Gardner provide stock recommendations each month, along with updates and explanations for past picks. The heat of competition drives stock-pickers as well as basketball teams, leading this newsletter to a 59 percentage point victory over the S&P since its inception.
Let the games begin. Take your free guest pass today.
Be sure to check back tomorrow for the Fool's 2006 Stock Madness tournament.
The members of the Motley Fool Research & Analysis team who contributed to this article are Charly Travers, David Meier, Joey Khattab, Shruti Basavaraj, and Mike Olsen. David Meier owns shares of Nike. Mike Olsen owns shares of Wal-Mart. The Fool has a strict disclosure policy.
