I spent the last week dissecting The Intelligent Investor, the seminal book on value investing. Along the way, I talked about the Graham number as a means of valuation when it comes to stocks. The formula is pretty straightforward: Multiply earnings per share by book value per share, then multiply that by 22.5, and finally take the square root. The result, in dollars, is the Graham number.
However, a quick check can help determine whether or not a company might be worthy of a look using the teachings of Graham. He said that in an ideal situation, the P/E ratio and P/B ratio multiplied together should not exceed 22.5, with a maximum P/E ratio of 15 and P/B of 1.5. With that in mind, I screened the stocks of the S&P 500 that met those requirements and was presented with 56 companies. I will be making a CAPScall on most of these companies after comparing them to competitors and their current value in relation to their Graham numbers. Up first will be industrial manufacturer Corning (NYSE: GLW).
What does the company do?
Corning primarily makes industrial-grade glass for use in electronics. For example, Corning's Gorilla Glass is used to make the screens in many tablets and smartphones. The company also makes the glass that is used on LCD televisions, selling it to companies like AU Optronics (NYSE: AUO) and LG Display (NYSE: LPL), though that business might be stagnating a bit. Supply problems led the glassmaker to cut production capacity by 25% last year, affecting the overall performance of the stock.
It's not all bad news. The problems of 2011 pushed the share price down, which in turn caused the company's yield to exceed 2%. Fool analyst Anand Chokkavelu identified the stock as a top buy in October, projecting $7 billion in free cash flow by 2014. Mutual fund manager Donald Yacktman, buoyed by the prospects of the company, recently added more shares to his mutual fund that has returned 175% over the past decade.
What's it worth?
It's hard to compare Corning with many of its direct competitors because it is the only one that is profitable, primarily due to its product reach beyond LCD television screens. Corning customers AU Optronics and LG Display both showed losses during the past 12 months, making it impossible to calculate their Graham number. Universal Display (Nasdaq: PANL) also experienced a loss, and despite positive quarterly results, slid as much as 11% this morning amid concerns over payments from primary customer Samsung.
All that said, after crunching the numbers, I came up with a Graham number over $23 for Corning, nearly twice what it is currently trading at. Based on this, as well as the positive factors mentioned above, I will be placing a "thumbs-up" on my CAPS page in order to track this call and keep myself accountable. I will also be adding Corning to My Watchlist in order to keep up to date on any developing news.
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